What is Working Capital Management?

Working capital management is the management of a company’s short-term assets and liabilities to ensure the most efficient use of resources and maintain the financial health of the business.

Working capital management involves balancing a company’s current assets and liabilities, such as cash, accounts receivable, inventory, accounts payable and other short-term debt. Companies use working capital management to maintain the optimal level of current assets and liabilities in order to meet their operational needs while preserving liquidity.

How Is Working Capital Calculated?

Working capital is the amount of available capital a company holds that it can easily use for its daily operations. Working capital is representative of a company’s short-term financial health, its liquidity, and its financial well-being. Positive working capital shows that a company can meet its short-term obligations and maintain its daily operations.

Working capital is calculated by subtracting a company’s current liabilities from its current assets.

Working Capital = Current Assets – Current Liabilities

Additionally, it can be helpful to calculate the working capital ratio, also known as the current or liquidity ratio. To calculate the working capital ratio, divide a company’s current assets by its current liabilities.

Working Capital Ratio

Working capital metrics are essential for measuring available funds for operations and growth.

Why Is Working Capital Important?

Working capital is important because it is an essential part of any business’s financial health. It represents the money used to fund daily operations, pay bills, and make investments.

If companies do not successfully manage their working capital, businesses may struggle to pay their bills, hire new employees, upgrade equipment, or invest in new projects. Effective administration of working capital is essential to running a successful business.

What does it Mean When Working Capital Is Negative?

Negative working capital occurs when a company’s current liabilities are greater than its current assets. Since working capital is a useful measure of how effectively a company is functioning, negative working capital indicates that a company is not financing its daily operational needs.

Negative capital means that a company is struggling to pay off its short-term debt with its liquid assets and may have difficulty in meeting its financial obligations. Negative working capital can be a sign of financial distress and may also be an indication that a company is in need of restructuring. On the other hand, an excess of working capital can mean too much money is allocated to daily operations.

Negative working capital can have a significant impact on a company’s operations and financial health. Consequences of negative working capital include:

  • Cash flow problems, as the company is unable to meet its financial obligations
  • Reduced profitability
  • A decrease in the company’s credit rating
  • Inability to secure additional financing

If negative working capital is not addressed, it can eventually lead to insolvency and bankruptcy.

How to Optimize Working Capital

Optimizing working capital involves finding the right balance between current assets and current liabilities to achieve the most efficient use of resources. It entails a careful assessment of key areas, such as inventory management, accounts receivable, accounts payable, and cash flow forecasting. Simply put, optimizing working capital means mobilizing liquidity by injecting cash into supply chains.

The use of a working capital program is an effective way to optimize working capital. A working capital program operates to reduce supply chain risk and optimize cash flow to meet enterprise liquidity needs through payables finance and receivables finance solutions. Such programs allow organizations to fully leverage their supply chain and optimize payment terms, while also improving the relationship between buyer and supplier.

A program to optimize working capital may involve offering suppliers the ability to take early payments for invoices on demand, which has the following benefits:

  • Supports and protects suppliers
  • Shields organizations from shocks
  • Allows suppliers the ability to do more business

With a working capital program in place, organizations can easily tie sustainability objectives with financial incentives to encourage better behaviors as opposed to punishing suppliers for negative behaviors.
Overview of working capital management

Another supplier finance solution that can help unlock working capital is reverse factoring. Reverse factoring optimizes cash flow by allowing sellers to be paid early for unpaid receivables from customers.

To find out how one company effectively uses reverse factoring to transform supplier finance, read the following Kyriba success story: Modernizing International Supplier Finance with Reverse Factoring Programs.

Working Capital Management Strategies for Financial Institutions

Financial institutions in particular can benefit from offering working capital programs to their corporate clientele. Such programs can differentiate a financial institution from the competition and foster better relationships with corporate clients. Financial institutions, such as banks, will often partner with technology vendors to create white label programs for supply chain finance.

Some of the reasons banks choose to partner with technology vendors are:

  • SaaS environment: eliminates the need for technical hardware and support
  • Highly configurable software: customizable features that easily adjust to programs (by buyer, funder, and jurisdiction requirements)
  • Automated processes: loads files, e-notifications, sell offers, purchases, early payments, and final settlement
  • Fully-integrated products: technology vendors like Kyriba makes it easy to deliver a fully integrated product that can be customized and branded to proper specifications, such as marketing and website content, translations, URLs, privacy notices, email templates, and branded web portals.
  • Stand out from the competition: elevates and differentiates a financial institution’s offerings, both in the short- and long-term

Choosing the Right Working Capital Solution

The right solution is critical to successful working capital management, whether or not an organization uses a payables finance or receivables finance program.

When evaluating software and vendors to support these programs, it is imperative that organizations look for a solution with expert teams, a multi-funder platform, program flexibility, supplier onboarding, and a complete workflow — including cash visibility, forecasting, payments, and pre-built ERP integration.

Kyriba’s Working Capital Solution meets these criteria and enable companies to improve payables and receivables management, increasing cash conversion and accelerating cash flow.

Below are some of the benefits Kyriba clients are taking advantage of by choosing Kyriba’s Working Capital Solution, including mitigating supply chain risks with flexibility, certainty, and corporate responsibility:

  • Flexibility: with supply chain finance, dynamic discounting, and purchase order financing, companies use liquidity from the most efficient sources at different stages of trading
  • Certainty: an integrated cash forecasting solution increases the accuracy of cash and working capital projections, enabling finance and treasury teams to optimize their use of internal and external cash pools to unlock additional liquidity for suppliers across the globe
  • Sustainability: buyers can more easily work with sustainability-minded businesses who have greater access to affordable capital for all suppliers and the capacity to supplement corporate social responsibility (CSR) and environmental, social, and government (ESG) programs

Kyriba’s cloud-based treasury and finance solutions can help you take control of your working capital with modules such as dynamic discounting and approved payables financing (supplier finance), including a special hybrid of both.

Kyriba’s supply chain finance (SCF) solutions, which is also part of the Kyriba’s Working Capital Solution, prioritize the customer experience – from supplier onboarding to ERP integration to funding requests and reporting. System users enjoy a seamless experience, staying informed and engaged without sacrificing convenience.