Learn about why companies may have issues, cash flow forecasting, and the levers to release pressure from working capital.
Public policy measures are implemented to contain possible or ongoing problems, like the recent spread of COVID-19. This results in significant operational disruption for many businesses.
Staffing, supply chain failures, inventory shortages, and sudden customer demand reductions create severe issues for businesses across a far more comprehensive range of sectors than initially anticipated. Several companies now face deplorable trading conditions for weeks, if not months. For most, the revenue lost in this period represents a permanent loss rather than a timing difference and puts sudden, unanticipated pressure on liquidity.
You may not talk about working capital daily, but this accounting term may be critical to your company’s success. Working capital affects several aspects of your business, from paying your vendors and employees to planning for sustainable long-term growth and keeping the lights on. Hence, working capital is the money available to meet your current, short-term obligations. And the efficiency of working capital management can be quantified using ratio analysis.
Understanding Your Needs
Understanding your working capital needs may involve plotting month-by-month outflows and inflows for your business. For example, a landscaping company might find its revenues increasing in the spring. The cash flow is relatively steady until October before dropping almost to zero in winter and late fall. Yet on the other side of the book, the business may have many annual expenses.
Parts of these calculations could need making educated guesses about the future. While historical results can guide you, you will also need to factor in the possible loss of significant customers or new contracts you expect to sign. Making accurate projections can be particularly challenging if your company is multiplying.
These projections can help you identify when you have more money than coming in and when that cash flow gap is most expansive.
Four (4) reasons why your business might require additional working capital
Reason 1. Seasonal differences in cash flow are common in many businesses. This may need extra capital to gear up for a busy season or keep the business operating when less money is coming in.
Reason 2. Almost all businesses will have periods when additional working capital is needed to fund obligations to employers, suppliers, and the government while waiting for customer payments.
Reason 3. Extra working capital can help improve or enhance your business in other ways. An example would be enabling you to take advantage of supplier discounts by purchasing bulk.
Reason 4. Working capital can also be used to cover other project-related expenses or pay temporary employees.
Finding the best options to boost your working capital
A revolving, unsecured line of credit can be an effective tool for boosting your working capital. Credit lines are designed to finance temporary working capital needs. The terms are more agreeable than those for business credit cards, and your business can draw only what it needs when required.
While a business credit card can be convenient for you and top employees to cover incidental expenses for travel, entertainment, and other needs, it is usually not the best solution for working capital purposes. Limitations include:
- Higher interest rates.
- Higher fees for cash advances.
- The ease of running up excessive debt.
Wiseteam Consulting also provides Equipment Financing & Business Equipment Loans for your business. You can rely on the company’s solutions and services regarding speed, security, flexibility, reliability, and better collaboration. You can browse through their webpage for details.
Two (2) working capital missteps to avoid
1. Do not confuse short-term working capital needs and longer-term, permanent requirements
2. While it can be tempting to use a working capital line of credit to purchase machinery or real estate or hire permanent employees, these expenditures call for different financing. If you hitch your working capital line of credit on these costs, it would not be available for its intended purpose.
Many factors may and can affect the size of your working capital line of credit. And a rule of thumb is that it should not exceed 10% of your company’s revenues. While you can not forecast everything about running a company, a clear view of working capital can help you operate smoothly today — and set you up for long-term growth tomorrow.