Over the last six months, inflation has decreased a significant amount (as of the end of February 2024). This is a big change, compared to the last few years, so it is important for you to understand how your startup should manage the venture dollars that you’ve raised as interest rates potentially continue to go down at a faster rate.
Inflation Is Cooling Down
Right now, we most certainly wouldn’t consider inflation to be low. However, it is getting under control, compared to the heights of inflation in 2022 and 2023 when inflation was going crazy. Now interest rates are beginning to fall a little bit, which has been great for startups and their cash management.
Lower interest rates have meant that startups could put their money into vehicles such as money market funds or treasuries, and banks have been paying much higher yields. In some cases, startups have received up to 5.5% yields, which has been awesome, especially if your startup is sitting on $10 million – that’s over $500,000 you’re getting back every year! That money could cover more headcount, or it’s getting used to extend your runway. That’s a big deal.
Lower Inflation Means Lower Interest Rates
The reason that this decrease in inflation is important is because it brings down interest rates. If interest rates continue to move downward, then we won’t see the same kind of high yield percentage again.
So what do you do when interest rates go down? Well, the first thing to consider is the overarching rule: A startup always wants its funds to be safe and liquid. Being safe means investing in government securities or money market accounts, and being liquid allows you to access your money quickly.
So How Should You Manage Your VC Cash?
With decreasing interest rates, there are a couple of ways you can manage your cash to protect your funds:
- Don’t reach for yield. If you’re faced with short-term interest rates (such as a three- to 12-month timeframe) that start dropping, it will be tempting to ‘reach for yield. This refers to buying longer-dated maturities of, say, two to four years. The issue with doing that is that most startups raise two years’ worth of burn, so you don’t want those funds tied up in three- or four-year securities. We wouldn’t recommend going past a maturity of 9-12 months. Remember we mentioned keeping your funds liquid? People may try and convince you to do so, but you would be at risk of not being able to access your cash for payroll or in an emergency. Just don’t do it.
- Look for money market funds with longer-term underlying securities. This sounds like almost the opposite of what we just told you not to do, but there’s a difference. A money market fund holds a portfolio of securities that the fund’s manager buys and sells. You can look for funds that have some longer-dated holdings in the fund’s underlying securities. They can be a little bit hard to find, since a fund that has a longer maturity needs to be handled carefully, but the yield boost that comes from it will be translated to your startup. But these funds are still money market funds and you can access your money quickly, usually within one to three days.
Work With a Cash Management Professional
We absolutely recommend that you work with a financial institution that knows exactly how to ensure your startup’s safety and liquidity. Remember, you want your funds to be safe and liquid, so it’s a good idea to have someone who understands the process helping you.
If you have any other questions on cash management, startup investing, startup accounting, or taxes, please contact us. You can also follow our YouTube channel and our blog for information about accounting, finance, HR, and taxes for startups!
