Reduce Financial Risk by Conducting a Stress Test for Your Small Business

Ways to Stress Test Your Business

A stress test is a simulation to gauge your financial risk under different economic scenarios. The results can aid your financial planning and let you know where your business is at the greatest risk in the event of economic hard times.

Here are three ways to stress-test your business to stabilize it during unwanted slowdowns.

1. Solicit advice from others

Do you have an advisory board or a brain trust of reliable partners?

SCORE, a nonprofit that is a resource partner of the U.S. Small Business Administration, offers a network of volunteers, including retired C-suite executives, who can help mentor. You can search for a SCORE mentor online or through a local chapter.

2. Plan for worst-case scenarios

One of the more effective ways to prepare for change is to make projections.

Look at what a dramatic budget crunch might do to your business or what would happen if you lost a major client or product. Evaluate how this loss would affect your business and decide how you could trim expenses or diversify your client base before this happens.

3. Review your current ratio or financial cushioning

What kind of cash cushion does your business have?

The first thing you should protect is your current ratio (current assets / current liabilities), which should be at least 2:1. Second, is your days’ cash on hand which should be 30+ days. You can estimate this by dividing annual sales by 365 and then multiplying by 30. Not an exact science, but close enough for most small businesses.

A Road Map For the Future

While it is wise to conduct a stress test at any time, analysts say the best seasons are typically the spring and summer because larger market crashes tend to occur in the fall.

By planning ahead now, you can make informed decisions about decreasing inventory, consolidating debt, cutting payroll, or connecting with new investors. By stress testing your business’s finances and proactively plan, you can mitigate future problems and sleep better each night.

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