8 Ways to Maximize Working Capital

What is Working Capital?

Working capital, also known as net working capital, is the difference between a company’s current assets, like cash, accounts receivable (customers’ unpaid bills) and inventories of raw materials and finished goods, and its current liabilities, like accounts payable.

Working Capital = Current Assets – Current Liabilities

1. Improve and Automate Accounts Receivables Collections

Are accounts receivable being collected in a timely manner? Encourage customers to pay on time by offering quick payment incentives. In addition, motivate your collections team (if you have one) with internal programs that offer incentives to collect outstanding invoices within the invoice payment terms.
Automating allows you to track inflows and outflows with ease. Make sure you have strong collection teams to chase delinquent customers.

2. Improve Accounts Payable

Negotiate better payment terms or replace them with new ones and improve management of the payment process. You should review the payment terms on your accounts payable as well as the payment terms on your accounts receivable. Balancing these terms so your company is in the most favorable cash flow position is critical.

3. Manage Inventory

Do not overstock your inventory. Make sure that finished goods are sold as soon as possible and are not idling away in the warehouse. Cut products and services that are not performing.

4. Analyze and Reduce Costs

Determine whether fixed and variable costs can be reduced. If you examine carefully, you will be able to identify expenses that are wasteful. By eliminating such expenses, you will have more liquidity for working capital. You can read more how this can effect your wealth > 10 Ways to Build Your Wealth.

5. Create Targets that Promote Desired Behaviors

Many companies will incent collections staff to minimize A/R over 60 days outstanding when, in fact, they should reward those who collect A/R within the agreed-upon time period.  After all, what would stop someone from delaying collections activities until after 60 days when they can expect to be rewarded?  Likewise, a purchasing manager may be driven by the purchase price and rewarded for buying when prices are low, but this provides no incentive to manage lot sizes and order frequency to minimize inventory.

6. Get Educated and Educate Personnel, Customers and Suppliers

There is more to working capital management than simply forcing debtors to pay as quickly as possible, delay paying suppliers as long as possible and keep stock levels as lean as possible.  A properly conceived and executed improvement program will certainly focus on optimizing each of these components, but also, it will deliver additional benefits that extend far beyond operational rewards.  All this underscores the need for ambitious executives to integrate working capital management into their strategic and tactical thinking, rather than view it as an extraneous added bonus.

A business imperative should be to educate staff to consider the trade-offs between various working capital assets when negotiating with customers and suppliers.  Depending on the usage pattern of a raw material, there may be more to gain from negotiating consignment stock with a supplier instead of pushing for extended terms – particularly in cases of long lead-time items or those that require high minimum-order quantities.

7. Identify Other Ways to Improve Working Capital

Your working capital position can always be improved by earning higher profits, issuing company stock, taking on more debt, and selling assets for cash. However, these strategies should only be considered as the last resort.

8. Celebrate Success in Reaching Targets

Emphasize the actions that helped you get there. Reward staff members who are able to collect dues effectively. Ask your people to remember what it felt like when they hit the target so they can motivate themselves to hit it again.