What Is Dry Powder?
Dry powder is a slang term referring to marketable securities that are highly liquid and considered cash-like. Dry powder can also refer to cash reserves kept on hand by a company, venture capital firm or individual to cover future obligations, purchase assets or make acquisitions. Securities considered to be dry powder could be Treasuries or other short-term fixed income investment that can be liquidated on short notice in order to provide emergency funding or allow an investor to purchase assets.
Understanding Dry Powder
In its most basic form, dry powder is a term that refers to the amount of cash reserves or liquid assets available for use. These cash reserves or short-term marketable securities are usually kept on hand to cover future obligations that may or may not be foreseen. Therefore, the term dry powder can be used in situations of personal finance, in the corporate environment and in venture capital or private equity investing.
Having dry powder on hand can provide investors with an advantage over others who may be holding less liquid assets. For example, a venture capitalist might decide to hold a substantial strategic amount of cash on hand in order to take advantage of private equity investments that may present themselves for immediate funding. This cash would colloquially be referred to as the venture capitalist's dry powder.
Key Takeaways
- Dry powder refers to cash or marketable securities that are low-risk and highly liquid and convertible to cash.
- Funds held as dry powder are kept in reserve to be deployed in case of emergency.
- The term is often used in terms of venture capitalists, where dry powder allows them to invest in opportunities as they arise.
Dry Powder in the Corporate Environment
When a company refers to its dry powder, it is speaking about the amount of its cash and current assets that can be used to fund working capital needs. If, for example, a company decides to invest almost all of its cash in long-term inventory that cannot be easily sold, it is reducing the amount of dry powder it has on hand. If the economy subsequently takes a downturn, and customers reduce the amount of purchases they make, the company would be stuck with illiquid inventory, but still have monthly operating costs that it needs to pay. In this case, the reduction in dry powder was ill-informed. Companies generally maintain a sufficient amount of dry powder on hand to maintain daily operations.
Dry Powder for Venture Capitalists
Dry powder is a commonly used term in the venture capital and startup world. This is because all venture capitalists want adequate cash on hand to either invest in a new opportunity or provide additional funding to portfolio companies to fuel growth. Therefore, many venture capitalists keep dry powder on hand, choosing to abstain from most investments rather than depleting their capital too quickly.
Dry Powder for Personal Finance
Similarly to corporations and venture capital funds, individuals should keep dry powder in case of future obligations, opportunities or emergencies. When an individual keeps their powder dry, it means they are holding at least some of their personal net worth in cash or marketable securities that can be drawn on quickly if needed.
