The Hidden Cost Of Working Capital

Working Capital is one of those costs of buying a business that new business owners are either unaware of or leave to the last minute to sort out. Understanding why you need working capital and when to address this is as important as buying the business itself.

Working capital is like oxygen to a business! Working capital is what keeps your business running.

At NZ Business Brokers, we often discuss working capital in the context of buying a business, emphasising its importance for the buyer and the need to address this with both their financial adviser, typically an accountant, as well as their lender/funder.

What is Working Capital?

For most business owners, working capital is understood to be the cash on hand used to keep a business operational. Buyers need to assess the business’s working capital requirements to ensure they can sustain operations and manage day-to-day expenses after they have acquired the business.

Working capital to cover ongoing operational expenses such as:

• Wages
• Stock
• Accounts Payable
• Repay loans
• Tax
• Support growth
• Seize opportunities
• Common Pitfalls of Insufficient Working Capital
• Cash shortages disrupt operations
• Difficulty responding to urgent needs or opportunities
• Poor stock management and missed sales
• Strained relationships with suppliers due to delayed payments
• Increased borrowing and financial stress

FAQ’s

How do I calculate my working capital requirement?

Working capital is calculated as current assets MINUS current liabilities.

Is working capital the same as cash flow?

They’re similar, but not the same. Working capital provides a snapshot of the moment, whereas cash flow is an indication of the money the business can bring in over a specific period. If your working capital is too low, your business could find itself encountering difficulties.

Why is working capital important?

Working capital is a great indicator of the health of the business, and it’s useful not only for you but also for potential investors. Companies that end up going out of business usually do so because they couldn’t meet their current obligations.

What funding options are there for Working capital?

You can discuss this with your broker about the different funding options for working capital, including traditional bank loans, factoring, and other alternative financing solutions.

Some common funding options

• Adding working capital to the loan amount needed to acquire the business
• Separate working capital loan
• Line of credit in addition to the loan amount required to acquire the business

Why is it important to manage working capital?

Managing working capital effectively can impact a business's ability to grow, invest

in new opportunities, provide a financial cushion and maintain healthy relationships with suppliers.

Why is working capital important with the initial purchase of a business?

Transition periods are often unpredictable. Having ample working capital ensures you can manage any startup issues, maintain inventory, and retain key staff, all of which are crucial for sustaining business momentum after the purchase.

In summary, working capital is not just some magic accounting metric—it’s an essential indicator of a business’s ability to survive and grow.

Many potential business buyers have been caught out by not allowing for working capital when buying a business. Its essential that you seek the assistance of a professional advisor to help you. Proper due diligence on working capital can make the difference between a successful acquisition and a costly mistake.

www.nzbusinessbrokers.co.nz