The Importance of Working Capital | Finance for Working Capital

The importance of working capital

The importance of working capital 750 400 Lorna Slee

To ensure ongoing business continuity and growth, the correct management of working capital is critical. A key factor is maintaining a healthy cash flow to ensure that all ongoing day to day costs are accounted for. The difference between a successful and a struggling business is often down to their management of their working capital.

Working capital in essence is the spare money you have left after all income and expenditure has been accounted for in a set period. Basically, subtract a business’ liabilities from its assets and the remainder is the working capital. Having the ability to monitor and manage working capital is a key element to a successful business, we have seen many businesses who appear to be profitable, suddenly stop trading as they cannot fulfil their financial commitments.

A business which is in its infancy or experiencing high growth will need to have a healthy working capital. However, when the company needs to invest quite heavily for inventory and stock, funds will be quickly spent whilst the revenue received through sales might not match the same speedy timescale.

Any business can easily calculate exactly how much working capital they need. Simply subtract the value of the current assets from the value of the current liabilities. Of course, the higher the assets, the better the working capital will be.

Sometimes a business is unsure as to how much working capital is needed. There are several factors to consider. A common one will be the cycle of cash flow and how long it takes for clients to pay for their goods or services. Another area is the likelihood of an unexpected expenditure so any safety net of cash to cover this would be critical. Thirdly companies will have upfront operational costs for items needed during the production stage or onboarding costs when starting new contacts. In summary if you have an extended cash flow cycle then you will need a high level of working capital, recognising key payment timelines against income being received will be vital in maintaining the right balance.

The key aim for any business is to try and reduce their cash flow cycles to the most optimum timescales possible. Some key points to do this are:

  • Keep your payment terms short
  • Ensure your supplier payment terms are favourable to you
  • Keep stock levels to an optimum, only buy when you really need to
  • Take advantage of working capital loans

If you have any questions or need any help with working capital, please call us on 01993 706403 or e-mail enquiries@ngifinance.co.uk.

We can provide you with tailored business finance solutions.

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