The health of an organisation depends on its ability to resist shocks and a reserve is a vital part of any sustainability strategy.
Although it may seem like a luxury when organisations are struggling to raise funds or deliver all the projects they want to, a reserve is a critical buffer against an organisation closing down. If things go wrong, if funds cannot be raised, an organisation has some reserves to see it through a difficult funding period. Most organisations should be looking to have cash in reserve, to a minimum amount of 25% of annual operating costs – or 3 months of an annual budget.
The most reliable way to build reserves is by operating at a modest surplus (bringing in more money than you spend) consistently over time. When an organisation operates within a reasonable and balanced budget that includes a bit of leeway (flexibility), operating revenues for the year will exceed operating expenses. The ideal is to ensure that any such surplus is, to the fullest extent possible, unrestricted. Note: if donor funding is restricted any underspends must be reported – and the use of such underspends can usually be negotiated with the donor.
An organisation with no reserves at all could thus plan to build its operating reserve ratio (the reserve as a percentage of your operating budget) to a minimum 25% target over 5 to 6 years of modest surpluses.