A loan that is taken to finance a company’s everyday operations is known as Working Capital Loan. These loans are ideally used to provide the working capital that covers a company’s short-term operational needs. These needs may include costs such as rent, debt payments, and payroll. In this way, the working capital loan definition is corporate debts that are used by a company to finance its daily operations.
How does a Working Capital Loan work?
At times a company does not have sufficient cash in hand, or it doesn’t have enough assets for liquidity to cover day-to-day operational expenses. Thus, it applies for a business loan. Companies that have high seasonal sales generally rely on working capital loans to help with the dips of reduced business activity.
Working Capital Loans for Small Business
A lot of companies do not have steady revenue throughout the year. For example, manufacturing companies and construction companies have cyclic sales that match up with the needs of retailers. Most retailers make their sales during the fourth quarter – that is, the holiday season as compared to any other time of the year.
Manufacturers usually conduct most of their production activity during the summer months and get their inventories ready for the fourth quarter. This helps them to supply retailers with the proper amount of goods. And, when the yearend hits, retailers diminish manufacturing purchases, and they focus on selling their inventory. This process consequently reduces manufacturing sales.
Manufacturers with this type of cyclic sales often require the best working capital loans to pay wages and other expenses during the dull period of the fourth quarter. Manufacturers repay their loan by the time the company hits its busy season and no longer requires the financing.
If the borrower misses his payments on a working capital loan, it may harm the business owner’s credit score, if a loan is tied to his credit.
Benefits of a Working Capital Loan
The most vital advantage of a working capital loan is that it’s easy to attain and lets business owners economically cover any gaps in the expenses of the company. That is why the borrower usually opts for the instant working capital loan. The other evident benefit is that it does not need an equity transaction, which means that business owners have full control of their company, even if the financing need is dire.
Some working capital loans are unsecured, which are known as unsecured working capital loan. In that case, a company is not obligatory to put down any collateral to secure the loan.
If a borrower chooses a secured business loan, he will have to put down collateral for a working capital loan. That needs an asset or a property to complete the collateral loan process. There is a constant fear of losing personal property or liquidity of the assets. Most business owners usually apply for unsecured working capital loans as they don’t have enough assets to put down collateral.
However, there are some minor drawbacks to this as working capital loans are often tied to a business owner’s credit; any missed payments or defaults will hurt the borrower’s credit score.
When should you apply for a Working Capital Loan?
The most important use of this loan is to finance the short-term operational needs of a company. This is why it is also known as short-term working capital loans. When a business owner or a company doesn’t have enough funds in hand for dealing with their daily expenses, they generally apply for the working capital loans in India.
In other words, these loans are the corporate debt borrowings that are used by a company for handling their regular expenses. There are a lot of companies in India with a lack of stable revenue throughout the year. They work on a cyclic sales structure that depends on the needs of the retailer. That’s why they need fast working capital loans.
As explained before, the working capital loans are made for a specific purpose, i.e., handling the daily business operations optimally. However, there are some other reasons as well for borrowing money from a lender.
Have a look at the topmost important reasons for taking the small business working capital loan.
- Fluctuations in Seasonal Sales: usually, it is the reason to take out a working capital loan in India. It helps the borrower to pay the everyday expenses, especially when the sales go down. There is also a possibility that business owners take out a working capital loan before a busy season for allocating their capital somewhere else.
- Works as a Cash Cushion: The working capital loan comes in handy if the business doesn’t have sufficient cash in hand. This ensures companies to have additional capital to pay the expenses such as salary, bills, and other working capital in case of any emergency.
- Balance out Non-steady Cash Flow: Some companies take a lot of time for paying invoices, and that’s the reason their inventory takes a lot of time for turning it over. The working capital loan can be used to boost up the cash flow so that they always have the money to pay their expenses or whenever they need it.
- Capitalising an Optimum Opportunity: It is extremely frustrating to lose a huge opportunity due to inadequate funds. Different types of working capital loans can help a business owner in grabbing that opportunity with both hands by offering the required funds. This will turn out extremely good for the business in the long run.
So if you own a cyclical business and are facing regular risks and challenges that create trouble in your annual revenues, then you should go for a working capital loan. These loans can soak up the blows created by these risks as having an adequate amount of cash flow is the key to success.
It will not only help you in investing in the future operations of your business but also cover your day to day operating expenses. The working capital loan will lend a hand to your business to fill up larger orders by covering the expense of manufacturing and shipping the products. It will help your business until you get the payment for your order.