Managing working capital of a business is an art and science in and of itself. And, in fact there is a lot to learn if you are new in that regard. While there are several resources on the topic, this article is not for the uninitiated. This article is mainly geared towards those individuals who are already aware of the basics of working capital.
This article is meant to show to you how businesses in several different industries manage their working capital.
Now, the question you might be asking, is – why is this important?
Well, in the present times, with constantly changing business models and innovations in revenue models, it is of quite importance to be well aware of how different businesses in other industries apart from your own operate as well. Occasionally that may turn out to help you bring the best of both worlds when you are working on your own business.
That said, we asked some experts –
#1. What is your working capital strategy?
#2. Why do you think it suits your business?
#3. If it doesn’t, are you considering a change and how do you plan on making the shift?
And here are the insights we got-
Side Note – This is Part 2 of Improving Your Business Finances. Read the Previous Article on How to Manage Your Small Business Finances.
#1. The Real Estate Industry
According to Kyle, for the flipping and wholesale side of his business, he finds it’s necessary to have a detailed spreadsheet updated weekly with upcoming acquisitions, rehabs, sales, and refinances. It gives him a real time closely estimated amount of capital that his team have on hand.
He typically tries to keep about $100,000 in the bank as a type of emergency fund – sometimes a deal will come up that he wasn’t anticipating or a rehab will take an unforeseen turn, and having that cash on hand keeps everything flowing like it should. The spreadsheet takes a lot of that guesswork out of the equation, as it helps him to tell months out what his general cash flow will be.
But, how is this suited to his business?
Well, Kyle is in real estate.
In his words –
“For real estate specifically, I’m able to look at our capital needs and timing for each project, overlay them in the spreadsheet and know exactly what we’ll need when and what we have going on. With multiple projects at various stages, it is important to stay on top of everything so nothing falls through the cracks.”
And Kyle is happy with his strategy. He says – “What we’re doing currently is working. I made a slight change to how we acquire lines of credit in the past year. Previously I was using private loans primarily, but at 12% interest, it was getting really expensive. I switched to unsecured lines of credit at banks at about 7-8%. On even small loans, that can cut the cost of capital by $500 per month.”
While not strictly a strategy, Scott uses an electronic electronic payables and receivables system. In his own words –
“Optimizing our AP and AR with automated processes has greatly increased our cash efficiency and accelerated the cash conversion cycles. Automating our accounts payable process has saved us around 70% of our cash expenses.”
Scott further says –
“It’s been a profitable strategy because an electronic payment process has paved the way for better capital conserving payment terms, rebate structure savings and more cost savings.
Our receivables period and cash collection cycle have also been shortened by sending electronic invoices through accounts receivable technology. Electronic receivables have helped us reduce manual processing time, errors and ensure proper working capital management.”
#2. Investment Advisory Services
Mr. Kunal Sawhney is the CEO of Kalkine Group, offering equity research and recommendation services. Here’s how he manages his working capital –
“Our working capital management strategy is both aggressive and conservative. It helps us moderate the risk as well as maintain profitability.
The system has been consciously applied to get the best from both the approaches and monitor and use the current assets and liabilities to the best effect.
Central to the scheme is to ensure quick inventory turnover or reduce the inventory and manage the debt effectively. For instance, we make sure to pay the vendors on time.
In addition, we conduct the transactions – payables and receivables – electronically for fast processing. By combining the two approaches, we could maintain sufficient liquidity to take advantage of the emerging opportunities and maximum returns from short-term funds or investments.
Hence, we make sure a portion of the fund do not remain idle for long, helping us save interest costs. Furthermore, our working capital strategy helped reduce the risk of bankruptcy and rightly balanced the assets’ utilization ratio.”
#3. Pet Industry
John Howard is the Co-founder of Kitty Insight, a website geared for cat owners.
According to him –
“Our inventory management approach is the foundation of our working capital strategy.
Excessive stock can strain cash resources, while insufficient stock might result in lost sales and weakening customer relations.
Managing optimal stock levels is the best approach as the company risks losing sales due to a material shortage. Periodic inventory checks help keep track of various stock levels and alert finance to any recurring overstock or understock issues.
In addition, we believe that our working capital management strategy must benefit all stakeholders in times of crisis. As a result, we make timely payments to our suppliers and provide our customers with reasonable credit terms.”
#4. Phone Software Industry
Here’s how he manages his working capital strategy –
“I choose the right KPIs to measure and make metrics of target performances. It is a beneficial driving factor that can assess performance and working capital health.
To overcome the competitors, I consider my versions, use benchmarks, and compare them; then, I set targets accordingly. Many business agencies say that they are satisfied with their approach to assessing working capital. But, in reality, only 50% of them measure success using benchmarks.”
And, why does this strategy work for him?
Steven says – “By using the right KPIs, I can measure the success rate of my business, and with the help of DPO and DIO, I can track inventory and inventory turnover. Moreover, it helps me find a way to overcome my competitors and lead them at ease.
I could do that by going through the finance and performing data of my competitors by setting benchmarks that would help me in the comparison process.”
But, he is in fact looking forward to a change.
Even though the strategies suit his business, he is drafting plans to reduce inventory and increase inventory turnover. An increase in the inventory turnover cycles would help him achieve a higher net working capital calculation.
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#5. Web-based search software
Daniela prefers a hedging approach to working capital management. It specifies that the maturity of the financing should correspond to the cash flow characteristics of the assets being funded.
When taking a conservative strategy, the amount of working capital her business must keep is significant since it entails the supply of idle cash for unforeseen circumstances. Under an aggressive approach, the working capital need is significantly reduced, indicating a high level of risk, but the cost is reduced as a result.
When it comes to the hedging strategy, this component is neither too high nor too low to consider.
Daniela thinks her strategy suits her business because short-term funds are utilized to finance fixed and changing current assets, so aggressive strategies often have poor liquidity. Thus idle funds may get reduced.
Conversely, a cautious approach frequently has substantial liquidity. Hedging requires reasonable liquidity to balance idle funds and their cost. Further, the interest cost is greater than the other two working capital regimes. Naturally, it reduces profitability.
In general, aggressive programs provide the best returns due to their low cost. It is minimal but consistent.
Cindy Corpis is the CEO of SearchPeopleFree, a people lookup site.
Here’s how she manages the working capital for her business –
“Various elements of working capital, for example, cash, bills receivable, and inventory, need to be fully taken care of to manage the working capital of my business.
Here I focus on inventory management as it’s the essential component, which includes:
- Finished merchandise that my business offers for sale;
- Raw materials and work-in-progress, which require to manufacture of the end products;
Inventory management means investing an optimum amount of working capital in inventories, implying I should have invested not too high or low amounts.
During the onset of my business, I have made an excessive investment, which led to the blockage of funds.
To mitigate that, I have again tried to make a lower investment, which stalled the production process. That’s why I neither made the acquisition excessive nor inadequate.
Although it worked, in case it didn’t, I will control the expenses to safeguard the working capital as ignoring small costs could mount up substantially.”
Harriet Chan is the co-founder, and marketing director of CocoFinder.
According to her –
“Our working capital strategy is pegged on an 80/20 principle. We always seek to get as much return as possible from just 20% of our working capital. This approach ensures that we can still utilize 20% to get 80% value even when going through accounting periods with low working capital.
This strategy fits our company because, as a SaaS company, working capital can become limited at specific periods of the year, hence the need to be prudent to get the best results possible.”
Here’s how her working capital strategy operates –
“Our working-capital strategy is laid-back because of the limited operating costs our business have. Since we hire remote freelancers for reporting projects, we pay them in advance for whatever advance we receive from our clients. We settle their remaining dues after we receive full and final payment from the clients.
For a small business with a small team, our working capital strategy is absolutely perfect. Since we’re in the service industry, there’s no point in maintaining any stock or giving any credit to any of our clients. However, we’re planning to provide services in a subscription-based model and for that, we may need to rethink our working capital systems!”
#6. SaaS Industry
Olivia Tan is the co-founder of CocoFax, an online fax solution provider.
Here’s how she manages her working capital –
“The main intention of working capital management is to potentially preserve substantial cash flow to meet short-term operating costs and debt. I devised our company’s working capital by subtracting operating assets with operating liabilities.
According to my experience, current assets cover most things that can be easily modified into cash within 12 months.
These assets include cash, inventory, account receivable, and long-term investments. An excellent working capital strategy can decasualize how a company operates proficiently through invigilating and utilizing its current assets and liabilities for good effect.”
It suits her business because using cash management fundamentals, her organization can easily plan and control the use of cash. It also provides her with an optimum level of liquid cash that helps her compare risk and profitability. Using this, her organization can easily plan the utilization of resources with the available funds.
#7. E-Commerce Industry
He manages his working capital by utilizing daily payouts and he uses payability for this purpose.
As his strategy doesn’t require credit checks, and it provides daily access to our previous day’s earnings for a one to two percent fixed fee, Angus feels his working capital management strategy is suited to his business and he is therefore not looking for a change-up anytime soon.
Aviad maintains zero working capital for his business. According to him, he ensures that his current assets shall be equal to the current liabilities at all times. It helps him minimize his investment, allowing him to scale his business operations.
Instead of making a significant investment towards working capital, he focuses his resources on fixed assets. With that, it has increased the current valuation of his venture.
Aviad recently implemented this technique towards his logistical operations as it allowed him to hold minimum inventory without compromising on customer orders.
#8. Social Service Businesses Industry
Dave Ericksen is the founder and CEO of Waterzen, a social good company that makes information about drinking water more accessible and easy-to-understand.
Since his business is an inventory intensive business, his working capital strategy is to reduce inventory while increasing inventory turnover.
Dave states –
“I use the just-in-time inventory management system – this process entails ordering inventory as needed instead of stocking up earlier. Essentially, having less inventory on my shelves equates to more freed-up cash flow.
It also reduces risks associated with over-stocking, such as mass inventory loss in case of disasters.”
#9. Vehicle Maintenance Industry
Scott Killmer is the CEO of Car Windshields.
He mentions –
“My working capital strategy is based on my cash flow, so as to run operations in my organization, I need income from my business and also to help facilitate some organization roles I’ll have to part away with some cash which is part of my output.
I always manage this through key performance indicators so as to gauge both term and long term performance.
This is done by using the correct metrics that can project the working capital health. This method is favorable for my business since I get to benchmark my business performance on a fiscal quarter period or annually.
This creates an avenue to rate your performance and set targets to be archived within a specific period. It also provides projections on the cash flow and gives an analysis of the revenue, with that it’s easier to check on places that will need improvements.”
#10. Health and Legal Industry
Here is how he goes about it –
“A suitable quantity of working capital is required by every business to run smoothly. Furthermore, it must make the most efficient use of its operating capital. This is to assure a high return on investment and efficient use of fixed assets. This is only achievable if several aspects of working capital are well-managed.
Inventory is a significant component of many organizations’ operating capital. The phrase inventory refers to the following items:
1) Products that a company sells after they have been completed.
2) Components that go into finished things (raw materials, work-in-progress, and so on).
3) Raw materials are the components needed to create things that are then processed into final commodities.
Finished goods, on the other hand, are products that are ready to sell. The sort of inventory and quantity of components to be stocked now is determined by the nature of the business. To summarize, inventories are an important portion of a company’s current assets. As a result, a company must manage stocks efficiently and effectively.
Inventory management refers to allocating the most appropriate amount of working capital to inventory. This indicates that the investment is neither too low nor excessively high. The production process is slowed by a lack of inventory investment. Excessive investment in inventories, on the other hand, causes cash to be blocked. As a result, inventory investment should be neither insufficient nor excessive. This implies that a company must calculate and maintain an optimal inventory level.”
#11. Environmental Improvement Industry
“Our business model is intentionally low cost with high scale potential. Working capital consists of basically just paying for our server, as well as other related overhead costs like cell phone, etc.
It suits our business because our revenues and costs scale together, with a low overhead that’s easily covered by a relatively small number of customers compared to the total addressable market size.”
Wrapping it Up
You made it to the end. Hope you found something insightful that you can apply for your own business. Fact is, with the ever changing business models that present businesses experience, you can often take ideas and strategies in other industries and innovate by applying them to your own business.
Therefore I hope this piece will aide you to be able to find the best working capital management strategy that suits your business.
If you did find this piece helpful, be sure to give it a share or maybe even discuss this with your peers!