In medieval Europe, citizens stored their armor and weapons in a wooden box in their home to be made ready at a moments notice. They swore an oath to take up arms whenever their lords called upon them in times of need.
Kings and lesser lords literally had chests full of gold, silver, jewels and other valuables to be used in times of great difficulty or for raising an army to defend the land.
These containers were a part of the wealth of the citizens, lords and kings. Kings kept some of their treasury separate from the wealth needed to run the kingdom. It was set aside for war.
The valuables in these war chests would be spent during a crisis such as fending off barbarians at the outer borders or taking advantage of an apparent weakness in a neighboring kingdom. It’s discovered that the lord across the river has borrowed too much money to fund his lavish castle and can’t afford to raise an army. A well-funded king could march upon this weak ruler and take his lands.
Nearly 600 years later and war chest is still used to describe the money set aside for times of crisis or battle. Businesses use it the phrase to describe money they have to acquire other businesses, run aggressive marketing campaigns to seize market share, or to bring products to market to fend off some savage startup that’s shown up in a niche at the edges of their market.
An acquaintance recently asked what he should do with the $10,000 of net profit he had made in his startup. He wanted to invest it in something, anything, that had a higher rate of return than his savings account.
He meant well with this question. Having this money sitting around not making more money would be a waste. But he didn’t understand that he needs a war chest. Nor did he understand that $10,000 isn’t a war chest. It’s more of a skirmish chest.
To him the money seemed like a lot as it took him a long time to earn it — too get past break even. He thought that if he was getting 10% return from it that this would be smart money management. But this ignores the risk — first of the investment losing value and second not having available funds to take advantage of a great opportunity.
Cash on hand allows you to quickly seize an opportunity. You learn that a popular website that covers your industry is strapped for cash and is selling their ad inventory for 50% off, but the ads must be purchased today.
Or a competitor is ready to retire and will sell his business on terms, but needs at least 30% in cash.
If you’re not saving up your net profits in excess of the money you need to operate your business, you won’t be able to move quickly when opportunities present themselves.
In a previous chapter, I covered your Runway, which you need to get your startup going. Your war chest isn’t a part of your Runway, that money is meant to keep you solvent until you reach break even. Most startups can’t afford a war chest so they have to resort to guerrilla tactics to go up against well-funded competitors who have a stronghold in the market.
But once a startup reaches profitability, money must be set aside for those moments, those chinks in the king’s armor that give you huge victories.
Some practical thoughts I have to add to this:
Q: How big should your war chest be?
A: As big as possible, but at least 10% of net profits should be set aside to seize opportunities when they arise. Setting aside 30% of net profits for a war chest would be ideal.
Q: Is the war chest for marketing or operations?
A: No. War chests are for the unpredictable opportunities that show up that if you’re prepared to act upon will generate huge breakthroughs. War chests are not for predictable things such as funding new hires or investing into advertising or paying taxes. Any activity that can be forecasted doesn’t get to tap into the war chest funds.
Q: What kinds of opportunities should I invest my war chest funds into?
A: I don’t know. What I may perceive as a great investment you may think is risky or a distraction from your vision. But I will say that if seizing the opportunity could give you a massive boost in market share, profitability or surpass a major goal then it probably should be seized.
Like in my competitor example, you may find that by buying his company you’ll be able to acquire hundreds, thousands or millions of customers for less than it would cost you in money, but also in time to acquire.
Maybe buying competitors will give you massive market share. Waste Management, Inc started buying up competitors as fast as possible, which allowed the to gain enough market share and capitalization to go public where they became even more aggressive at acquiring smaller competitors.
You may find that the office building you rent is up for sale at a huge discount because the owner is in financial trouble so you buy it and start collecting rents from the other tenants while assuring your rent doesn’t go up. Joe Polish did this with his building.
You may get a client or a vendor who has a fundamentally sound business, but is struggling. You could buy a majority share of the company and turn it around. Watch “The Profit” with Marcus Lemonis for great examples of this.