While financing working capital is essential to keep your business running smoothly, shortening your working capital cycle is necessary. For example, if your company pays suppliers in 30 days but collects payments in 60 days, your company’s working capital cycle is 30 days. Therefore, the quicker you can turn net current assets and current liabilities into cash, the sooner your business gets stronger.
1. What affects the life cycle of working capital?
- When your firm is starting: In its initial stages, your firm will have various expenses to take care of, like rent, furniture, equipment and administrative costs
- When your firm is expanding operations: expansion usually requires high spending in hiring, buying more machinery, leasing larger premises, marketing etc.
- When you get a new business opportunity: new clients or exploiting a new segment of the market means spending money on stocking more inventory, investing in research and development, or employing more workers
- When your business is experiencing a slump: at the time of a recession, a business has less revenue and hence finds it tough to meet its costs. Also, you may end up spending more to market your products or services
Additional Read: How working capital helps your business stay agile
2. Here are some ways to shorten your working capital cycle
Decrease the credit period by offering cash discounts to customers:
- A supermarket owner may sell items on credit or take cheques but can offer discounts on cash
- These discounts help attract more customers, urging them to shop for more products while ensuring that they don’t buy products on credit
Offer easy means of payments to receive money on time:
- The modes of payment that you offer affect the cash on sale drastically. For example, if you’re a wholesaler, you probably take payments through IOUs, cheques, or cash
- But a wholesaler could also offer other modes of payment. These include digital wallets, debit and credit cards, or online transfers. When you make payment extremely convenient for a customer, he or she is more likely to settle the bill quickly. This also helps you prevent the hassle of following up on the payments due to you
Additional Read: Types of working capital
Additional Read: Capital budgeting
3. Increase sales by streamlining processes
- Streamline your sales process by introducing promotional limited-time strategies such as discounts, reward points, and loyalty cards. This will serve as an incentive to customers and clear your inventory quicker
- You can also use effective advertising techniques to drive sales of certain items that have been in your inventory for a long time. This will help you clear the inventory faster and streamline sales processes. This is best done by marketing your products to a target audience at a discount. A supermarket owner could offer to supply his large inventory of packaged juices to the local school for the next picnic at a discount
- Another way of doing this is to anticipate demand and arrive at a way of speeding up delivery to clear your inventory faster. A supermarket owner, for example, can offer to deliver fresh produce and milk to his customers within 1 hour. This increases his sales as it attracts more customers and clears out perishables from his shelves
4. Increase credit period from suppliers
- Suppliers often offer fixed periods of credit. But, you can negotiate with them to increase this period. Doing this allows you to delay the cash outflows until you receive revenues to make the necessary payments.
- As a result, you can avoid a deficit in your overall cash flow and reduce the cycle of the working capital
- For example, a supermarket owner can pay the suppliers of fruits and vegetables quicker than he pays suppliers of grains, biscuits, and other products with a longer shelf life
Additional Read: How to calculate working capital
5. Look for vendors who offer discounts
- Discounted supplies reduce the cost of maintaining inventory, so your cash outflow is much lower. Another step that you can take is cut out the middlemen to lower costs
- This helps you reduce your current liabilities so that your existing assets are higher
- For example, a supermarket owner could source vegetables and fruits from a farmer to avoid paying the intermediary. Or he could buy more stock of things he knows he can sell with ease at a discount.
While exploring options to collect your receivables more quickly or delay your payables is a good idea, you should also find ways of conveniently financing your working capital needs externally. A working capital loan comes in handy during times when your working capital cycle is too long.
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