Working capital is one of those concepts that can seem easy to understand for any new business, but can prove to be the most challenging to accurately determine, and therefore, plan for. Here’s a guide to help you out.
Working capital is the amount by which the current assets exceed the current liabilities in a business. While this definition will give you a figure or indicate the amount of money your business needs to fund the gap, the challenge lies in understanding that the working capital needs of your business can vary with seasons as well as over a period of time. So let’s look into how to correctly determine the actual working capital needs of your business.
Determining working capital for your business
Nature of the business: Working capital management techniques vary from industry to industry. In a service industry, the working capital needs will be low as no material is being purchased. Thus, the Working Capital Finance needs to cover only the cost of sustenance until you receive the billed amount for services provided. In a manufacturing industry, on the other hand, where raw materials need to be purchased, working capital finance will need to cover the cycle from cost of raw materials, conversion, and sales to receipt of money for the goods. So think about the way your business functions to determine working capital accurately.
Seasonal requirements: Businesses that have a seasonal demand, such as cooler manufacturers, will need larger working capital finance as they will need to build and store the coolers throughout the year to sell during the summer. As a business owner, you need to determine whether the product or service provided by you has a period of peak demand. Then you need to fund the production or development in such a way as to keep the final product ready to meet the demand when it arises.
Plan for growth: As your company grows, the need for working capital will increase proportionately, since you will need to invest more to source a larger quantity of raw materials to fulfil the market demand. This is critical, as without the right working capital management you will lose out in potential business, which will slow down the growth of your company.
Credit: The number of days of credit you receive from your supplier and the credit offered by you to the customer together also helps determine the working capital needs of your business. If you are able to extract enough credit from your supplier to cover the time taken to convert the raw material into finished goods and receive money from your customer, a large part of your working capital needs will be covered. Similarly, if your business can get an advance from the customer then the advance payment received can be used to cover the working capital needs of your business. If not, you may need more working capital to stay in business.
Plan ahead and manage your working capital efficiently
Once you have mastered the art of determining the working capital needs of your business, you will need to focus on working capital management. Initially, when planning your business venture, you will need to allocate funds from equity to cover the working capital requirements with an aim that over several months of operations, profits earned will cover the working capital.
However, this can be tricky, especially when you are working on thin margins, or when the accounts receivables get stretched. In these cases, it is better to have a Plan B to cover unforeseen working capital needs rather than face an end of the line situation where you need to rescue your business from bankruptcy. In these times, you can consider a short-term loan, which can be financed by your SME business income or raw materials in stock.
Today MSME and SME Business Loans help small and medium businesses meet their working capital requirements with ease. All you need to do is plan ahead, study your business potential, analyse market behaviour and figure out what you need. Once you decide to go ahead with a business loan, ensure that your business can make the money to service the loan. Choose a convenient and affordable business loan, like the one offered by Bajaj Finserv, which offers low interest rates and flexible repayment options, and provides you with the required boost to help your business grow.
