As a businessman running a small enterprise, you understand the need for regular cash flow that helps you manage your day-to-day operations. On a related note, it’s necessary to have a decent amount of working capital in hand to keep the business running successfully. Working capital lets you analyze how much cash your business has to meet the daily requirements. That’s why you should know the significance of working capital for the survival of your business.
Working Capital
Do not confuse working capital with long-term capital or investment capital. The latter is generally used to fund large projects for the long-term. It can be best described as the difference between your current assets and current liabilities. Here, the current is 12 months or less in duration for your assets and liabilities. It’s crucial to know if your current assets are larger than the current liabilities: your business is enjoying a positive working capital if it is the case. In a layman’s language, working capital is used to pay for daily expenses, such as purchasing raw material for your company’s products.
However, if you own a service-based firm, working capital is used for daily expenditures in this case. It is also used for payrolls and other necessary expenses that keep your business running daily.
Operating Cycle
Let’s understand the operating cycle and how does it impact your working capital. The operating cycle or cash-to-cash cycle would be best defined as the time cash exits your company due to the production requirement till the time it is returned. Here, the cycle is completed when cash gets returned through customer sales. You would understand that there are different steps, from production to preparing invoices for customers. Now, the main point is that your working capital becomes important between cash exiting and returning to the business. An operating cycle can last for days or months, depending on your business.
That being said, you need to have a decent amount of cash to fund your daily expenses. Besides, you need to ensure timely payroll processing to manage your resources. In a similar case, you may need short-term cash for emergencies as well. So, any business must manage its working capital to ensure enough funds to cover costs during each operating cycle.
How To Manage Working Capital Efficiently?
There are various methods and tactics to manage working capital through the operating cycle. You can finance it through by putting up more capital, or you can apply for business credit from lenders and investors. It could facilitate necessary current purchases or if you plan to expand your business. You can request credit terms and rates from your lender, provided you have an impactful business credit report. Or, you can request a payment extension from your suppliers since the cycle starts with purchasing raw materials.
If you’ve got a seasonal business, you would require more working capital, and planning for it in advance is the best way to avoid a cash crunch. For example, if your business enjoys high sales figures during summer, you’re likely to experience fluctuations in cash inflow through the year. How do you deal with such a situation? Well, it starts with managing your business finances well enough to survive the low-sales months.
Whatever the case, you should plan your budget and operating cycles timely so that you can foresee effective working capital projections with less risk. You should know the duration of each operating cycle: it helps you calculate your working capital at the end of it.
In case your vendor or supplier has to repay you but unable to do so, your working capital will be affected. Maybe you require cash during the low-sales months to restructure your business, payroll needs, or purchase inventory or production equipment to cater to the next sales spike. For this matter, let’s go back to the basics: knowing how much cash your business will have at the end of the month or years. Working capital projections can be a savior for your enterprise.
If your money is stuck with a vendor, you can always seek help from a credit information bureau like CreditQ. It helps businessmen and MSMEs in payment settlement with their debtors. Their specialists ensure a smooth and quick payment settlement process from business credit defaulters.
So, the crux of everything said is to know thoroughly about your cash flow and understand the operating cycle so that you have enough working capital for daily operations.
