Where to Find Working Capital For Your Business
Working capital is defined as being the difference between the dollar amount of assets your business has minus the amount of liabilities it owes. Since assets include your inventory, unpaid invoices and any other valuable components of your business, then having business working capital is not always the same as having cash on hand.
You certainly can’t pay your creditors with a surplus of your stock, and your employees are not going to take an unpaid invoice in lieu of a paycheck, making it necessary for a business to find a way to make that working capital actually work for them.
Calculating Working Capital
A business’ working capital is fluid, but can be calculated monthly by adding up the total of the current assets and then subtracting the total amount of current debt. The debt, or liabilities, would include all unpaid bills and your payroll. So if your balance sheet for June lists your assets at being $200,000 but you still have to pay out $50,000, then your working capital is $150,000.
$150,000 may seem like a nice amount of money for a business to have just lying around. Yet with the exception of any cash that may have been used in the calculation, that money is not lying around, it is working and not readily available to your business. When you are trying to determine if you have an adequate working capital for your business to make it through the next month, you also have to consider the following:
- How easily are your assets converted into cash? For most businesses, the majority of assets is in their inventory and/or materials for production. Converting that to cash is dependent on your business sales.
- The terms for your business’ outstanding invoices. This ties into how easily your assets can be converted into cash. If you don’t extend credit for purchases made then you are getting a consistent cash flow from your sales. On the other hand, some businesses offer credit terms of up to two months, making a big difference in the amount of their working capital.
For most businesses, the number of days it takes to collect on a sale is higher than the number of days they are given to make payments on their liabilities. This disparity in the inflow of money compared to its outflow makes a working capital loan a necessity for many businesses.
What is a Working Capital Loan?
No matter what the working capital of a business may be in assets, it still needs cash daily in order to maintain profitability. By definition, a working capital loan fills that need by providing your business with a cash flow to cover its day to day operation. This money could be used to pay utilities, keep up with payroll, or even add to your inventory or supplies.
A working capital loan should not exceed what your financial records show as your working capital. It is not meant for investment purposes or to cover the cost of a long term asset.
Almost every business owner will need to find a working capital loan at some point in order to meet the demands of their business when their cash flow falls short. Some banks offer this type of loan, but you will have to meet their strict requirements in order to qualify. This leaves the majority of business owners looking for an alternative lender to help them secure a working capital loan.
Your source of a working capital loan will depend on a number of factors, including your business structure, its profits and assets. Some of the more common ways to help ensure that you can meet your monthly expenses in your business include:
- A Personal Investment – Start-ups that have not yet begun seeing any real profits may have to rely on the owner’s personal funds to cover the cost of running a business until it has become established. Alternatively, a relative or close friend could make a financial investment into your business to help you until you start making a profit.
- A Merchant Cash Advance – A business whose invoices are being paid primarily with credit cards could benefit from a merchant cash advance. This type of working capital loan is technically not a loan since there are normally no set terms to meet. Instead, you and the credit card merchant decide on the cost of the cash advance. This is then paid off, along with the amount of the cash advance, through your credit card sales.
- Factoring – If your business invoices have long terms, then you may be able to secure a factoring loan for working capital. With this type of working capital loan, you are essentially selling your unpaid invoices to the lender for a fee. They provide you with the cash, and then collect the payment along with the fees directly from your customers as they pay their invoices.
- Peer-to-Peer Loans – Peer-to-Peer loans are not as fast or easy as factoring or a merchant cash advance, but they can help with capital needs when your business falls short. The interest rates and fees will usually be lower than your other working capital loan options, but you will also need to have an excellent personal credit rating.
- Credit Cards – If your working capital needs are relatively small, you may want to consider using a business credit card to make your purchases and pay your bills during the month. In order to avoid high interest rates however, you are going to have to keep track of how much you spend so that you can pay the balance in full at the close of each month.
Even a large business will need financial help from time to time while waiting for their accounts receivable to catch up with the payable. With the variety of choices available in working capital loans for businesses of all sizes, you should have no trouble in finding one that fits right in with your business structure.