Effective working capital management is vital for the business survival and their ultimate growth. However, before we talk about how working capital management impacts the business profitability, let’s talk about working capital. What is working capital? As the internet explains it, working capital is the difference between a company’s current assets and its current liabilities. The formula for the same is, Working capital = Current Asset - Current liabilities. In layman’s term, it refers to the cash reserve a company must maintain without fail to operate without any difficulty. As per the definition, every company needs to manage the relationship between their current assets and liabilities efficiently in order to ensure profits - this is when working capital management comes into play. There are different approaches to working capital management which affect the company’s profit differently, and hence, the person entrusted with responsibility must act wisely and consider all the aspects while making a management strategy.
Why is working capital management so important?
Efficient management of working capital helps the company maintain a shorter cash conversion cycle - a metric used to gauge how fast a company can convert cash on hand into inventory and accounts payable, through sales and accounts receivable. A company with the short operating cycle is able to quickly recover its investment, leading to higher profits. Though company’s with longer operating cycle might achieve higher sales due to long credit term is given to trade credit customers. However, the only problem is companies with a longer operating cycle have less cash available to meet any short-term needs which lead to lower profitability. Thus, efficient working capital management is necessary.
How can a working capital loan help?
Last but not the least, it is very crucial to know how a working capital loan can help in the process. To answer that, a working capital loan helps you manage the shortfalls and maintain a high operating cash simultaneously. This further helps in maintaining a positive/short cash conversion cycle leading to higher profits. On a concluding note, just make sure the loan is availed at the lowest interest rate possible.
