Sources of Financing Working Capital

Working capital allows companies to finance and grow their businesses without the need for more expensive outside sources of funding. It includes current assets minus current liabilities. Thus, financing working capital involves increasing current assets and reducing liabilities. Accumulation of current assets can be done through financial transactions e.g. sales and retained earnings. Retained earnings is the primary source of current assets, which forms an important part of working capital. The key sources of working capital financing include:

  • Retained Earnings: these are the amount of money that a company retains from its annual profits after paying shareholders and creditors. Retained earnings are added to the company’s balance sheet as current assets.
  • Bank Overdraft: When a company is running short of cash for operations, it can borrow a certain among of money above the amount they have withdrawn as a source of financing working capital. This is required when they need cash to run business operations or meet short term financial obligations as they fall due.
  • Accounts Receivable: Accounts receivable or debtors can be turned into cash to meet working capital requirements of the company. Many banks, as well as non-banking financial companies, may provide businesses with invoice discounting facilities to get quick cash from their debtors.
  • Customer Advances: Working capital can also be financed by allowing customers to pay for goods in instalments. When a customer pays deposit for an item without taking possession of that item, the company gets liquid cash to run its daily operations.
  • Long-Term Loan: A company can take long term loans when their working capital is depleting and there is no other short term source is available. A long term loan from a bank covers more than 12 months.
  • Debentures and Equities: Business firms can turn to investors to fund their working capital. Shareholders, bondholders and other investors can provide funding for the company through bonds, debentures or equity.

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