Working Capital Management

Updated: May 31, 2024

Key Insights

Working capital management is a critical tool to combat pressures faced due to economic headwinds.

Benchmark your working capital ratios against industry standards to understand current performance.

Taking steps to tighten controls and processes can significantly improve underlying profitability and free cash flow generation

Why It Matters

Businesses are facing headwinds as a result of the current economic climate. Increased borrowing costs, rising inflation, and severe supply chain challenges have the potential to greatly impact the financial performance of your business and those of your customers and suppliers. Internal controls and processes should be reviewed carefully to ensure the business can withstand any pressures that may arise from recessionary conditions. Properly managed working capital can significantly reduce trading risk, drive higher margins (or sustain during times of high inflation), and increase free-cash-flow generation of the business.

Measuring Working Capital Ratios

There are numerous ratios used to track working capital performance. Below are four ratios that are a good starting place. It is important to research benchmark ratios for your specific industry as they can vary significantly.

Practical Strategies

Buying Controls – Tighter buying controls can reduce inventory on hand without causing stock-outs resulting in lost sales. Conversely, taking advantage of early payment discounts offered by suppliers can significantly improve margins.

Stretching Accounts Payable – Taking advantage of full supplier credit terms by excluding payables not yet due from regular payment cycles reduces net working capital and interest expense on the line of credit.

Focus on AR – Tightening processes to follow up on over-due AR including, where necessary, stopping or tightening credit on accounts that are stretching beyond standard credit terms can significantly reduce credit risk and improve cash flow. In some cases, consideration should be given to upfront deposits.

Engage with your Lender – Many private companies operate without a line of credit or operating line. A properly structured working capital facility can greatly assist with cash flow management and greatly reduce the amount of cash tied up in working capital. This can allow a business to use free cash flow to capitalize on higher growth opportunities such as capital projects and acquisitions.

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