Why Is Working Capital Still A Challenge For Businesses?
To run a business successfully, entrepreneurs must have sufficient working capital. Working capital refers to the cash available to a company after repaying the current liabilities. Businesses require working capital to purchase inventory, hire staff, pay salaries, and complete other essential tasks.
Though large-scale businesses can easily gather cash, in case they fall short on working capital, the small businesses suffer the most. Several reasons account for such working capital troubles for small businesses. This piece primarily focuses on the reasons or working capital challenges a business faces; read on.
Working Capital Challenges For Business
It is a well-known fact that in the year 2020, the e-commerce segment and online shopping rose to popularity. Though this segment is invading most business activity, they hardly get the chance to avail credit facilities from traditional banking sectors.
As per a report, only 13.5% of small businesses were able to secure funds. The statistic is enough to reflect the working capital issues small businesses have faced for decades. Reasons for these traditional banking sectors not offering credit facilities to budding businesses are as follows:
- Weak Cash Flow
Financial institutions focus on the cash flow of a business as it is necessary to require working capital to repay the credit as well as cover business obligations, pay employees and other expenses. Usually, small businesses and startups struggle to maintain this cash flow.
For this reason, financial institutions turn down loans to these new ventures. In such cases, entrepreneurs and their accounting team can focus on managing/reducing unnecessary expenses and shortening the operating cycle. These practices will help businesspersons manage working capital efficiently.
- Poor Inventory Management
A running business needs inventory on a regular basis. Inventory of a company includes raw materials and finished goods.
Suppose an organisation does not have correct information about the inventory and available stocks, it will lead to overstocking or understocking items. In that case, it will negatively affect their production, sales, and unnecessarily delayed deliveries, resulting in poor cash flow into the company.
- Poor Sales Performance
Poor sales performance can lead to a major working capital challenge for a business. Sales add revenue to a business. If a company experiences a sudden drop in sales due to quality, lesser availability of raw materials or economic or political reasons, it will directly impact sales.
Thus, a company will automatically face challenges in managing day-to-day expenses, obligations, paying salaries or arranging workshops and many other things.
- Previous Due Receivables
When the volume of accounts receivables increases, working capital gets affected. Accounts receivables refer to the money a company/organisation is yet to receive from its customers against the offered products or services on credit.
To retain customers, small businesses usually offer an extended credit line to them. If the amount of such customers is high, then naturally, the working capital of a business suffers. Businesses must create strict credit and debt collection regulations to improve working capital.
Businesses in need of instant cash can opt for Invoice Discounting, a major source of working capital finance. Reputed financial solutions providers like KredX offer Invoice Discounting against unpaid invoices. Here, businesses have to pledge their unpaid invoice as collateral, and once investors purchase their invoices, they will receive money in 24-72 hours, solving working capital challenges.
- Late Payment To Inventors
When a company fails to receive timely payments, it will certainlyfail to pay its vendor’s suppliers on time.
If vendors or suppliers do not receive timely payments, they will not send raw materials, and without raw materials that too without previous stocks; a company will fail to continue production. All these factors will result in lower sales, inconsistent cash flow, and negative working capital.
Running a business is like working in uncertain territory with ups and downs. To cover a business from uncertain incidents, one must focus on the definition of working capital and remember the formula, working capital= current assets- current liabilities. Therefore, businesses must monitor working capital, payments receivable, and payable, stick to budgets, calculate inventory turnover ratio, and shorten the operating cycle.
By bringing some changes in business expenses management, a company can handle working capital challenges efficiently.