Accountants calculate a company’s working capital using this simple formula: current assets – current liabilities = working capital. Current assets are all of your business’s cash, inventory, accounts receivable, and sales that can quickly be turned into cash. And your current liabilities are everything you need to pay over the next year, like payroll, mortgage payments, taxes on short-term debt, and supplier/vendor bills. Basically, your working capital is what you have left over for the year.
As your growth plans accelerate, your need to increase your working capital will also increase, which means increasing what comes in and decreasing what goes out. Everything makes sense so far, doesn’t it?
The question then becomes: how do you calculate the amount of working capital you will need to grow your business? Sharpen your pencils and keep reading.
A formula for growth
While calculating your working capital is relatively straightforward, figuring out how to grow it can take a bit of work on your part. Many business owners look to historical data to predict where they are, where they want to be, and what they will need to get there.
For example, let’s say you sell widgets and you have $120,000 worth of widgets in your warehouse. In the next month, you sell $10,000 worth of widgets and your expenses for the month are $5,000. This means that you have $5,000 left for the month. If you multiply that by 12 months, your working capital is $60,000.
This assumes that your assets and liabilities are constant throughout the year. Often this is not the case due to fluctuating sales, the need to increase or reduce staff, a shortage of parts or products resulting in price changes, etc. This is where some forecasting and planning comes in. But for the purposes of this example, let’s say your assets and liabilities stay the same.
Continuing with our widget example, if you want to grow your business by 10%, you will need to increase your monthly profit by 10%, or $500. That would make your working capital $66,000 ($5,500/month x 12 months).
How to increase your working capital
If you need access to extra cash to fund your inventory and accounts receivable, there are plenty of ways to do it. Depending on your business, goals, and timeline, you may want to incorporate one or more of these tips into your plan:
- Increase profit margins – To increase your profit margins, you can increase your revenue by increasing prices by selling more units or by reducing costs. If you think your customers may not be able to tolerate a price increase, try negotiating with your suppliers to reduce costs or offer volume discounts.
- Improve inventory management – Track and implement more efficient inventory management to ensure you have enough supply to meet customer demands, but not enough to tie up additional capital.
- Rework your current debt – Decrease your debts by paying off all the high-interest debt you can and consolidating the rest at a lower interest rate.
- Secure working capital financing – If you need access to working capital for payroll, inventory, supplier payment, or other short-term needs, a Chase working capital loan or line of credit can be a solution.
Speak to an investment banker to discuss products that can help optimize your working capital so you can grow your business.
For Informational/Educational Purposes Only: The opinions expressed in this article may differ from those of other employees and departments of JPMorgan Chase & Co. The opinions and strategies described may not be appropriate for everyone and may are not intended to be specific advice/recommendations for any individual. . The information has been obtained from sources believed to be reliable, but JPMorgan Chase & Co. or its affiliates and/or subsidiaries do not warrant its completeness or accuracy. You should carefully consider your needs and goals before making any decisions and consult with the appropriate professional(s). Prospects and past performance are not indicative of future results.
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