The capital, which is required by the business organization for meeting up with its day to day operations is called working capital. Such capital is not acquired with the purpose of purchasing long-term assets, or for making any investment instead, such an amount is obtained for covering wages and accounts payable. Organizations that have cyclical sales or high seasonality are dependent on the working capital financial assistance so that they can get some help at the time of business inactivity.
Advantages of obtaining working capital
The immediate advantage that a company can get by obtaining working capital finance is that it enables a businessperson for covering any gaps that are there in short-term expenditures. Moreover, working capital financing is speedy financing. Plus, it is debt financing that is a loan acquired by the outsiders and hence there is no need of equity transactions.
This means that the owner of the company can exercise full control over the affairs of the company even if the company is in dire need of financing. Certain loans of working capital are not secured, which means that the business owner who is taking such a loan is not obligated to submit any collateral.
In other words, such a person is not bound to put his or her personal or business assets on the line. Nevertheless, the companies that have a good credit score can only become eligible for a loan that is unsecured. Companies that do not have a good credit score are obligated to deposit security for the loan obtained.
Sources of working capital finance
This has been a handy source of obtaining finances for various firms, but it is tough to obtain an overdraft limit from the banks nowadays. The alternative market for financing offers business overdrafts with flexibility and is one of the best ways of financing working capital whenever you require them. The disadvantage associated with using an overdraft limit is that the credit limits are generally low, but still, it is considered as a valid form of unsecured loan.
2) Invoice finance
The most common type of working capital loan is invoice financing. Together with various kinds of receivables, this type of financing is dependent on the money that your business owes, and you generally get a proportion of the value that your business owes through the debtor book or a single invoice.
Credit control is one of the elements of factoring, and it is a favorable option for small companies with the invoices of small amounts. On the other hand, invoice finance and discounting are the perfect options for large organizations that have creditworthy customers. However, it is an excellent method of meeting up with the short-term working capital requirements; the amount gets reduced by the value of customer invoices.
3) Commercial paper
This short-term source of working capital finance is a promissory note that is unsecured. It is nothing but money-market security provided by financially sound companies for acquiring money to deal with the short-term requirements of the business for ex. Payroll. It is backed by the bank which issues it, and a promise is made by the corporation to pay the face value on the date of maturity. As no collateral security is required to be deposited to acquire such working capital loan only the organizations that have an excellent credit rating will be allowed to sell a commercial paper.
4) Letter of credit
It is a document issued by a financial institution to a businessperson who sells goods and services. The lender is going to make payment for the services or goods delivered to the third party buyer. The issuer or financial institution will then ask for reimbursement from the bank of the buyer or the buyer himself. The letter of credit itself is a guarantee that the issuer is going to make the payment even if the buyer does not pay in the end.
5) Supply chain and trade finance
The working of this type of working capital finance is very similar to the invoice finance. This source of funding is mainly designed for the companies that are focused on the sale of goods instead of a rendering of services. Under this source of financing, an arrangement is made based on the creditworthiness of the buyers, where the buyer is allowed to make the payment later, and the supplier receives the amount of payment from the lender.
Here, in this case, the burden of delay in payment is on the lender instead of the buyer. Trade financing is a bit more complicated finance partnership, which involves international trade and arrangements related to the advance payment of the goods’ shipment.
6) Merchant Cash Advance
Another excellent source of working capital finance is obtaining a merchant cash advance from the MCA providers. This source of financing is excellent for those small business merchants who deal in credit and debit card transaction such as restaurants, café, pubs, and retailers.
The advance that you receive from the lenders of this source of finance is repaid as a fixed proportion of monthly credit card revenue. Plus, the business owner does not necessarily need to have proper credit to obtain an MCA from the providers of Merchant Cash Advance. Additionally, no collateral is submitted when you take this kind of cash advance.
7) Asset refinancing
If you are not able to acquire any financial assistance that is unsecured, then you must go for asset refinancing. As per this source, you are required to give off the personal assets of your business, and there is no need for you to give any personal guarantee.
So, this was all about working capital. The advantages of acquiring working capital and the sources from where you can obtain working capital finance. Every source mentioned above can help you in meeting with your day to day business requirements, but the most suitable choice for small companies is a Merchant Cash Advance.