Business owners need to maintain sufficient levels of working capital to fund their operations and service debt throughout the year. Small businesses without access to large lines of credit are particularly vulnerable to the problems caused by a lack of working capital. Understanding how to calculate working capital will help you keep abreast of your financial situation and take steps to address potential cash shortfalls.
Things You Will Need
Account payable and receivables reports
Cash flow statement
Gather your financial records, such as your balance sheet, general ledger, cash flow statement and accounts receivables and payables reports.
List your current assets. These include cash and assets you can turn into cash quickly, according to the U.S. Small Business Administration. For example, you might be able to sell excess or old inventory you don’t need in two weeks’ time, as opposed to selling your office building, which could take more than a year. Include pre-paid expenses you can recover if requested.
List your current liabilities, which are those you must pay within one year. This includes amounts owed such as bills you’ve incurred for materials, equipment or services rendered, sales taxes, current payroll, benefits contributions and short-term credit repayment obligations.
Subtract your current liabilities from your current assets to determine your working capital number. If your current assets add up to $150,000 and your current liabilities equal $85,000, subtract $85,000 from $150,000 to determine that you have $65,000 in working capital. It is possible to have negative working capital if your liabilities are greater than your assets.
To get an idea of the working capital you have available that won't require you to sell assets important to running your business, run a calculation that includes only the assets you expect to sell during the year. For example, while you might be able to sell a production machine in 30 days, if you can’t make your product without it, you would not be able to convert it to cash without damaging your business.
Project your working capital every quarter to identify any potential cash flow problems you might have during the year. This will allow you to take steps to maintain proper amounts of working capital throughout the year.
Always know your credit availability, which you can use as a cushion to pay bills or make purchases during a cash crunch. This will help you avoid having to sell current assets you might later need to replace at a higher cost, or without which your operations will suffer.