Working capital in a small business represents a company’s current assets minus current liabilities. Current assets are the resources that a company can easily convert into cash within one year. Current liabilities are the debt obligations a company must repay within a year. Working capital measures the efficiency and short-term financial health of a company. Small-business owners need sufficient positive working capital to operate successfully. A lack of working capital presents many disadvantages to small businesses.
Hard to Attract Investors
A small business that lacks sufficient working capital may find it difficult to attract investors and lenders. Working capital shows investors and creditors that a company possesses the ability to pay back its loan or can earn a sufficient profit that allows investors to earn a return on their investments. Some creditors may require a company to use its assets as collateral. Creditors may view companies without working capital as a risk. The inability to attract investors and lenders may affect a company’s ability to purchase necessary resources.
Day-to-Day Operations
Working capital measures a company’s ability to turn short-term assets into cash. A lack of working capital may jeopardize a company’s ability to finance its day-to-day operations. Day-to-day operations in a small business typically include salaries, inventory purchases and equipment needs. A lack of working capital also makes it difficult for a company to prepare for emergencies. For example, if a company loses a majority of its inventory to unforeseen circ*mstances, a lack of working capital makes it difficult to replace the inventory to operate.
Difficult to Grow Business
Positive working capital allows small-business owners to grow in the future. When a company desires to grow or is trying to meet customer demands, it often purchases additional assets needed to manufacture products or offer services at a quicker pace and on a larger scale. A lack of working capital hinders a company from acquiring what it needs to expand. If a company continues to experience problems with growth, it may find itself losing customers to competitors.
Improving Working Capital
Small businesses struggling to maintain a positive working company must take steps to improve the situation to remain viable. One way to improve the amount of working capital available is to focus on receiving cash payments. Emphasizing cash payments may include revising your accounts receivable policies to encourage customers to pay their invoices earlier. Although working capital includes current assets, a company may experience cash-flow problems if assets are not converted to cash. Other methods to increase working capital include selling long-term assets for cash or increasing sales revenues.
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