What you need to know about working capital loans

6 min read
Saumya Dwivedi

Most of the small businesses run on a tight cycle of investment and cash receivables (money out, money in). Often they are short of liquid cash to grow to the next level or grab a new contract coming their way. If you’re one amongst such businesses, then this article is for you. We are going to discuss everything you should know about getting a working capital loan for your venture.

Related: Top 10 small business ideas for 2019

4 steps to getting a working capital loan

There are many banks, NBFCs and private companies that offer various types of business loans. The Indian government also has several initiatives you might qualify for. Follow these steps to find the best loan for you.

  1. Confirm your eligibility.
  2. Check the processing time.
  3. Do they offer unsecured loans?
  4. Look for hidden fees or clauses.

Don’t let yourself be constrained by lack of funds. Read on to learn all about the many sources of loans open to you.

What is working capital?

Working capital is the money required to fund daily business operations like:

  • Employee salaries
  • Electricity bills
  • Rent
  • Purchasing new inventory

Unlike buying fixed assets like equipment, machinery or investing in land or buildings which are for long term, working capital is a short-term need of a business.

How to calculate the working capital you have now?

Here’s a simple formula to calculate your net working capital:

Working capital = Current assets - Current liabilities

Let’s look at the two parts of the equation.

Working Capital Loan Calculator and Pen
It takes a simple calculation to learn your current working capital amount.

Current assets

All businesses should have a balance sheet that lists both assets and liabilities.

Your business’s current assets include:

  • Product inventory
  • Accounts receivable (money due to come in)
  • Cash
  • Other assets that you plan to turn into cash within 12 months

Current liabilities

Your business's current liabilities include any expense that must be paid within 12 months:

  • The next 12 months of payments on long-term debts
  • Taxes
  • Employee wages
  • Accounts payable (payments due to vendors, etc)

By subtracting your total liabilities from your assets, you get your working capital figure. This is the amount of money available for ready use.

A business with sufficient working capital is not just self-sustainable but has a good reputation in the eyes of investors, lenders and suppliers.

Related: How to write a business plan

Why you might need a working capital loan

There are instances when a small business needs an infusion of cash to be pumped into the system.

Working Capital Loan Man Sitting at Restaurant
Businesses avail working capital loans to sustain them through slow periods.

Due to the seasonality of the business

Many businesses follow a trend, or seasonality, in their sales volume. While they are preparing for their peak season of sales, they may not be getting sufficient cash inflows to sustain the cost of production. In such a case, a working capital loan can be helpful to see them through the off-season.

The loan can be repaid once the demand for the product or service rises again.

Capitalising on a business opportunity

You may get a new opportunity — say a new contract for which you need to hire extra employees or buy additional raw material — but you will receive a small advance payment from the buyer up-front.

It is common for the balance to be paid after delivery of the finished goods.

The working capital loan comes to the rescue during these times. You simply repay the loan once you receive the balance payment from the buyer.

How to find a business loan

There are many banks, NBFCs, private companies and online portals that provide different types of business loans.

The Indian government has started several initiatives to provide financial aid to small and medium enterprises. These include the:

Working Capital Loan Man Holding Debit Card
MUDRA Card is a debit card issued against the MUDRA loan for working capital.

MUDRA Card is an innovative product which provides working capital facility as a cash credit arrangement.

To avoid becoming the victim of analysis paralysis with so many options, here are the steps you can follow for the right match:

1. Confirm your eligibility

To avail the facility of working capital loan, you need to check your eligibility for the loan as every loan provider has their own eligibility criteria.

The easiest way to find out if you qualify for a particular loan program is by using the links provided above. You can also stop at the nearest branch of major banks to request information in person.

2. Check the processing time

If you are in debt to the brim, you may need the cash immediately. Public sector banks take a longer time period to complete the process (from weeks to month) as compared to the private entities that are quick and hassle-free.

3. Do they offer unsecured loans?

If you are a startup or a new venture, then you may not have a substantial asset such as property to offer as collateral security.

Chances are you don’t have a long credit history and therefore it is hard to get OD from banks. In such a case, you may choose an unsecured loan from a private loan provider.

4. Look for hidden fees or clauses

You might need the loan quickly, but don’t rush through important clauses in the documents. Be sure to check the:

  • Interest rate
  • Interest reset clause (if any)
  • Payback period and schedule
  • Minimum loan amount
  • Processing fees (if any)
  • Hidden costs or clauses

Read the loan documents carefully as any unfavourable small condition or clause can lead to higher expenses later on. Once you’ve signed and the loan is approved, you’re committed to the terms of the loan.

Be a smart borrower

Working capital is often required by small and medium businesses — even those that are financially well-managed.

If used carefully, a working capital loan can help you to maintain steady cash flow, grow your business, take up new projects and progress well. However, one must be careful of choosing a reputable provider so that there are no glitches in the process. Don't let your financial constraints hold you back — go ahead and give wings to your dreams.