There are times when businesses do not have enough resources to meet day-to-day expenses and may have to rely on loans to survive. During these times, people ask for a working capital loan.
What is a working capital loan?
A working capital loan is debt that the business uses to carry out day-to-day activities such as rent, debt payment, and payroll. The loan is intended for short-term needs and not for long-term assets or investments.
The business owner’s credit score can be affected because working capital loans are tied to his credit.
Let’s understand the scenario between manufacturers and retailers, retailers do not have a constant or projected income throughout the year and will have to rely on a Business loan. There are times when retailers sell more products during the holiday season than at any other time of the year.
Manufacturers with this type of work model often require a working capital loan to pay salaries and other operational activities. The loan is usually repaid during the business’ peak season and no longer requires financing.
Apply for a working capital loan
Types of working capital loans:
Here are different types of working capital loans that will help you understand them better
Cash credit (CC)/bank overdraft:
The Treasury Credit (CC) is a short-term loan granted to companies to meet their working capital needs. On the other hand, a bank overdraft loan is a long-term aid offered by banks to individuals or businesses to withdraw money even with a zero balance.
Cash credit and bank overdraft may sound similar but serve different purposes. The purpose of CC is to help customers purchase raw materials, manage receivables and maintain inventory, and bank overdraft is to maintain operational activity.
The point that both small and large companies focus on is the interest rate. In CC, the interest rate is calculated on the amount withdrawn, and in bank overdraft, the interest rate is based on the amount used by the customer.
Bank guarantee:
A bank guarantee comes into play when a borrower or lender fails to repay the loan, the bank or financial institution will bear the losses.
Parties involved in the bank guarantee:
- Applicant: The customer who requests a bank guarantee and requests a loan from the creditor
- Beneficiary: The person who receives a partial guarantee.
- Bank: A financial institution that undertakes to sign and ensure full payment in the event of default by the applicant.
To treat:
- The applicant requests a loan from the beneficiary or the creditor.
- Both parties agree that a bank guarantee is required to advance the loan formalities.
- The applicant asks the bank to sign and ensure a bank guarantee
- The bank now offers a bank guarantee and can charge a commission or request a guarantee amount.
Letter of credit:
MSME full form is (micro, small and medium-sized enterprises) loans are intended to help companies finance their working capital needs and other expenses such as raw materials, the purchase of machinery and fixed assets.
The letter of credit is an unfunded working capital loan. It is similar to a bank guarantee type loan, but here the bank issues a letter of credit, and in case of non-payment by the applicant, the bank is responsible for full payment.
It is a document in which the bank promises that the seller will receive the agreed amount from the buyer without any delay. The bank will charge a fee, a percentage of the letter of credit, by offering the letter of credit.
Invoice Factoring:
Invoice Factoring is a short-term loan also calleddebt financing.” Let’s dig deeper into receivables financing.
When manufacturers sell goods or services to large customers, such as wholesalers or retailers, they do so on credit. It indicates that the customer does not have to immediately pay for the goods he buys. An invoice with the amount due and the due date of the invoice is submitted to the buyer.
Now, manufacturers must also meet their day-to-day operational needs and pay workers’ salaries. To deal with slow-to-pay accounts receivable or to meet short-term needs, companies opt for the financing of their invoices.
Working capital loans:
The working capital loan is an initiative to help entrepreneurs and encourage them to set up SMEs and MSMEs.
CGTMSE (Credit Guarantee Fund Trust for Micro and Small Enterprises) is an initiative to meet the financial needs of MSMEs. It is a trust that provides credit guarantees to financial institutions which thus help entrepreneurs.
The interest rate of CGTMSE is relatively low and calculated according to the profile of the client, the needs of the company and the cost of the project.
Purchase/Discount of Invoices:
Another good working capital for SMEs is buying/discounting bills.
As we all know, the invoice plays an important role in the purchase of goods and services. In this type of working capital loan, this invoice serves as the document to receive payment from the debtor.
If the seller needs cash, he approaches the bank with the invoice, which then applies a discount on the total amount of the invoice.
The discount is mainly based on the existing interest and the remaining amount is paid to the seller.
Trade credit
It is a B2B agreement in which the customers do not have to pay the amount upfront while purchasing goods/services. The buyer pays the amount to the supplier later than the due date.
Think of trade credit as 0% financing, which improves the financial situation of the company in exchange for goods and services. It’s a buyer’s benefit, helping a company buy, manufacture, and sell goods before paying for them.
This process helps businesses/buyers receive a revenue stream that can cover the cost of goods sold.
Ziploan
Do you have an entrepreneurial spirit but your financial situation prevents you from starting a business?
Ziploan is here to turn your ideas into reality. Our facility to start your business from as little as 1 lake to 7.5 lakes gives you a boost and solves all your worries about financial needs.
Create your future with us and generate income by connecting with our experts at 011 – 4310 – 9577. You can also visit our website for more information on loans and their aspects.
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Frequently Asked Questions
1) Temporary working capital
2) Permanent working capital
3) Gross and net working capital
4) Negative working capital
5) Reserve working capital
6) Regular working capital
7) Seasonal working capital
Components of working capital:
1) Current assets
2) Cash and cash equivalents
3) Accounts Receivable
4) Inventory
5) Accounts Payable
The goal of working capital management is to maximize operational efficiency. Effective working capital management helps maintain smooth operations and can also help improve company profits and profitability.
The working capital ratio is calculated simply by dividing total current assets by total current liabilities. For this reason, it can also be called the current report. It is a measure of liquidity, i.e. the company’s ability to meet its payment obligations as they come due.
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