Working capital denotes the difference between the current assets and short-term obligations of an organisation. Every business enterprise depends on this variable factor to carry out its day-to-day operations, which ultimately forms the basis of its survival and growth.
Working capital is widely regarded as a crucial indicator of a business’s operational competency and growth potential as well. Its proper management can drive a business’s success. It is thus also critical to understand the different types of working capital if you are running a business.
Working capital is differentiated on two primary bases – namely, periodicity and concept. The working capital types are elaborated in the below pointers:
An organisation requires a specific sum of short-term funds to ensure that its day-to-day operations continue to run efficiently without any interruption. It is a part of the current assets that remains tied up continually. Such an amount is defined as permanent working capital.
It’s also known as fixed working capital. The amount of fixed working capital occupied in a business depends on its scale and stage of growth. A small-scale enterprise will naturally require reduced permanent working capital to keep its operations afloat compared to a large-scale one.
It can be further divided into two different types of working capital –
It is a part of the permanent working capital that a business requires for its daily operations. It involves payment of wages, financing of overheads, raw material purchase, etc.
Any insufficiency in regular working capital can lead to operational hindrance, causing significant loss of resources. Hence, several business owners opt for external funding options to ensure a smooth cash flow.
Businesses also maintain a cash reserve for contingencies, called the reserve margin working capital. It is kept aside from the regular working capital to ensure that an organisation can mitigate contingent risks efficiently.
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It is a part of the short-term finances that a business requires for a temporary period. Thus, it’s also called temporary working capital. Contrary to permanent working capital, this type fluctuates throughout the year.
It is a broad term, with two primary subsets. These are:
It refers to the additional capital that an organisation requires to meet unique and even unprecedented expenditures. Businesses utilise special variable working capital to finance marketing campaigns, introduce new product lines, or deal with unusual events, like natural calamities, riots, etc.
Certain businesses witness increased demand during specific seasons. For instance, a raincoat supplier will see heightened demand during the monsoon. Such instances lead to additional fund requirement known as seasonal variable working capital. Business owners often resort to external financing in order to meet such working capital needs.
It refers to the sum of a business’s total current assets and includes the following components –
Gross working capital does not indicate the operational competency of a business since it does not show whether the current assets are sufficient to mitigate short-term liabilities.
Between the two different types of working capital based on the concept, this one’s more widely regarded. It refers to the difference between current assets and short-term liabilities of a business. It can be either positive or negative. Typically, a positive net working capital represents operational competency and growth prospects.
These are the few working capital types based on periodicity and concept. Being aware of all these types facilitates better management of the business. It also becomes easier to choose suitable funding options.
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Working capital of a business depends on the following variables: