The management of working capital can lead to either the success or failure of a business. A smart businessperson understands that the business depends on a smooth flow of working capital. This is because the capital helps to sustain a firm’s operations and the people who rely on it.
Many of the new enterprises do not get to celebrate their second birthday because their founders lack the required knowledge on cash flow and other critical business principles. The following are five tricks that help a businessperson to understand what working capital is and how to manage it properly.
Understand procurement and inventory
A business needs to have adequate stock in its stores; the stock should be at an optimum level at all time. If the inventory is too much, the business may have problems with cash flow because the money is tied in the inventory. On the other hand, if the inventory levels are too low, the business may be unable to fulfill certain orders. This could lead to a bad customer experience that can result in the loss of current customers and failure to attract prospects.
Businesses need to understand how much inventory they precisely need as well as understand the demands of the products they sell. A businessperson should also be able to determine the best time to stock inventory and identify when he or she needs to preserve cash. They should also be able to understand peak and off-peak seasons so that they can adjust the inventory. The entrepreneur should also foster an effective communication channel that allows the harmonization of procurement and sales departments. This will ensure that the business doesn’t run into cash flow problems.
Understand the receivables process
Receivables are among the assets that bring cash into the business. As a result, the business owner should understand the receivables process and make it as efficient as possible. If the business shortens the time it takes to process and send invoices, it can improve the amount of working capital in its bank accounts because it will be receiving money faster.
To make invoicing more efficient, it is wise for the business to use a modern electronic method. Through technology, the company can process and track receivables more efficiently and with minimal resources.
Pay vendors effectively
Vendors supply the business with the products it needs for it to run. Paying the vendors on time will go a long way towards maintaining a good working capital. A company that pays its vendors on time has a good relationship with the vendors and can negotiate better deals.
A good relationship with a vendor earns the business the respect it needs to negotiate for a better price and buy in bulk. Being in good terms with the vendors can also result in discounts that help to minimize the cost of purchases, thus increasing profits and the working capital. A good relationship can also pave the way for more extended credit period or access to other forms of short-term financing.
Manage debtors more effectively
A business owner should make sure that all the debtors pay the money they owe the company on time. If the terms are not effective, the business owner will need to revisit his or her agreements with debtors to see if he or she is giving them a window of repayment that is too big.
If the terms for the debtors are too lenient, they might take advantage of this and take too long to repay. Such a trend is likely to result in low working capital for the business. A business that receives money earlier from the debtors will have more working capital that will help it to operate more effectively.
Make smart financial decisions
A business with adequate working capital is able to run smoothly without borrowing only doing so for strategic growth. If the business has enough working capital, it does not need to borrow to finance its everyday operations. It only borrows when it needs to grow. It is much easier to borrow if the business has sufficient working capital and its books have minimal debts.
