Learn something new every day
More Info... by email
"Trade working capital" is a term used to describe the amount of capital currently in the control of a business and not necessary for settling any of the debts that the business must honor in the short-term. Determining the amount of this type of capital involves identifying the current assets that are on hand and subtracting the total amount of current liabilities from that figure. What is left after subtracting those current liabilities is the amount of working capital that is not committed to any particular effort, and can be used to enhance the financial position of the business in some manner.
Determining the amount of trade working capital is helpful for several different reasons. The calculation immediately determines if there are enough resources on hand to efficiently manage the amount of current liabilities. If not, the calculation allows company owners to know how much must be raised in order to honor those liabilities, either by the influx of anticipated revenue from sales, using a business line of credit, or even selling off assets that are not crucial to the core operation.
When the amount of trade working capital is sufficient to cover current liabilities, this is an indication that the business is in stable financial condition, at least in the short-term. The ability to return debt obligations on time using resources that are already on hand points to an efficient management of the business, as well as adequate efforts on the part of the sales and marketing teams. With this scenario, there is no need to create future debt in order to cover the debts of today, a situation that can easily get out of hand and create severe issues in the future.
Companies can also use the idea of trade working capital as the means of identifying any resources that can be allocated to the purchase of interest or dividend bearing assets. For example, a small business owner who finds his or her business is generating extra capital that is not needed to retire debt obligations every month can use some of that surplus to purchase stocks or bonds in the name of the company, creating additional income sources. Even placing a portion of the trade working capital into a savings account with a competitive rate of interest allows the business to receive additional revenue over time. This in turn helps to hedge against the possibility of incurring unanticipated debts in the future that place additional stress on the all the sources of revenue generation that have been put in place.