How To Optimize Your Company’s Working Capital (Part 2)
In the first installment of this blog series, we defined working capital – or net working capital (NWC) – and provided an overview of three major elements that influence it.
Here’s your one-minute refresher:
Working capital, a vital sign of your company’s financial health, is the difference between your current assets and current liabilities.
Receivables, or accounts receivable (A/R), are part of your current assets – funds due to your business from customers for goods or services provided.
Payables, or accounts payable (A/P), are part of your current liabilities – funds that your business owes to suppliers or vendors.
Inventory, or stock, is a part of your current assets – goods and materials that your business uses in production or holds for resale at a profit.
Now, let’s dive deeper into working capital management with 10 actionable tips for addressing gaps and planning for sustainable growth:
Optimizing working capital isn’t just the job of one person or department. Ensure that everyone on your team understands the importance of working capital and the factors that drive it. For larger organizations, consider establishing a cross-departmental committee focused on aligning operations and objectives.
Pay attention to key performance indicators that directly relate to working capital, like days payable outstanding (DPO). Here’s that formula: average accounts payable ÷ cost of goods sold × number of days in your accounting period. The higher your DPO, the better your cashflow.
In addition to tracking your own business’s performance and setting internal benchmarks, it’s important to see how you measure up against industry peers. Explore public financial data and research studies to identify leaders and best practices for working capital optimization within your particular sector.
Positive vendor relationships are crucial to good cashflow management. Paying your invoices on time puts you in a stronger position to negotiate more favorable payment terms down the road. Consolidating vendors can also give you leverage as well as potential bulk and freight discounts.
Inventory management is another piece of the working capital puzzle that can be highly dependent on your industry and market. Many firms have benefited from adopting “just-in-time” strategies, in which inventory is ordered only to meet customer demand, thus minimizing tied-up cash and overstock risks.
Automating your accounts with the latest digital tools can reduce labor costs and errors, and it can also accelerate your cash conversion cycle. Offering electronic payment options to your customers gets you paid faster, while using automated bill pay tools can increase your DPO.
When it comes to optimizing receivables, it’s smart to facilitate punctual settlement with clear and accurate invoices, convenient merchant options, and discounts or other incentives for early payment. But you may need to implement a carrot-and-stick approach, with automated payment reminders and late fees.
Cutting costs wherever possible ensures that your business has the cash it needs to meet essential obligations. Scour recurring charges – many small businesses are paying for unused subscriptions. Also, see if your municipality offers free energy audits that could help you save on utilities.
Before you extend credit to a new client, do your due diligence and assess their creditworthiness. While there’s nothing in business that doesn’t involve some risk, you don’t want to take on clients that have a long track record of paying late or defaulting.
To achieve the right working capital ratio, you need the right financing solution – and the right financing partner. If you’re looking for a low-APR loan that you can pay back in steady monthly installments – or pay back early with no penalty – reach out today.
The information contained herein is for general informational purposes only and does not constitute tax, legal, or business advice.
Brought to you by Nu Direction Lending, a digital-first business lender that was formed and is funded by credit unions. To learn more about term loans for your business, visit nudirectionlending.com or contact us by email at email@example.com or by phone at 866-354-7151.
Nu Direction Lending is a digital-first business lender that was formed and is funded by credit unions. We combine the speed and convenience of online lenders with the personalized touch of the local credit unions who help fuel our local economies.