Everything you need to know about working capital.

Working Capital is expressed numerically as Current Assets less Current Liabilities or, as a ratio, Current Assets / Current Liabilities.

Working capital is the heart of any business. It is the money available to fund a company's day-to-day operations.

A positive Working Capital figure or ratio indicates that the company has sufficient capital to meet its short-term operating requirements, whereas a negative figure or ratio indicates that the company has a short-term shortfall.

 

The significance of Working Capital

Cash flow is critical to any business, but having too much cash tied up can mean lost opportunities and less room for growth. On the other hand, having too much working capital means too much-hidden capital tied up in stocks etc. Working capital management should be a top priority for companies to strike the ideal balance between working capital and cash flow.

Negative working capital indicates that a company has a short-term capital shortfall and needs to source or borrow additional funds to meet its commitments. Additionally, negative or low working capital prevents a company from investing in growth initiatives, such as purchasing additional stock during a busy season or pursuing an acquisition opportunity.

 

Managing your Working Capital

Managing Working Capital is a balancing act between holding too much and too little short-term capital.  In broad terms, the objective of Working Capital management is to achieve the right balance of cash flow through the business by:

Assets:

  • Maintaining an appropriate level of cash or financing facilities, i.e. managing liquidity.
  • Minimising the levels of inventories on hand
  • Minimising accounts receivable outstanding

Liabilities:

  • Maximising accounts payable terms
  • Maintaining appropriate short-term borrowings and financing facilities to meet cash commitments

Outstanding debts (receivables) owed has a direct impact on the working capital and is therefore critical for companies to ensure the collection process is well functioned to avoid a long payment receivables period. Similarly, inventory levels need to be kept at the optimum level to positively impact on the working capital. Too much stock leaves a company vulnerable with no cash being received for the goods. Creditors (payables) also influence the working capital as the longer it takes vendors to be paid, the longer the company maintains its working capital used for expenditure. The period between payment to the supplier and receipt of customer funds is called the cash conversion cycle (CCC).

 

In order to properly manage working capital, a number of management processes must work together:

  • Accurate and timely measurement and reporting of the key variables which affect the overall level of Working Capital
  • A cash management strategy (eg management of cash and financing facilities to provide cash as and when needed)
  • Strategies to manage accounts receivable and accounts payables
  • Inventory management systems to ensure an appropriate level of inventory is held to meet demand, without over-investment

The combination of these processes should ensure capital is available to allow a business to meet its commitments with the flexibility needed to take advantage of opportunities as they arise, and without over-investing in unproductive assets.

Companies which focus on cash flow are likely to have good working capital measurements. Proactive practices of credit management enable an accurate forecast of cash flow knowing when payments are received and when suppliers need to be paid.

Invoice Finance provides a good working capital solution.

See Also: You can also read about the 5 best ways to source working capital here.


Where does Waddle fit?

Waddle aligns to the Invoice Discounting model in that it’s a confidential facility, and thanks to its technology platform, Waddle is available to business of all sizes such as wholesaler Eclipse Organics, and it can be set up within 24 hours. Learn if Waddle is a good fit for you.

The ongoing use of the facility is simplified as the platform integrates seamlessly with the business’s existing accounting and back-office processes. See how Waddle compares to other types of invoice finance.

 

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