Working capital management ensures you have enough cash flow to operate and plan for the future. This article discusses why it’s important and how to make improvements.
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Working capital management is the process of managing your company's short-term assets and liabilities to give you enough money to cover your expenses, while also making sure that you don't borrow too much money.
Depending on what you’re trying to measure, you may end up looking at different kinds of working capital in your business.
There are three main factors of working capital management you need to consider when managing your company's working capital - cash flow, inventory and accounts receivable. We discuss each of these factors in more detail below:
You need to make sure you have enough cash to cover your expenses, both in the short and long term. You can monitor this via your company’s cash flow statement. If your business is suffering from cash flow problems, then you’ll need to address these issues and find the root cause as soon as possible. Some of the reasons for poor cash flow can be:
Cash flow gaps are common for small businesses, but the key differentiator is how you handle them. Cash flow loans can be a fast, effective way to cover expenses when you fall short. Iwoca offers decisions on Flexi-loans in as little as 24 hrs, with no charges for early repayment.
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Inventory plays a key role when it comes to working capital management. You need to make sure that you don't have too much or too little, as this can affect your cash flow and profitability. You should also be aware of the average length of time it takes you to sell your products. Too many slow-selling items will tie up your cash and reduce your liquidity.
Collecting payments as quickly as possible contributes to working capital management. If your customer credit terms are too long then it may impact your cash flow and put your business at risk of defaulting on payments. Using customer financing like iwocaPay means that your customers can spread payments across 3 monthly instalments while you get paid upfront every time.
With an iwoca Flexi-Loan you can
The working capital management formula is simple: subtract your current liabilities from your current assets. This will give you a snapshot of your company's liquidity and help you identify where you may need to improve your cash flow.
For example, if your current assets are £100,000 and your current liabilities are £80,000, your working capital would be £20,000. This means that you have enough cash to cover your short-term expenses, but you may want to increase this number if you’re planning to expand in the future.
Once you have calculated your working capital, an analysis of working capital management is important to see how well your business is performing. There are three main working capital ratios you should look at:
Managing your working capital effectively is crucial for keeping your business running smoothly and ensuring you have the cash flow needed to meet your obligations and invest in growth
Making sure you have enough liquidity is a matter of managing the various levers that affect your working capital, adapting to changes in your market, revenue and costs.
The first step is making sure you’re keeping an eye on money in and out of your business. Make a habit of regularly reviewing and forecasting your cash flow – costs and income can fluctuate over time, so it's essential to review and update your cash flow figures on a regular basis.
For example, if the price of raw materials for your products increase, you’ll need to adjust your forecast (and maybe your prices) to account for that.
The longer you hold onto stock before it turns into revenue, the less working capital you’ll have available. That’s one of the reasons that many businesses focus on shortening their cash cycle as much as possible.
Strategies such as just-in-time (JIT) aim to minimise holding costs and reduce excess inventory by ensuring that you only hold the stock you need to sell, rather than being weighed down with excess products. . This ensures that you only keep what you need, freeing up cash for other purposes, like day to day costs.
The faster you can get paid, the more working capital you have available to spend when you need it. That will mean being strict with clients, implementing strict credit policies to ensure timely payment.
This doesn’t have to be anything drastic – just clearly define your credit terms at the start of any engagement and enforce them consistently across your client base. This also requires following up promptly on overdue invoices to minimise delays and debtor days.
The other side of the coin is managing the money going out of your business – work with your suppliers to set reasonable payment terms that help you retain cash longer so it’s available when you need it.
Sometimes it can even be worth paying earlier, taking advantage of early payment discounts if your cash flow allows to reduce overall expenses.
It also helps to manage your payment schedules strategically, align payments with your cash inflows to maintain liquidity on a day-to-day basis.
When you have a gap in your working capital, working capital loans can be an essential tool for covering your costs, including supporting expansion, debt consolidation or purchasing inventory.
They’re typically used to cover the short-term and help businesses to improve cash flow.
Working capital management ensures you have enough cash flow to operate and plan for the future. This article discusses why it’s important and how to make improvements.
