How to effectively manage working capital

Blogs 30 Jun 2020

Discover how you can keep track of your small business’ cash flow with our tips for effectively managing your finances.


The COVID-19 crisis in the UK has shown us how quickly - and drastically - the economic landscape can change for businesses.

While this global pandemic has taken everyone by surprise, there are learnings from it which may help you be better prepared for various market or economic movements that could further impact your finances. Check out our list of top tips, so you can see if you are using the most effective approach in managing your business’ cash resources.

What is working capital?

Working capital is the money your business has available to cover financial commitments. For example, paying salaries or restocking products. It’s defined as the difference between your current assets and current liabilities, i.e. the cash coming in and any payments you are committed to make. “Cash flow” and “working capital” mean the same things, and are often used interchangeably.

How to manage working capital in your business

Assess your current approach

Start by looking at your current method for managing the money coming in or going out of your business, such as payroll, bills, purchases and investments.

  • What if a major client can’t pay you?
  • Would you still be able to pay your staff?                                        
  • And what if it’s more than one client who can’t pay?

A reactive cash flow plan is common in many businesses, but as most seasoned business owners know, there is always something you fail to expect!

 

Look at the bigger picture

Separating your cash flow at a detailed level can sometimes cause problems. Different functions of your business may be working to different schedules and priorities.

For example, your procurement team may be seeking to reduce costs through consolidated shipments. But, at the same time, your finance team might be trying to preserve cash in the bank.

Communication is essential to determine what’s best for your company as a whole.

Plan, plan, plan

You can better understand your business’ position by planning your financial requirements as much as you can. Of course, you can’t plan for everything, but this will give you a realistic indication of your financial health.

A survey by ACCA found that only 27 per cent of SMEs have reviewed their financial forecasts or business plans since the COVID-19 outbreak.

When you first set up your business, you probably poured a lot of time and effort into the intricacies of your business plan. Revisit and update it regularly to evaluate the priorities and strategies behind your financial goals.

Be proactive

A proactive attitude will ensure you know what is on the horizon in the months to come, enabling you to plan efficiently and have your funds lined up.

This puts you in a stronger position to get funding on your own terms, and can minimise the chance of financial emergencies.

Conduct a scenario analysis

A scenario analysis is a practical way of testing if your existing working capital strategies will support different rates of growth.

For example, if your supplier costs have risen by 5%, what is the impact on your financial position? Could you still pay staff?

Look at your profit margins and overhead expenses to see how they will play out across different growth scenarios.

Use the insight from your analysis to help build contingency plans.

Have a dynamic approach

Your approach should not be ‘set and forget’. The financial situation of your business is always changing. It might be that your forecast has changed dramatically due to losing a major client.

You should update your plan and forecast regularly – ideally quarterly. Check in frequently to review and evaluate your progress against the plan.

Be flexible

A solid financial plan can ensure your business stays as flexible as possible. You’ll be well-prepared to capitalise on growth opportunities, or cope with unexpected shifts in the market.

Flexibility gives you a competitive advantage. For example, it may allow you to bring in additional inventory, update equipment or extend payment terms without damaging your financial health.

Credit over cash

It’s not always the best option for a cash-rich business to use the available cash to fund growth. Keeping that cash can help improve access to funding, and reduce the cost of doing so.

Small businesses with little or insufficient working capital often struggle to attract investors or agree deals with lenders. Creditors may ask a business to use assets as a form of collateral, viewing those without enough working capital as a risk.

Working capital is shorthand for showing your business is capable of paying back a loan or can help the investors to earn a return.

Tackle late payments

Late payments are all too common for small businesses and the self-employed, but tackling them is vital for your cash flow.

  • Issue your invoices on time and have a system for tracking payments
  • Use an online system to issue invoices and reminders automatically
  • Agree on clear payment terms when signing new clients and contracts
  • Look at your billing processes and assess if your terms are too lenient
  • Evaluate how you chase late payments, and if you can improve your processes

Reassess and review

Finally, regularly checking in with the numbers behind your business is a good habit for any business owner.

Whether it’s discussing terms with clients and suppliers, assessing your workforce or reviewing your costs, you can stay alert by being aware of what’s coming in and going out of your business.

 

How can FSB Funding Platform help?

FSB Funding Platform is compatible with Open Banking and accounting software technology to make it easier for you to complete an application. The platform is easy to use and we give you access to the UK’s largest panel of business lenders. We’re also 100% independent. Our only interest is in making sure you get the right funding option for your business need.

Want to know more? Visit FSB Funding Platform to apply for coronavirus loans or any type of funding today, or call us 24/7 on 0330 097 2359.