It’s easier than you might think for even a profitable business to fall victim to insufficient capital. In the flurry of day-to-day operations, some business owners fail to make the time to properly manage working capital. Others, misunderstand the importance of doing so, or are unaware of how to properly analyze their financial statements. To avoid this mistake, consider the following 3 essential elements in optimizing your small business’ working capital:
Accounts Payable (AP):
Enhancing your working capital begins with procurement. The terms set by your business’ procurement department, PO compliance and the state of supplier relationships directly affect accounts payable balances. Many businesses have successfully centralized their procurement organization to gain better terms and prices, all with greater control.
Next, an analysis of payments aids in the quest for optimization. It allows your business to identify any inaccuracies in invoices (e.g. inaccurate matching of POs with invoices and duplicate payments). In addition, analyzing early payment discounts allows you to optimize the trade-offs between discounts received and interest paid.
Account Receivables (AR):
Your business’ supply chain department is key in the efficiency of the order-to-cash cycle. In implementing strong order analytics, you can minimize revenue leakage; it will also optimize orders, improve processing of orders and delivery time and reduce returns/damages. Thus, improving overall working capital.
Without an efficient invoicing process, invoices will not be sent out in a timely manner (immediately post delivery of goods/services). It will also be difficult to ensure invoices are accurate so disputes and non-payment can be avoided. Proper working capital analytics helps your business to make corrective and preventive action before there’s a major problem.
Clear collections strategies should also be put into place to reduce days sales outstanding (DSO). For thorough account management, credit policies must be created and strictly followed. Determining clients’ creditworthiness and setting terms is not a one-time process; it should be done frequently.
In recent years, businesses have begun placing more emphasis on inventory planning. Demand forecasting has become a critical part in minimizing inventory and protecting working capital. Sourcing to delivery is also a key element of inventory management. Many successful businesses choose reliable suppliers so that the purchase of goods can be delayed until just before the point of use.This allows the business to avoid excessive inventory, which results in cash being tied up in other areas (e.g. additional warehousing capacity and write-offs due to obsolescence or damages).
To avoid financial distress, working capital optimization is crucial. If your business is in need of additional capital, it might be time to turn to outside help. Working capital is not always easy to secure, especially if your business is considered high-risk. If this situation sounds familiar, consider what a high-risk specialist like First American Merchant can do for you.