This has become a really critical question since interest rates are going up and cash management is becoming even more important.
Banks want you to keep as much cash in their bank as possible, for a couple of reasons:
- Cheap financing. Banks take the cash that you have in your account and loan it out to other borrowers, making your deposits a cheap form of financing for them. The banking business is built on cheap deposits and part of that equation is how slow banks have been to raise the interest rates that they are paying on savings, checking. and even money market accounts. As a result of this, startups are now having to ask their bank to raise the interest rates they are getting paid because interest rates keep going up.
- Risk mitigation. Another reason why banks will want you to keep your cash in their bank is if they are giving you a loan or a letter of credit that you can draw down later. They treat the cash that is already in the bank as a risk mitigation tool. For example, say you get a $2 million loan but you already have $1 million of your cash in the bank. That means they are really only loaning you $1 million. That is their total risk.
Cash in the bank is a very important risk reduction tool for banks and, until interest rates started going up, this wasn’t really a problem since you were earning next to nothing wherever you chose to keep your money.
Other alternatives to basic bank accounts for startups
Again, a year or so ago, alternatives to standard checking and savings accounts weren’t payin much interest either. However, with short-term treasury yields hitting 4%, there is now a real opportunity to make a lot more money. This can be done by utilizing an active cash management company or tool, as opposed to simply sticking your cash in a savings, checking, or money market account. Money market mutual funds (which are different than money market accounts) can provide a higher yield, and since they only invest in short-term government-backed securities, the risk is very low.
Negotiating with your startup bank
This is where we come to the negotiation. As we previously mentioned, conversations between startups and their banks is starting to happen. Companies are going to their startup banks and telling them they only want to keep 50-75% of their cash in the bank, as opposed to 100%.
The banks are responding to this with the caveat that it really depends on how big your loan or letter of credit is. Banks will want a significant amount of cash to stay in the bank, in order to mitigate those loans. They also need that cash to lend to other people or companies, so there is a real negotiation happening.
We are seeing the outcome of these negotiations be anywhere between 50% and 100%. So 100% means all of your cash has to stay in the bank and you can’t take it anywhere else. And 50% means the bank will let you take half of all your cash and keep it somewhere else, because they feel they are still adequately collateralized on the loan they have made you.
Talk to your bank!
Remember, if you have a letter of credit or venture loan with a bank, your term sheet probably specifies where the money must be kept. Please review that before taking any action. If you just transfer your money, you could be violating the terms of your loan! But if you can negotiate with your bank to move some or all of your funds into a higher-yielding vehicle, you could have more money to help with your startup’s expenses.
If you have any questions on cash management, startup investing, startup accounting, taxes, or venture capital please contact us. You can also follow our youtube channel and our blog for information about accounting, finance, HR, and taxes for startups.