What Can a Business Do to Increase Working Capital?

Introduction

Working capital is the difference between a company’s current assets and current liabilities. It measures how much cash and resources a business has to cover short-term expenses.

To increase working capital, a business can:

• Collect receivables faster
• Negotiate longer payment terms with suppliers
• Reduce excess inventory
• Cut unnecessary expenses
• Secure short-term financing if needed

Strong working capital means more liquidity, better cash flow, and the ability to invest in growth. In this guide, we’ll cover what working capital is, why it matters, and the most effective strategies to improve it — with actionable examples you can apply to your business today.

What Is Working Capital and Why Does It Matter?

At its simplest, the formula is:

Working Capital = Current Assets – Current Liabilities

• Current Assets: Cash, accounts receivable, inventory, and other short-term resources.
• Current Liabilities: Accounts payable, accrued expenses, and short-term debt due within 12 months.

Why Positive Working Capital Matters

1. Liquidity: Ensures bills, payroll, and supplier invoices can be paid on time.
2. Flexibility: Gives businesses the freedom to reinvest in marketing, staff, or expansion.
3. Resilience: Provides a buffer against market downturns, seasonal fluctuations, or supply chain disruptions.

💡 Example: A retail company with $500,000 in current assets and $300,000 in current liabilities has $200,000 in working capital. If sales slow down for a few months, this cushion allows the business to stay operational without scrambling for loans.

Common Misconceptions

• Profit vs. Cash Flow: A company can report a profit but still struggle to pay bills if receivables are slow or inventory is bloated.
• “More Working Capital Is Always Better”: Not always. Excess working capital sitting idle means missed opportunities to reinvest in growth. The goal is efficient working capital, not just a high number.

The 4 Areas of Working Capital Management

The key to increasing working capital lies in effectively managing four areas:

1. Accounts Receivable (Money Owed to You)

Accounts receivable (AR) is often where cash gets stuck. Every day an invoice goes unpaid is a day your working capital suffers.

Best Practices:

• Send invoices the same day work is completed or goods are shipped.
• Offer discounts (e.g., 2% off if paid in 10 days) to incentivize early payment.
• Use automated invoicing systems like QuickBooks or Xero to reduce errors and delays.
• Set clear terms upfront (Net 15/30) and enforce them consistently.

💡 Case Example: A B2B services firm reduced its average collection period from 60 days to 30 by introducing automated reminders and offering a 1.5% early-payment discount. The change freed up nearly $150,000 in cash flow.

2. Accounts Payable (Money You Owe Others)

On the liability side, extending accounts payable (AP) can improve working capital — but only if done strategically.

Best Practices:

• Negotiate extended payment terms with suppliers (Net 45 or 60 instead of Net 30).
• Take advantage of bulk purchasing to gain better terms.
• Pay strategically — don’t pay early unless there’s a discount worth more than holding the cash.

⚠️ Watch Out: Pushing suppliers too far on payment terms can strain relationships or cause supply disruptions. Always balance working capital goals with supplier trust.

3. Inventory Management

Inventory is one of the most common culprits for negative working capital. Too much stock ties up cash, too little risks lost sales.

Best Practices:

• Use inventory turnover ratios to measure efficiency.
• Implement demand forecasting to prevent overstocking.
• Shift toward “just-in-time” inventory if your supply chain allows it.
• Regularly review SKUs and eliminate underperforming products.

💡 Case Example: A small apparel brand discovered that 25% of its SKUs were moving less than once per year. By liquidating slow movers and doubling down on fast sellers, it freed up $80,000 in working capital and increased overall margins.

4. Cash & Short-Term Financing

Maintaining cash buffers and flexible financing ensures you can handle seasonal swings.

Best Practices:

• Keep a minimum liquidity buffer equal to 2–3 months of operating expenses.
• Use a revolving line of credit for emergencies rather than depleting reserves.
• Monitor your cash conversion cycle (CCC) — the time it takes to turn investments in inventory and receivables into cash.

💡 Formula Example:
CCC = Days Inventory Outstanding + Days Sales Outstanding – Days Payable Outstanding
A lower CCC = faster cash flow = better working capital.

Practical Strategies to Increase Working Capital

Speed Up Receivables

• Digital invoicing → decreases delays.
• Clearer contracts → reduces disputes and late payments.
• Tiered penalties → discourages clients from pushing deadlines.

💡 Tip: If your AR aging report shows a significant amount in the 60–90 day bucket, you have a working capital leak.

Extend Payables Responsibly

• Ask vendors for 45–60 day terms if your industry average is only 30.
• Align payment schedules with your receivables cycle.
• Leverage supplier financing programs offered by large vendors.

Optimize Inventory

• Introduce ABC analysis (categorizing inventory by importance and value).
• Discount obsolete or slow-moving stock aggressively.
• Integrate cloud-based inventory management tools.

Control Operating Expenses

• Audit all recurring costs quarterly.
• Re-negotiate leases, utilities, and vendor contracts.
• Outsource non-core functions like payroll or IT.

💡 Case Example: A tech startup reduced monthly burn by $12,000 simply by consolidating software subscriptions.

How to Raise Money for Working Capital

Sometimes internal optimizations aren’t enough. External financing can help bridge gaps.

1. Short-Term Financing

• Lines of Credit: Flexible, revolving, interest only on usage.
• Working Capital Loans: Best for covering short-term spikes in expenses.
• Invoice Factoring: Immediate cash from unpaid invoices, but fees apply.

2. Equity vs. Debt

• Equity Financing: Brings in investors; dilutes ownership.
• Debt Financing: Retains ownership but increases repayment obligations.

⚖️ Guideline: Use debt when cash flow is predictable, equity when growth requires significant capital and risk is high.

3. Alternative Financing

• Revenue-based financing (repay as a percentage of monthly sales).
• Merchant cash advances (risky — high fees).
• Fintech lenders (faster approval but often higher interest).

Common Mistakes That Decrease Working Capital

1. Over-leveraging: Taking short-term loans without clear repayment sources.
2. Inventory Hoarding: Buying in bulk beyond sales demand.
3. Loose Credit Policies: Extending credit without vetting customers.
4. Ignoring the Cash Conversion Cycle: Without tracking, inefficiencies compound.

💡 Pro Tip: Monitor your working capital ratio (current assets ÷ current liabilities). A ratio between 1.2–2.0 is generally healthy. Below 1 = liquidity risk; above 2 may signal under-utilized assets.

FAQs About Working Capital

How to improve working capital in a business?
Speed up receivables, manage payables carefully, optimize inventory, and cut unnecessary expenses.

How can working capital be increased or decreased?
It increases when assets (like cash or receivables) grow faster than liabilities. It decreases when liabilities rise or cash is tied up in slow collections or excess stock.

What are the 4 areas of working capital management?
Accounts receivable, accounts payable, inventory, and cash/short-term financing.

How to raise money for working capital?
Use short-term loans, lines of credit, invoice factoring, or equity funding.

Conclusion: The Key to Sustainable Cash Flow

Working capital is more than a finance metric — it’s the lifeline of every business. Improving it means you can withstand uncertainty, reinvest in growth, and unlock greater profitability.

Start with small wins: speed up receivables, negotiate better terms, reduce excess inventory. Then consider external financing if needed. The businesses that thrive long-term are the ones that master this balance.

📌 Next Step: Download our Free Cash Flow Management Playbook — packed with checklists and frameworks you can use to optimize your working capital today.

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