How does Cash flow through Working Capital?

Cash flows in a cycle into, around and out of a business.

•It is the business's life blood and every manager's task is to keep it flowing and use it to generate profits.

•If a business is operating profitably then it should generate surplus cash.

•If there are cash shortages while growing and showing a profit the business is probably “overtrading” – cash problems are due to timing differences when cash receipts from debtors lag payments due to creditors. See next slide.

•The more the growth the bigger the problem

•The more debtors / stock a business has on hand, the bigger the investment in working capital

So - Why Reduce Working Capital ?

•If a business can get money to move faster around the cycle (e.g. collect money due from debtors more quickly) or reduce the amount of money tied up (reduce inventory levels relative to sales) ..

•..the business will generate more cash to pay off creditors, so it will need to borrow less money to fund working capital ..

• .. and reduce the cost of bank interest

• .. and may have other investment options - the next investment in stock, other projects

•If improved terms can be negotiated with suppliers, ie get longer credit, finance needed for working capital from other sources is reduced