A consistent feature on any venture’s balance sheet regardless of its size, net working capital reflects the liquidity as also how well the commercial entity is able to fulfil its financial obligations. It is calculated by subtracting the current liabilities from the total current assets, although the inclusions might vary from one firm to another.
what is net working capital
If you have grasped what is net working capital, then it must also have been evident that for the venture to perform well, this parameter should always be positive. While a positive net working capital shows that the firm is able to meet its operational expenses, a negative figure is indicative of financial ill-health.
Likewise, a healthy net working capital implies substantial profits, and a lower figure means that the venture’s monetary aspect is weak and requires attention.
How does net working capital benefit the venture?
Ways in which net working capital loan can benefit your venture are –
- Providing the additional capital to cover up for seasonal differences, both in terms of surplus and deficit;
- Fulfilling financial obligations to vendors, employees etc, especially in the event that incoming funds might have got delayed;
- Facilitating bulk purchases and availing the discount;
- Enabling project related expenses, like repair, maintenance and so on;
- Boosting profits and bottom line, both of which can be used for expansion in the long run;
Building the Net working capital schedule
An ideal net working capital schedule features the following stages –
- Stage 1, wherein sales and cost of goods from all the relevant periods are mentioned;
- Stage 2, in which balance sheet accounts are laid out by distributing the entries under the sections, namely current accounts and current liabilities;
- Stage 3, which requires subtracting the total of non-debt current liabilities from the non-cash current assets to acquire a figure that represents net working capital;
- Stage 4, wherein all the historical data borrowed from the balance sheet and data forecasts is mentioned in the schedule;
- Stage 5, which entails creating a section that outlines in detail the assumptions and drivers for the main assets in the existing scenario as also for the future;
Drivers that are universally taken into account while creating a schedule for net working capital are –
- Account receivables;
- Inventory as it stands on the specific days when the stock is monitored;
- Current assets and current liabilities, like percentage of sales, fixed amount, increasing amount, and growth percentage;
- Accounts payables;
In the event that the exact number of days is not available, calculations for a working capital loan are carried out by studying the past trends and predicting future pathways based on them.
Improving net working capital
For any venture, the preferable option would be to ensure that the net working capital is pegged either at zero or at a positive value. Usually, the higher the value of net working capital, the better is the venture’s health, because it implies that all the daily expenditures would be taken care of.
A substantial value of net working capital is also indicative of a surplus being available for the venture in the event of any financial contingency.
Given its importance, every venture should aim towards improving their net working capital, and discussed as follows are tips that help in this regard –
- Fix your billing cycle in such a way that the payment terms are shortened;
- Render incoming payments for goods and services as frequent as possible, so that at any given point, you have cash in hand;
- Follow up with clients who have received invoices from you to speed up the process of receiving payment;
- If possible, return all the unused inventory and ask the vendor for a refund;
- Whatever payments you need to make, set the tenure in such a way that you pay the vendors at fixed intervals without levying of late fee or additional charges;
These are some best practices that would benefit your venture by ensuring the availability of net working capital most of the time, if not all, and applying for a working capital loan.
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