Things can get rough when a business doesn’t have enough working capital — the assets that help cover short-term expenses. In a best-case (but still not great) scenario, you won’t be able to take advantage of a great opportunity or investment because you don’t have enough funds. When it’s really bad, you might not be able to pay suppliers or employees.
Knowing how to find working capital and then obtaining it can be a struggle for small business owners and multinational corporations alike — but it’s not a fruitless task. Learning how to monitor and control your company’s finances is an essential skill if you want to be a successful business owner.
Your company’s working capital is the difference between its current assets and current liabilities. In this case, current generally means within the next 12 months. The working capital formula is:
Net working capital = current assets - current liabilities
Current assets are cash, investments, accounts receivable, and other property that could be quickly sold and turned into cash. These assets can offer short-term liquidity to cover the company’s expenses. By contrast, fixed capital refers to the long-term assets (such as a building) that you can’t quickly sell for a reasonable price.
A company’s current liabilities are the bills and expenses that it needs to pay in the following 12 months. They include wages, taxes, debt and interest payments, and accounts payable.
When your company has positive working capital, it has more than enough assets to cover its liabilities. But when your company has negative working capital, that could be a warning that you’ll have trouble paying your bills.
Whether you’re currently dealing with a working capital shortfall, or want to take action early to avoid a cash-flow crunch, here are three ways to improve your financial position and help you understand how to get working capital for a small business:
Your profit is your revenue minus expenses, which aligns nicely with the net working capital equation. Increasing revenue may increase assets and decreasing expenses could lower your liabilities.
For instance, if you raise your sales price you’ll wind up with more cash and accounts receivable (i.e., more current assets). In terms of other ideas for how to obtain working capital, you could also look for ways to attract new customers with promotions, a marketing campaign, and by reaching out to past customers.
Or, you can consider how to get working capital for your small business by looking for ways to trim fat from your operations. Perhaps you’re spending more than you need to on software subscriptions, can negotiate lower telecom rates, or could consolidate debts and lower interest rates to save on your monthly payments.
Understanding how to get working capital can be helpful in understanding your business’s finances. However, if you’re struggling with covering your short-term liabilities and day-to-day expenses, you may be having a cash-flow problem rather than a working-capital problem.
One difference is that working capital depends, in part, on your accounts receivable and accounts payable. But it doesn’t take into account how soon you’ll receive payments or when you have to pay your invoices.
For example, if you have to pay vendors within 30 days but your customers take 90 days to pay you, you could run out of money even though you have positive working capital.
One way to address this issue and determine how to obtain working capital is to negotiate longer payment terms with your vendors and shorter payment terms with your customers. When negotiating isn’t possible, perhaps because you’re dealing with large companies, you could still look for opportunities with new vendors and customers.
You can also change your procedures by sending out invoices right away (rather than waiting until the end of the month) and offering a small discount to customers that pay right away.
Getting a working capital loan for your established business can be easier than figuring out how to get working capital for a new business. The cash infusion could help you buy inventory ahead of a busy season, hire new employees to meet growing customer demands, expand to a new location, refinance debt, or invest in equipment or software that can save you money in the long run.
But before rushing in, consider the types of financing that are available to small business owners as solutions for how to find working capital. Here are four popular option:
Figuring out the best way to address a working capital shortfall depends on what’s causing the shortfall and why you need the money.
If you’re dealing with a cash-flow crunch and consistently run into trouble covering payroll and expenses, you may have to look for ways to increase profits and improve the timing on your invoices. Invoice financing, a line of credit, or a term loan could help give you a cash cushion, but these may be short-term solutions.
When you need to know how to find working capital for a specific project, a loan can more than pay for itself. You’ll also have the certainty and stability of knowing your monthly costs, allowing you to project your working capital and cash flow with confidence.