How Much Working Capital Do I Need for a Small Business?
Small businesses are always on the hunt for financing. Having enough working capital can help your organization weather the storm of a bad season or take advantage of unexpected opportunities for growth. Having enough cash on hand can solve short-term problems and positively impact the long-term health of the company. But working capital for small business can quickly become a complicated issue. This is in large part because many small businesses apply for financing through older institutions like banks when more accessible online options such as Backd exist.
Larger companies have the benefit of being able to operate with negative working capital, while small businesses need to maintain positive figures to keep running. So, how can you figure out what that number is for your business to be successful?
How Do You Calculate Working Capital for a Small Business?
First, there are a few elements that will impact this number for every business, such as
Operating Cycle
Owner's Goals
Type of Business
Now that we understand what can impact the amount of working capital your company will need, we can work through the process of landing on that figure. Luckily, the formula you will use is straightforward; all you need to do is take your current total assets minus your current liabilities. For example, let's say your company currently has $350,000 in assets and $225,000 in liabilities. Using the formula would mean that you currently have a working capital balance of $125,000.
$350,000 (Assets) - $225,000 (Liabilities) = $125,000 (Working Capital)
$125,000 in working capital may sound great, but is that enough for you to keep you operational? To answer that, you'll need to go one step further and use the working capital ratio formula. Instead of subtracting your liabilities from assets, you will divide the two. Using our figures from the previous example, you would have a net working capital ratio of 1.55.
$350,000 (Assets) / $225,000 (Liabilities) = 1.55 (Working Capital Ratio)
Generally, a comfortable ratio is from 1.2-2. Anything below a 1 means that your company is at risk of being unable to pay off operating expenses or meet other debt obligations. With a ratio above one, you are able to create more flexibility for your company to use the working capital on high-priority areas.
Why Do Small Businesses Need Capital?
Here’s why: working capital is the best tool companies have to pay off immediate expenses and bridge the gap in areas where financing is lacking for a variety of reasons. These will vary across companies and industries, but generally, what is working capital used for?
General Operating Expenses: This is one of the most common uses of working capital. These expenses include payroll, marketing, insurance, rent, and equipment, to name a few.
Delayed Payments: For one reason or another, a customer could fall behind on a payment. If multiple customers fall behind at the same time, it can become difficult to stay ahead of your expenses and cost your business in the long term. You can use working capital to bridge the gap until these payments are made. It should also be noted that payments from customers are often the main source of working capital, so this situation may not be sustainable long term.
Business Growth: As a small business owner, you may not know when the next great opportunity will occur. This could be a wave of new employees or a raise/training for current team members.
Unexpected Expenses: The world of running a business is full of unexpected situations. Having working capital to adapt and cover the unseen expenses is vital to a company’s success. These unexpected events can be anything from a natural disaster that damages your office to an unexpected change in your market or industry.
What is a Working Capital Loan?
A working capital loan is a flexible financing option for small businesses to cover short-term expenses. While banks still remain a popular first option, online alternative financing sources like Backd are more present in this space than ever. Going through an organization like Backd is an easy and quick way to get the financing you need. Backd for example, has only three requirements to apply for their working capital financing:
At least one year in business
$300,000 in annual revenue
Ownership of the business bank account
If you meet these three requirements, you are on your way to receiving your financing from $10k to $2m.
Backd: The Future of Alternative Financing
With Backd, gone are the days of jumping through hoops of traditional lenders to acquire the working capital you need. Small businesses need flexibility and the possibility of getting financing without having to put up collateral. Waiting for financing is not a luxury that most small businesses can afford. Backd can provide solutions to small businesses across any industry. They do not require that your organization put up collateral and work to get your business the working capital it needs.
Apply today to get the fair financing your business deserves.
