Home Finance What are the Sources and Uses of Working Capital?

What are the Sources and Uses of Working Capital?

What are the Sources and Uses of Working Capital?

Any successful business requires a continuous flow of working capital. It can be defined as the funds which the organisation has left with it after deducing the liabilities from the assets. The number is obtained from the balance sheet of the company to determine the operational efficiency including the short-term financial health.

Working capital expenses helps in smooth running of a business. Such expenses include those for raw material procurement, marketing, administrative requirements other than taxes and payroll.

A company is considered financially vulnerable in case it does not have the required capital. Losing on working capital is one of the bad business decisions every business owner needs to avoid.

Common Sources of Working Capital

Although the most obvious sources of working capital for any business is the incoming revenue. It is a portion of the profit margin reinvested for continuation of business operations and even for expansion of the business setup itself.

Working capital is a continual requirement. A shortfall in it will hamper business operations, a negative cycle which can result in loss of feasibility. In case the revenues generated are unable to suffice the working capital, external financial assistance becomes an obvious necessity.

To be precise, there are 2 variations of working capital, short-term and long-term. They are inter-linked and inter-dependent as well. As a business owner facing a financial crisis, you will need to address them accordingly as well.

Short-Term External Financing Options

Financial advances or loans

Such loans are generally collateral-free and popular among SMEs and small businesses. A business owner like you does not need to pledge any asset to avail such advances, also known as clean advances. Financing is made available to SMEs and MSMEs at feasible rates of interest. Therefore, SMEs/MSMEs can improve the cash flow by availing business loans.

Public deposits

Inviting employees, shareholders and general public to deposit their savings with the company is an easy and convenient way to raise short-term funds. The main concern in this type of funding is the fact that during a financial stringency, funds from these advances are not available to the entrepreneurs.

Trade credit

The outstanding payable amount to the suppliers can be regarded as a source of finance. Similarly, suppliers grant their clients credits for a period of 3 to 6 months. It thus provides short-term financing to the companies.

Long-Term Sources of Working Capital Financing

Long-term loans

Numerous businesses apply for long-term business loans from NBFCs to meet their working capital requirements to meet the fixed monthly liabilities. They use the borrowed funds to meet their working capital deficits and more.

Retain profits

Apart from making payments to shareholders or investing in newer ventures, a lot of businesses keep a portion of their profit to use it for working capital. This omits the need to take loans or pay interest.

Issuing debentures and equities

In case a company is short on funds and is investing in a large-scale venture, they may decide to rely on issuing debentures or equity stock. This can be done by conglomerates especially in cases when large funds are needed.

Uses of working capital

Working capital is essential for any business to run smoothly. Following are some common purposes as to what working capital can be used for:

  1. Maintaining inventory
  2. Paying credits on time
  3. Contingency funds
  4. Managing short-term liabilities
  5. Meeting unpredictable and unforeseen expenses
  6. Meeting day-to-day expenses in business

There are several financing options like SME and MSME loan to resort to if a business has a working capital deficit. Every method has its own advantages and concerns. But many SMEs still don’t know how to properly finance their business in times of financial crisis. And also most of these ways are not really friendly to the business finances.

A healthy working capital is a vital for any business. As a business owner, you should opt for external assistance in case you face a situation where the business is short on the required funds. Opt for financial institutions which offer the best repayment terms and benefits to make it easier for you to repay such loans. This way, one can overcome the challenges which small business owners generally face.

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