Six ways to improve cash flow: Working capital management

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Working capital is the money used to pay for the daily running of a company, and is calculated by subtracting the current liabilities of a business from its assets. Managing your working capital effectively will help to ensure that your company remains solvent. Putting effective management strategies in place for cash flow will provide a solid foundation for the company’s finance, which will make it possible to explore new opportunities and expand the business.

Working capital process

Not all companies have the same requirement for working capital, it all depends on the nature of the business. The period from the first time when cash is spent on the production of goods to the period when payment for the goods is received is known as the working capital cycle.

Money is spent on the raw materials to produce goods, by paying suppliers. Further investment of cash is required to pay for a workforce, run the business premises and support other functions. Money is also required to store the finished goods and transport them to clients. As most traders will have some credit, the number of debtors will increase. Finally, the traders will pay their outstanding invoices and the company will receive payment for the goods received. Once the cycle has generated cash, the process will begin again with more products.

Overtrading

Problems may occur when a business overtrades. One of the most common mistakes made by a company is to accept orders without the means to fulfil them. Although a company may be profitable, it may not have sufficient cash to pay for more goods to be produced. Rapid expansion is a typical cause of problems with overtrading, which can easily lead to the business entering liquidation.

There are ways to ease the problem of overtrading, though; aim to reduce the amount of stock on hand, so that cash is released into the company. A more stringent period of credit control may also be required, with credit terms reduced and more vigorous methods used to collect outstanding invoices. It may even be necessary to ask for an extension on the time you take to pay your suppliers, although this should only be considered in extreme cases.

Careful management of working capital will improve the company’s cash flow. To avoid potential problems, consider outsourcing finance and accounting so that you can be sure that risks to cash flow are spotted early. For more information, please contact us to arrange a meeting.