There are plenty of specific financial and operational terms to learn and use as a small business owner. One especially important phrase that many small business owners may not be familiar with is working capital. Whether you’re wondering exactly what working capital is or how an increase in it can help your business, read on to learn the most important facts related to this concept.
What is working capital?
Understanding the technical definition of the term working capital is vital for understanding its role in financial planning and how its presence or absence can affect your business. To put it simply, working capital is the amount left over when your current liabilities – bills owed to vendors, payments for facility maintenance, payroll and many other costs – are subtracted from your current assets, such as cash reserves, inventory and similar considerations.
The current asset category generally includes anything that can reasonably be converted into cash inside of a year’s time. Anything that isn’t likely to be sold inside that timeframe is categorized as a long-term asset and isn’t included in the working capital equation. That distinction is important when calculating working capital, as certain major assets like real estate and specialized equipment generally aren’t included when making this important determination.
A positive working capital figure is obviously desirable, as it indicates your small business has more assets than it does liabilities. A negative working capital figure can indicate a company will have trouble paying off short-term debt and may not have enough revenue and other assets to continue operations in the future. However, it’s also important to not have too much working capital on hand, as it indicates a company isn’t investing or otherwise effectively using its excess assets. The working capital ratio, determined by dividing current assets by current liabilities, should generally be between 1.2 and 2.
It’s worth noting that specific industry and individual business finance and payment practices can all have an effect on working capital needs. As Accounting Coach said, a business focused on sales to individual customers at the time of purchase can usually function with less working capital than a company that doesn’t expect payment for 60 days and has to pay suppliers within 30. There are plenty of other factors, like specific accounting principles and strategies, which can have an influence as well.
How does working capital help my business?
Working capital helps your business by allowing you to address debts, invest in projects to boost business performance and have cash on hand to contend with unpredictable expenses. A lack of working capital leaves a business vulnerable to sudden issues that can drain available cash and limits the ability to take advantage of opportunities to grow and diversify.
One effective strategy for boosting working capital in the short term is to seek out a working capital loan. This approach means getting money in your hands quickly to meet the financial requirements of a variety of needs, and then paying it back over time under terms that are mutually agreeable to you and your lender.
National Funding is proud to offer working capital loans of as little as $5,000 to as much as $500,000 to qualifying small businesses. Our nearly 20 years of experience working with small companies just like yours mean we’ve crafted a quick, simple and effective lending process that aligns with your needs. To learn more about how easy it is to apply for a working capital loan from National Funding, get in touch with us today.