How to manage your business Capital & Liquidity?

Updated: Aug 22, 2021

My business runs on Capital - What about yours?


All businesses need to assure a flowing capital to run their operation smoothly. Many times, depending on the timing of money going in versus money going out, a business may find a gray area where books show profitability but there is no enough cash in the bank, or vice-versa, there is cash in hand but the books show a loss. How can this be? More importantly, how to control and manage Capital & Liquidity without affecting the running of your business?


Let’s understand first some of the accounting principles, all business owners and new entrepreneurs need to know. Working capital is current assets minus current liabilities. For example, if a company has current assets of $100,000 and its current liabilities are $90,000, the company has working capital of $10,000.



Factors that determine the amount of working capital include:


Let’s understand first some of the accounting principles all business owners and new entrepreneurs need to know. Working capital is current assets minus current liabilities. For example, if a company has current assets of $100,000 and its current liabilities are $90,000, the company has working capital of $10,000.

  1. Accounts Receivable - How prompt customers pay for goods or services

  2. Accounts Payable- How fast the company must pay its suppliers

  3. The company's growth rate

  4. The company's profitability

  5. The company's ability to get financing

How to increase working capital?

  • Investment by owners

  • Profitable business operations

  • Sale of long-term assets

  • Long-term borrowings

How working capital can decrease?

  • Losses business operations

  • Distributing cash to owners

  • Purchasing long-term assets (without long-term financing)

  • Repaying long-term debt

Liquidity is the company's ability to convert its current assets to cash so that the current liabilities can be paid when they come due.


How liquidity could increase?

  1. Increasing working capital

  2. Delaying the payment of current liabilities

  3. Delaying the payment of long-term liabilities

  4. Omitting the distribution of cash to owners

ow liquidity could decrease?

  1. A decrease in working capital

  2. Purchasing and/or producing too many items for inventory

  3. A slowdown in the speed at which current assets are converted to cash

  4. Paying current liabilities too soon


Working capital vs. liquidity

A business may have a good amount of working capital shown in the books, however, if the current assets are in slow-moving inventory or receivables, the company may not have the liquidity to pay its obligations in time due. On the other hand, if a business has the advantage to pay its suppliers in a long-term like 60-days, this may give the business less working capital but it may provide the liquidity it needs to operate.


It is also important to understand the root cause for a change in working capital and/or liquidity in order to manage the operational logistics in a positive flow. Remember the more you know what is causing a problem, the better you can prepare to avoid it. Don’t look at a financial statement and think that it is an end wall of information. A financial statement provides you with lots of opportunities to look under the skin of your business to make it better.


Look at problems as opportunities to make everything better



A business may find a decrease in the company’s accounts receivable turnover and an increase in its average collection period. If so, ask "Why is this happening?” You may find that customers have slowed their payments of the amounts they owe. That should lead you to another question: "Why is a Customer not paying as agreed?" That could lead you to more questions about is the customer having financial difficulty or is the customer not pleased with the company's products or service. Then you have to find "Why?" questions. As you can see, you have to ask all possible questions as to the goal is to find the cause. If the customer is having difficulties, you may want to discuss a payment plan suitable to both in which you can retain a loyal good customer, and knowing when you will get pay will allow you to plan better the business budget. You may increase your prices, you may better your products or service if you find a customer is not totally satisfied, the fact is that when you find the cause you can put solutions in motion to better serve you.


Similarly, if the decreases in working capital and/or liquidity are due to unprofitable business operations, then begin "Why?" questions. The answers may be a need for reduction in expenses, find better competitive costs, negotiate with your suppliers, find better interest rates, ask for longer payment terms.



It is important for business owners to look at their financial statements on a monthly basis. Most business owners don’t want to bother with the accounting and run their business not knowing they can potentially outperform their initial goals if they have the necessary information at the right time. Take time to understand what the financial statement is trying to communicate to you. Remember even if all looks positive at a glance, there is always information hidden you can use to maintain a growing business in the long term.

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