A company’s working capital essentially consists of current assets and current liabilities. Current assets refer to those assets that can be converted into cash within one year, like debtors, and stock and prepaid expenses- expenses that have already been paid for. Current liabilities are the day-to-day debts incurred by a business in its operation. These could be credit purchases made from vendors (creditors) and outstanding expenses (expenses that are yet to be paid).
Thus, working capital management refers to monitoring these two components or the short-term liquidity of your firm.
Three fundamental parameters that help you manage working capital requirements better and indicate your liquidity standing of your firm are:
1. Working Capital Ratio:
A ratio between the current assets and current liabilities, it signifies the current ability of an organization to pay off its short-time financial obligations.
2. Collection Period Ratio:
Also known as the debtors or accounts receivables turnover ratio, this ratio is indicative of a company’s ability to convert its debts into cash. The lesser number of days it takes to realise its payments from its debtors, the better.
3. Inventory Turnover Ratio:
Also known as the stock turnover ratio, this ratio monitors the time a company takes to converts its goods into cash. Lower the time taken, higher is the company’s stock efficiency.
Strong working capital management aids a company in having a higher operational efficiency and hence, higher profitability. For this, Bajaj Finserv offers special working capital loans which will help your business meet its short-term liquidity smoothly.
Also Read: Mistakes to avoid when managing working capital for your business
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