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Working capital is the amount that every business sets aside to fulfill operational expenses like vendor payment processing and other essential small expenses to run a business unit that cannot be paid at a later date.
An effective working capital is a difference between the current assets and current liabilities added to the inventory holding. It means that the number of outstanding receivables minus the outstanding payables plus its inventory is a company’s working capital at any point. If working capital is positive, it is considered a strength. However, negative working capital can arise due to the nature of the business. For instance, garment sellers can generate positive working capital as they collect payment at the point of sale or eCommerce gateway and pay their vendors later. However, garment manufacturers have negative working capital. This is because their customers often take longer to pay than vendors.
When the working capital is negative, there are limited solutions to free-up cash. The business can either apply for a working capital loan or an overdraft. Contrarily, the business can take financially prudent steps and automate its account receivable solution to improve the finances. Optimizing accounts receivable has a direct and positive impact on the company’s working capital situation. With automation, tons of benefits overcome all the laggards that persist in a manual process and improve overall efficiency.
Accounts receivable impact on working capital
When DSO or days sales outstanding, also known as the debtor aging report, increases, it effectively means that one or more customers are delaying their payment. This may seem like a small problem initially, but it soon spirals into a full-blown emergency for a business of any stature. For precisely this negative impact, the issues related to the delay have to be nipped in the bud.
Reviewing accounts receivable management through automation can increase the cash flow by 30%-50%. In addition, persistent demands to pay the balance in a professional and user-friendly manner will help garner the receivable funds in time with automation tools.
The positive impact of automated AR on WC
- Dunning
Automated software is programmed to send gentle reminders to customers to pay their dues on time. Often customers fail to pay as they are busy and may not have checked their bills. But with consistent emails and sms notifications, payment reminders cannot be missed. Also, it is carried out professionally.
- Speed
The number of invoices that are raised and demanded through automation software is way more than a manual process. In addition, because of the sheer volume of the business, an automation tool can affect more cash inflows through consistent follow-ups and real-time updates.
- Time
Often when reminded, customers will pay way before the due date. This translates into positive cash flows with still time in hand to manage the cash. In addition, when the proportion of the AR is large, the received funds can earn interest before they are deployed for working capital requirements.
- Forecasting
When automation is used for collection, the forecast of future cash flows is more accurate. The collection patterns improve, and the ability to take future decisions based on cash flows is plausible. When there are negative projections, they are also stated through AI-aided automation.
- Risk-adjustment
Advanced real-time metrics make it easier for a business to avert possible risks or prepare for the least minimum impact through risk-adjusted decisions. For instance, if the cash inflows from receivables for an ongoing month are less, then discounts for future months can be stopped till the situation improves and cash flows are healthy again.
When collection metrics show signs of a customer turning into a bad debt, then through positive reinforcement, customer engagement, and credit agreement to the customer can be recalibrated. As a result, customers often come back to businesses that have supported them during their lean phase.
Summing-up
The automated accounts receivable process has a direct and positive impact on the working capital of the company. In precarious times, a business is highly dependent on positive cash flows to bootstrap its operations without diluting its equity. Therefore, businesses that intend to steer away from taking loans for working capital should inadvertently automate their accounts receivable process and improvise speed and efficiency.
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