Working capital finance

Your business’s working capital ratio is calculated as your current assets divided by your current liabilities. Relevant assets are cash plus liquid assets (i.e. assets that can easily be converted into cash), which include invoices (accounts receivable), stock (finished goods) and inventory (raw materials). They don’t include fixed assets with a life of more than one year, e.g. plant and equipment. Relevant liabilities are usually expenses due within 12 months. They include accounts payable plus any longer-term liabilities such as business loans, taxes, dividends payable and capital leases.

A healthy working capital ratio is 2:1. A higher ratio than this is not necessarily a good thing – it may indicate that you might have too much stock or that you could be investing more. If your business has a ratio below 1 (i.e. negative working capital) you might struggle to meet your working capital needs (e.g. paying suppliers and creditors) out of cash flow, even if you are profitable. You’d need to borrow to bridge the working capital gap, using one or more of these types of working capital finance:

• business overdraft
• short-term or medium-term business loan (i.e. working capital loan)
• revolving credit line
• invoice finance (i.e. invoice factoring and invoice discounting)
• trade finance (if you’re dealing with international buyers and suppliers)
• business cash advance (e.g. merchant cash advance)
• business credit card
• asset refinance
• purchase order finance
• supplier finance
• R&D tax credit loan.