Meeting the short-term obligations of a business enterprise is vital to its long-term survival. Working capital ensures that a business entity has enough funds to manage its daily expenses and stay afloat even during the most challenging times. It enables business owners to fund their business growth without attracting any external debt.
As simple as the concept is, managing working capital actually entails a lot more. In this article, we attempt to answer a few questions related to working capital and how it qualifies as a crucial element for small businesses.
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What is Working Capital?
Working capital is defined as liquid funds in the form of bank deposits or cash that enterprises use to manage their daily operations and expenses. The funds in hand should allow the business owner to cover the accounts receivable, accounts payable, short-term debt, and inventory.
Not only does working capital cover the myriad expenses related to the day-to-day running of a business, it also determines the short-term financial position of a company and can also serve as an indicator of overall efficiency.
How is Working Capital Calculated?
Now that you know what working capital is, let’s understand how it is calculated. As a small business owner, you can assess your company’s net working capital by subtracting the total value of your current liabilities from the total value of your currently held assets. Only short-term assets are considered during the calculation, which comprises the cash in your business account, accounts receivable, money owed by customers, and the inventory expected to be converted to cash in the subsequent twelve months.
The liabilities considered are also short-term. These would include the accounts payable, money owed to creditors, taxes, employee salaries, and other accrued expenses.
Comprehending the working capital requirements of your company might require you to make assessments of the monthly inflow and outflow of cash. While working capital assessment is a detailed process, this basic calculation will help you assess the short-term financial health of the business and give you a clear idea of the cash flow gaps that need to be filled.
Working Capital Management: A Vital Step for Small Business Owners
What is working capital management? It is an effective business tool that helps small enterprises make the correct use of assets and preserve enough cash to sustain the smooth running of operations.
Efficient working capital management can empower business owners to free up the cash that is otherwise trapped in the balance sheet. This opens the door to business expansion without incurring any external debt.
While at a basic level working capital is a necessity for the sustenance of a business, working capital management is the act of striking a balance. It allows business entities to effectively meet both expected and unexpected costs and make the best use of their money. Here is why working capital management is a vital step for small business owners:
- Liquidity management: One of the top reasons that understanding and managing working capital is so critical is the fact that it plays into managing liquidity. The efficient analysis of incurred and payable expenses gives you enough time to plan funds and successfully meet all short-term obligations.
- Tiding over cash crunches: One of the primary advantages of managing working capital is ensuring operational stability even in crash crunch situations.
- Business value addition: Timely payments and meeting all obligations builds goodwill. This adds value to the business name and can be leveraged to build healthy business relationships and scale up to stay ahead of the competition.
- Supports decision making: Working capital management helps in accurately assessing funding needs. This makes decision-making easy for small business owners and gives them a clear picture of the funds required for daily expenses and the need for external infusion or allotment of any surplus.
- Smooth operations: Working capital covers various running expenses such as employee salaries, supplier payments, taxes, rent. This ensures the smooth running of daily operations and plans for financial contingencies.
It is safe to conclude that working capital management is as crucial an element for your business as working capital itself. If managed right, working capital can facilitate business growth, even out revenue fluctuations, and optimize capital performance.
We at Kinara Capital offer collateral-free working capital loans for small businesses to help them seize every growth opportunity. Our products have transformed thousands of MSMEs and have had a significant impact on the local economies connected to them. With over Rs. 2000 crores of loans disbursed in 3000 plus pin codes, our solutions are tailor-made for MSME entrepreneurs.
So, reap the benefits of working capital through effective management and take your small business to the top.
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