I’ve talked to you before about Cash and it’s importance before. Everyone knows what I mean when I say cash, and most people think it’s important! So, perhaps everything I told you before was a but obvious. But, if I actually told you Working Capital was actually more important, would you have any idea what I was talking about?

First lets talk about what I actually mean by working capital: Accountants refer to it as measuring Liquidity, but in simple terms, working capital is the money you have available in your business for day to today operations.

Calculated by: Current Assets less Current liabilities. 

Current Assets are all assets that can reasonably expect to be converting into cash within one year for example:

• Cash
• Stock
• Accounts Receivable (outstanding monies invoiced by you to clients, but are not yet paid.)

A Current Liabilities is an obligation that is payable within one year for example:

• Short term loans
• Accounts payable (amount that have been invoices to you eg Utilities bills, but you’ve not yet paid.)
• Interest payable
• Income taxes payable
• VAT payable

When you calculate Current Assets less Current liabilities, somewhat obviously, a positive Working capital figure is better than a negative one.

A positive calculation shows creditors or potential investors that the company is able to generate enough from operations to pay for its current obligations with current assets. A large positive measurement could also mean that the business has capital available for investment to grow, without taking on additional debt.

A negative calculation shows shows creditors or potential investors that the company is unable to generate enough from operations to pay current debts. If this continued, they would need to consider selling any long term assets (if they have them) or securing additional financing to pay for current obligations like Accounts Payable and payroll.

Remember though, a positive or negative working capital figure is not always a clear cut guide to whether a business is thriving or failing. It’s better to see how the number is moving over time. A company with negative working capital that has shown continual improvement year on year could be viewed as a more stable business than one with positive working capital and a downward trend over a period of years.

What should you do to help manage working capital:

• Accounts Receivable – Having outstanding money due to you has an obvious impact on your working capital. It is therefore critical for companies to have a process in place to: Invoices are raised quickly and correctly, payment terms are regularly reviewed, they understand what debt is due when, actively chase debt and resolve any issues that are delaying payment.

• Stock levels need to be kept at the optimum level to positively impact on the working capital. Too much stock leaves a company vulnerable with cash tied up in stock sitting on a warehouse shelf. Too little stock and you may not be able to fulfil orders, and loose customers.

• Accounts payable also influence the working capital. Don’t pay creditors too early, putting cash in their account instead of yours. But, equally don’t pay late, risking either fines or withdrawal of future goods and services.

So I’d go as far as to say working capital management is one of the most important management activity in small and mid sized companies, simply because of the significant financial impact that it has on the company’s well being and chances of future survival.

If you need help understanding or managing your working capital, then I’m here to help. Call or email me today.

Goodluck.