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All businesses need cash to grow and thrive. Working capital for small business is one of the fundamental requirements for sustaining and succeeding in the long run.
Working capital is nothing but the amount of money required for the day to day operations of the company. You can calculate how much working capital your business has by subtracting the current liabilities from the current assets. You can group anything that converts into cash within a year under current assets and classify anything due within a year as current liabilities.
While we all know that shortage of working capital is bad for business, excess working capital is also not recommended as companies end up sitting on idle cash that can generate better returns elsewhere. Due to this caveat, businesses often struggle between balancing too little and too much cash when it comes to working capital.
The question then arises, how much working capital does your business require?
How much working capital you need to run your business depends on the business type, the operating cycle, and the business's future aspirations.
Is there a time difference between the revenues coming in and the expenses that must be met? The larger the time difference, the more would be the requirement for working capital.
For example, let us assume the company pays for inventory 30 days after receiving it. It sells the product 15 days later, and the receivables from the customer come in a month later. The working capital gap then is 45 days. The company needs to estimate the expenses required to meet in this period (salaries, rent, office expenses, marketing expenses, and utilities.) It must also account for a certain percentage of unplanned expenditure. These funds need to be made available as working capital.
Does the business require higher working capital finance due to its heavy inventory nature or requires higher processing time to convert to finished goods? If the company is inventory heavy and needs longer processing times, it would need higher working capital. In contrast, a service-oriented business that requires little or no inventory needs working capital only to the extent of expenses it costs to run the company's operations.
Apart from the business model, if your offerings are impacted by seasonality, your working capital requirements might fluctuate during peak periods and off-seasons. For instance, an air conditioning business might require higher inventory before summers but not otherwise. If seasonality affects your business, your working capital needs fluctuate during the year, and it might be advisable to arrange for a working capital loan to fund peak seasons.
Working capital for small businesses could differ depending on the maturity of the company. Companies just starting up or those in their growth or expansion periods require higher funds than mature, stable companies with defined income streams. Business owners could analyze the business stage and the plans for growth and development and assess their current working capital positions. Gaps, if any, at this stage of assessment could be plugged with flexible working capital financing solutions from companies like Tata Capital that partner in its customers' growth.
Sometimes, unprecedented events such as the global pandemic, to quote a recent example, could lead to further demands. These demands could be to survive periods of insufficient revenue or additional funds to meet investment in safety equipment or for expansion opportunities that changing times present.
Since it is not always possible to assess how much working capital you need to tide through such times, small businesses must account for these unplanned requirements through an additional line of credit. Working capital financing can ensure you do not miss out on these growth opportunities.
Optimal working capital is essential for the business to grow and run smoothly. Suppose you continuously face a shortage of working capital or keep excessive cash buffers to meet unplanned operational expenses. It may be time to have a thorough look at your cash flows and access working capital financing to plug the deficits and invest surplus cash at higher returns.
A working capital loan provides businesses with a line of credit to access as and when needed to navigate a cash crunch. This access to capital allows businesses to operate continuously without interruptions in the short run. In the long run, optimizing working capital can help small enterprises stabilize financially, grow, and expand to their fullest potential.
The needs of every business are unique, and the working capital requirements vary across multiple business contexts. Reach out to your financial expert at Tata Capital to recommend the best working capital financing solution for your business.
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