Understanding your working capital requirements to meet your cash flow needs is an essential concept to grasp as a small business owner; however, it continues to be greatly misunderstood by many owners in this demographic. This is partly because many people have different definitions of what the word’s definition entails. The normal way of calculating working capital for your business is by calculating the amount by which current assets outweigh current liabilities.
Operating Cycle
The best way to work out the working capital for your business in Cumming, GA, is to use the operating cycle concept. It analyzes accounts receivable, inventory and accounts payable in daily cycles, essentially breaking down the business’s daily cash needs. Accounts receivable is worked out by the average number of days it takes to collect an account in your local business, while inventory is worked out by the average number of days it takes your business to finalize a sale. The latter begins when the item in question arrives at your business at which point it’s converted into cash. Accounts payable, on the other hand, are worked out by the average number of days it takes your business to create and pay the invoice of a supplier.
Working Capital Factors
There are many factors that will decide how much working capital a specific type of business needs. The industry you’re working in can make a huge difference. For example, businesses that are based around large physical inventory will usually require a high amount of working capital to be viable long-term. Manufacturing and retail are two industries where this would apply. Seasonal businesses require a high amount of working capital during their peak months in order to cope with demand. Businesses that provide products that are not physically tangible usually have much lower working capital requirements. For your small business, you should consider the industry, your growth rate, and also where you are currently at in the life cycle of your business. The answers to these questions will provide with a rough idea of what your business’s working capital needs could be.
Calculating Your Working Capital Needs
Calculating the specific working capital requirements of your local business is a very important task that every business owner needs to do. At first, it may seem complicated to come to a definite conclusion about what the exact requirements are. The world of business is ever changing and intimidating! The first thing you need to do is figure out your inventory needs. A good approach to take is to calculate a detailed forecast of the next six months. You should work out the average monthly revenue for the past two years of the business. You can make it three years if the business has been running for a long while. You should include seasonal factors in your inventory calculations since some months bring in more revenue than others.
Once you’ve got your average sales, figure you should begin to focus on the fixed costs of the business. These are all the costs that are not dependent on sales. They make up a significant amount of the total costs of the business and should be calculated accordingly. Examples of fixed costs include: payroll, rent, insurance, and taxes. These are costs that your business will incur from the very first day and are not related to each sale that your business makes.
After reading this, you should have a much clearer idea on how to work out the working capital financing requirements for your business. If you find that you’re falling short, working capital loans in Cumming, GA, could be the perfect working capital financing strategy to make your business viable.