Working capital finance is to your business venture what fuel is to a car – it provides the energy and impetus to move forward and overcome hurdles smoothly without stalling. Given the importance of working capital, it is obvious that it is the lifeline that ensures the survival of your venture, so much so that without it the set-up is likely to crash. Therefore, as an entrepreneur, one of your first priorities should be to establish a channel that would keep the working capital flowing.
An aspect that you must explore in this regard pertains to finding out the various types of working capital that lenders offer in terms of their characteristics, pros, and cons. To this effect, working capital could take the form of either of the following –
Working capital which is required during specific times of the year, namely the festive season or the harvesting season, is described as being temporary. Since the funds are required only during a particular phase, usually a short-term loan suffices and is paid back as soon as the activity draws to a close.
Some entrepreneurs set aside part of the working capital finance on a weekly or monthly basis to cater for unprecedented emergencies. This amount is referred to as reserve working capital, and is representative of an internal financial arrangement made by the venture to cushion the blow dealt by financial uncertainties.
In sharp contrast, permanent working capital represents the minimum amount that the venture requires to operate smoothly on a daily basis. Referred to as fixed or hard-core working capital, the amount is used to fill the gaps in the operating cycle and hence is required on an ongoing basis.
The sum of all the assets, namely cash, account receivable, marketable securities, and short-term investments is referred to as gross working capital.
When you subtract current liabilities from the gross working capital, the figure you get is the net working capital.
Regular and Seasonal
Working capital which is required for everyday operations, like paying wages, acquiring raw materials and so on is classified as regular, while that which is required during specific seasons is termed as seasonal.
For example, during the rainy season, shops use seasonal working capital to stock up on raincoats, umbrellas and plastic bag covers. As soon as the rainy season is over, the need for this extra amount of working capital also diminishes. However, the employees who work in the shop are likely to continue irrespective of the season, and hence their wages are covered under regular working capital.
In the event that the current liabilities exceed the current assets, the working capital finance is labeled as being negative. Although it indicates that the debt of the venture is more than the incoming payments, it can be used to the venture’s advantage if handled with foresight and planning. Rather than treat it as a drawback, an entrepreneur can use the concept to fund sales using money from external sources instead of his own.
Funds that come in handy for organizing a special event, like an award ceremony, a birthday party, an engagement, or a religious ritual, constitute the special working capital. This type of working capital finance is a once-a-year expenditure and is sufficiently large to cover the entire cost of the event.
Having grasped the types of working capital, the onus is on the entrepreneur to figure out how to handle them so as to derive the maximum benefit. That being said, benefits that render the working capital attractive are applicable to all types, namely short repayment tenure, reasonable interest rates, and quick disbursal.
In addition, lenders are not particular about how the loan amount is spent, thus proving the convenience associated with working capital finance.