Business Funding

What is Working Capital?

Read Time: 5 min

Working capital is one of the most important metrics for any business. It’s a measure of how much money you have available to use on day-to-day operations and unexpected expenses. Without working capital, it can be difficult to keep your business afloat. In reality, 82% of businesses cite cash flow as a major reason for failing. In this article, we’ll take a look at what working capital is. We’ll also discuss some strategies that will help you improve yours.

Working Capital Definition

Working capital is a measure of the current assets available for business owners to use in the short term. This includes anything from cash and accounts receivable, inventory, and receivables. It’s important to know your working capital at all times. In fact, it can be helpful to think of it as an extension of your bank account. There, you have a balance that fluctuates day-to-day.

There are four components in working capital:

what is working capital
  1. Cash: Cash in working capital is the money that will be available for business operations, which includes daily payroll.
  2. Accounts Receivable: Accounts receivable are what customers owe for goods or services and not paid yet. This also includes taxes due to a government agency. You can manage receivables by including payment deadlines so it’s easier to collect from customer debt. You can also have more cash flow with discounts offered on purchases, offer longer payment terms with credit cards, or use loans to borrow against receivables.
  3. Inventory: Inventory is raw materials used in production of finished goods or as components of other items. For instance, lumber in a house frame construction project. It should only represent enough inventory to meet near term needs.
  4. Current Liabilities: Current liabilities are what a company owes in the short-term. This includes payments for electricity bills or working capital loans.

With working capital, it’s not just business assets like cash or accounts receivable that matter. It also includes those which are tied up because the owner cannot access them right away.

Why is working capital important?

Working capital is essential for running a successful business. It’s used to cover the expenses that come up in day-to-day operations. This type of capital fits into your long-term revenue strategy because it allows you to take on new projects without taking out loans or incurring debt.

Additionally, it is an asset on your balance sheet. However, its value isn’t always as high as it should be for the amount of business you’re conducting. This means that there is a mismatch in what’s happening with your cash flows from operations. Maybe you need to spend more time investigating where this discrepancy exists so that it can be resolved. Calculating your working capital can be confusing but is worth the effort in the long run.

Working Capital vs Net Working Capital

It’s important to distinguish working capital from net working capital, which is the total measure of this amount minus all liabilities. When you calculate working capital as a percentage, it can be misleading because it includes your short-term assets and long-term liabilities. If one metric goes up and the other doesn’t you can have problems.

Net working capital is the working capital minus the assets that are not circulating working capital. Examples include cash, accounts receivable, and inventory. Net working capital measures a company’s ability to meet short-term obligations including daily operations.

How to Calculate Working Capital

The business’s working capital represents the amount of money it has available to invest in growing. The higher your business’ working capital, the more flexibility you have for growth. You can calculate working capital with a simple formula. You take your company’s current assets and subtracting your current liabilities.

Working capital example

Working Capital is important for a company that needs cash on hand to grow and succeed. If your business doesn’t have enough working capital, then it is not able to grow without borrowing money.

Let’s look at an example of working capital. Say you have $50,000 in current assets and $10,000 in current liabilities. Your business would have a working capital of $40,000.

If your working capital is $40,000 and you spend $2,000 a day, you will have 20 days until you fully deplete your cash reserves unless your accounts receivable (for instance, sales) are growing. At this point, you may need to seek business funding.

Exploring Options to Maximize Your Income

working capital vs net working capital

It’s important for business owners to explore business funding options and learn about business working capital. There are many business financing options available today that are not only designed to help business owners get the cash they need but also the working capital they require.

Businesses often have trouble attracting investors. This is because it’s difficult just to sum up what their business is about in a quick, concise manner. This is where business financing options come into play. They give business owners an opportunity to present their business to potential investors in an engaging way. It also makes it easy for people to understand what the business does.

Business owners can use business funding options to get the working capital they need for their business. This will help them be more successful. The key is understanding what type of business financing option best suits your business needs. This is so you have a better chance at attracting investors and maximizing your income potential by making smart decisions about money.

What is a business working capital loan?

A business working capital loan is a financing option that allows businesses to receive cash from lenders who are willing to invest. These business loans help business owners stay afloat when they need money for business operations but don’t have enough assets available to guarantee future repayments. This type of business loan is often needed when business owners can’t wait the usual 30-day turnaround time for a traditional bank loan. It can also help businesses if they need more working capital than a traditional bank loan offers.

Similar to other types of business loans, business working capital loans come with set interest rates and repayment frequencies that are based on the lender’s decision and may also require collateral. There are different options for repayment lengths depending on how long you need your business loan. For instance, business owners can choose a repayment plan that lasts for between one and three years depending on their business needs.

Final Thoughts

Working capital is a business need. It’s not just about cash flow, it’s much more than that. In order to grow and flourish, business owners need to be able to foresee their future needs so they can plan accordingly. Understanding the basics of working capital will help individuals make smarter decisions for their business in order to avoid any unexpected surprises in the future.