Working Capital Management: Tips for Small Businesses

Working capital is the money needed for funding the day-to-day operations of a business. It is the difference between a company’s current assets including cash, inventory, and accounts receivable, and current liabilities such as accounts payable and short-term debts. Efficient working capital management is essential to ensure that your business has enough cash to meet present and upcoming expenses. In fact, the working capital ratio is used as a critical metric to measure a company’s financial well-being and liquidity position. A low working capital ratio can make meeting short-term payment obligations challenging, making working capital loans the only solution.

Small businesses often face challenges in working capital management due to delayed customer payments and seasonal sales cycles. This article outlines a few tips and strategies small business owners can use to better balance their cash flows, inventory, and accounts payable and receivable.  

Effective Tips for Working Capital Management

If you are a small business owner looking to improve your working capital ratio, the following tips can help you streamline working capital management:

Focus on Accelerating Customer Payment Collections

Customer payments or accounts receivables remain one of the chief sources of working capital for a small business. Therefore, one of the best ways to increase your short-term liquidity and working capital is to collect customer payments faster. Small businesses often tend to delay the invoice issuing process, which in turn, delays payments. Moreover, most businesses offer a buffer period of 30 days or more to settle the invoice once it is issued. To collect accounts receivable faster, you can consider automating the invoicing process with invoice automating software and shortening the buffer period. An automated invoicing process will send the bill to the customer at the earliest, instead of waiting until the end of your payment cycle. Additionally, you can also encourage customers to make early payments by offering incentives like small discounts on bills that are cleared earlier than the due date.

Draft Strategies to Monitor and Control Costs

Another great way to boost your working capital ratio is cutting back on unnecessary expenses. As a small business owner, you should understand the difference between essential spending and unreasonably high costs that diminish your working capital. If you wish to avoid taking a working capital loan in the future, you should start monitoring your business costs and identify areas you can cut-back without compromising the quality of your products or services. Setting up a separate bank account for your business expenses makes it easier to separate your personal expenses from operating costs. With a dedicated bank account, you can easily monitor cash flowing in and out from the business and manage expenses accordingly.

Manage Your Inventory Better

An efficient inventory management system can streamline working capital management for small businesses while also improving their working capital turnover ratio. Inventory is an asset for a business since it can be converted into cash once sold, but to procure this asset, you first have to purchase it. However, this asset can turn into a liability if the procured stock is not sold soon.‍ Better forecasting can help you boost inventory efficiency. By investing in a forecasting software you can accurately track and estimate demand to procure only the quantity of products needed. Doing so will help you avoid high storage costs for your inventory and avoid discounting old stock, effectively boosting your working capital turnover ratio.

Prepare for Unforeseen Expenses

Regardless of how carefully you plan your budget, there will be instances when your expenses overshoot the set limits. Moreover, there may also be times when unforeseen expenses like equipment repairs crop up and compromise your working capital ratio. The best way to avoid using your working capital for such expenses is to have a separate contingency plan in place. While you can avail of a working capital loan to meet such short-term expenses, it is also prudent to set aside a sum of money for such emergencies.  

Maintain Good Credit Terms With Suppliers

Fostering a good relationship with your suppliers can go a long way in helping you improve your working capital ratio. Timely bill payments can help suppliers maintain their own cash flows, improving your relationship with them. Cultivating a reliable reputation among suppliers can offer you leverage to negotiate better prices and ordering terms including bulk order discounts.

Consider a Working Capital Loan at Low Interest Rates

While the tips mentioned above can help you boost your working capital ratio, sometimes they may not be enough. In such cases, you can consider external funding through a working capital loan. With a working capital loan, you can fund various short-term expenses like supplier payments, payroll, and inventory procurement without committing to lengthy repayment plans. Opting for working capital loans from trusted lenders like Lendingkart can help you secure easy funding at low interest rates starting from just 1.25% per month.

Conclusion

A positive working capital ratio demonstrates a company’s operational efficiency. Effective working capital management allows small business owners to safeguard their liquidity positions and handle short-term obligations in a timely manner. As a small business owner, you can effectively boost your working capital ratio by accelerating customer payment collections, streamlining inventory management, reducing unnecessary costs, and maintaining positive relationships with suppliers. However, if your existing sources of working capital fall short, you can always turn to working capital loans to pay your vendors on time. With easy access to credit, you can avoid jeopardising your relationship with suppliers, while ensuring smooth business operations.