A working capital, by definition, is essentially the difference between the current assets i.e. cash in hand, account receivables, stocks and inventories of raw materials and finished goods, and current liabilities i.e. trade payables and short-term debts. Though a business may need larger funds for expansion purposes such as the purchase of any heavy machinery, setting up a new plant, or marking its presence in a new territory. But, it is the working capital that is required to run day-to-day business operations such as the purchase of office stationery, payment of wages and salaries, payments to vendors and suppliers, payment of taxes and smaller expenses, etc.
Not only this, certain businesses suffer seasonality in their sales, resulting in more sales in some months than other businesses. However, if there is adequate working capital available with the business, it could apply the same towards making additional purchases from the suppliers for managing additional production for those busy months coming ahead along with managing daily operations for months having lesser sales.
Apart from helping businesses to run their business operations smoothly, sometimes it is also used for business growth and business expansion purposes with requiring them to incur debts. Even where the working capital could not be used for growth purposes, holding a positive work capital could be beneficial for attracting investors to invest in your business.
Quick ways to manage working capital for your business
Now, that we have understood the definition and importance of working capital for a business, let’s learn some tricks which will help your business to manage working capital in a better manner-
Efficient management of Procurement and Inventory
Inventory management is what makes most of the working capital of a business enterprise and must be managed efficiently. If more than required funds are expended in procuring raw materials for inventory, it could place a heavy burden on the cash funds, while having inadequate inventory could halt the process of production, lost sales, and damage to customer relations. Before making purchases, it is important to keep a track of the items and quantities required to be purchased or stored. It may be challenging for businesses to determine an optimum stock level so that no unnecessary costs are consumed in unnecessary storage and insurance money and no idle time happens due to unavailability of stock.
For ensuring this, focused planning must be made between departments through proper communications. Further, stock levels must be strictly monitored and alerts should be made for any issues related to the recurring overstock or understock. Businesses can also invest some amounts in the procurement automation which will further reduce losses and by warranting it is only the procurement staff who shall be permitted to order approved products/services from preferred vendors.
Timely Payment to vendors
Needless to say, a successful business comes from only a disciplined staff and environment and the same should be enforced as a key part of the process of payables. A close evaluation of the working capital levels of various organizations shows that the biggest improvement in the working capital management comes from an efficient payables performance and a least day’s payable outstanding (DPO) indicator. Every organization needs to develop a good business relationship with its vendors and suppliers and only an organization that makes payments on time is in a position to negotiate terms and payments better with the same including bargaining prices. While making payment on time could make vendors happy and satisfied, it could lead to saving in funds on bulk and recurring orders, whereas extending days of payment could not be a good option especially when the supply chain has been distressed due to the pandemic
Improve receivables for the business
Next in the line is the account receivables for the business. Though it is not practically realistic to imagine a business with no receivables, for effective working capital a business organization must have a sound receivables collection system in place for a reduction in the receivables period.
The business organization should keep a close watch on the account receivables and even could use accounting software to create an automatic alarm for the due date of payments to the concerned party.
Further, the process of invoicing must be efficient enough to see through and eliminate any issues that might come in the future and must provide a comprehensive list of the terms and conditions of payment. Invoices should be prepared with caution to avoid any delay in the process of receiving payments. It is advisable to make use of technology for speeding the invoice deliveries and receiving payments from any modes such as cheques, online banking systems, and e-wallets.
Sufficient communication must be maintained with the debtors through auto-generated email systems. The cash flow management system should be reviewed for ensuring timely collections as per the fixed period. Lastly, the concept of invoices discounting or factoring is gaining momentum in India and could be used in the case of unpaid invoices.
An Effective Debtors Management
Finally, the best way to ensure that the working capital is adequately maintained at all times, is necessary that all the payments are made on time and all the payments due from the debtors are received on time.For which, it is necessary to set clear terms and conditions regarding payment with the vendors, and reviewing your contracts and credit terms with debtors from time to time is necessary.
Further, the responsible person in the organization should perform evaluations on the credit terms in the company to assure themselves that the level of funds being offered to the debtors is adequate and in terms of the cash flow requirements in the company. Also, proper credit checks must be made by the responsible person to avoid bad debts and must levy penal interests in case of any delay in payments.