Working capital is a crucial financial indicator for companies, determining whether you have the resources to complete your current projects.
Here’s how it works:
Understanding Working Capital
The basic formula is: Current Assets – Current Liabilities = Working Capital.
However, creditors and/or bonding companies may adjust this to exclude non-liquid or unreliable assets, such as inventory, prepaid expenses, related party receivables, and past due receivables.
This adjusted working capital helps determine your credit or bonding capacity.
Why It Matters
Working capital helps you understand how much backlog your company can manage without financial stress. For small to medium trade or service providers, a general guideline is to use a multiple of 10.
For example, with $500,000 in working capital, a target backlog might be $5 million.
Multiply this by job turnover to find your target annual volume.
Balancing Risk
While taking on large projects is tempting, it’s prudent not to have more than half of your total backlog in one job. This reduces financial stress and ensures contract delivery without overextension.
Monitoring and Increasing Working Capital
Monitor and aim to increase your working capital as part of your financial strategy.
Profitable jobs, long-term borrowing, and selling long-term assets can boost working capital, while unprofitable jobs and cash purchases of long-term assets decrease it.
Understanding these principles can help your trade or service company grow on a sustainable path.
Are you ready to find the right type of capital to support your growth?
Contact me today, and let’s explore the best financing options for your business.
Stay tuned for more insights on how to manage your finances and grow your company
