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working capital cycle

Any business whether big or small understands the importance of working capital as well as regular cash flow. Operating an organization without any one of the two is impossible. One way to regulate your company’s cash flow is with the help of a business loan, but there are other methods as well.

This alternative is related to maintaining the working capital cycle. If the working capital is properly utilized and rotated within an organization, then there are fewer chances of facing cash flow issues.

In case you want to gather more insights about these aspects, then we suggest you read this write-up.

Here you will be able to increase your knowledge about cycle of working capital as well as the meaning of cash flow. Along with this, we will even highlight how the two impact each other.

What is Working Capital?

The simplest way to explain the concept of working capital is in the form of a comparison. This comparison is made between businesses current assets and liabilities.

If the company has more current assets then its liabilities, then it has a decent amount of working capital. In other words, with the help of this working capital, the business will be able to overcome its liabilities in the short term.

The rotation between assets and liabilities is known as a working capital cycle. A company’s financial strength can be used by positive working capital.

If there is excessive working capital in a company for a long time; then they are not maintaining their assets properly.

What is Business Cash Flow?

Although the term cash flow is self-explanatory, we will still highlight its working mechanism. A business has regular cash inflow and outflow. This means they constantly receive and pay in cash for their services or resources.

This inward and outward movement of cash-equivalents or cash is considered the entire flow mechanism. By understanding the amount of cash flow with a company, you can identify its liquid assets as well.

Positive cash flow can allow the company to have a positive cycle of working capital. It can be used to settle debts and pay shareholders on a regular basis. Besides, availability of cash flow helps in reinvesting the money, which the business requires on a regular basis.

How Working Capital Impacts The Cash Flow?

Even though a lot of people might think that the working capital cycle and cash flow are disconnected, but they are not. Whenever there is an impact on the cash flow of the business, the working capital automatically changes.

Similarly, when the cycle of working capital of an organization is shifted, then it can affect the cash flow as well. In this particular section, we will give you a few examples of how the cash flow takes effect when the working capital is adjusted.

Example 1

Imagine that an organization has purchased an asset like a building. This would decrease the company’s cash reserve. Now, since the cash portion of the current asset is reduced, the company’s working capital cycle will also decrease. However, in this case, the current liabilities do not change, since the purchase is considered long-term debt.

Example 2

In the second example, let’s imagine that the organization is selling one of its fixed assets. With the money that you receive in return of your fixed asset sale, the cash flow of the organization will increase. Since the cash flow has increased, it will add more to the working capital as well. This will result in a stronger cycle of working capital.

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