It is known that a very healthy cash flow is a strong pillar for an MSME business. However, the balance between revenue and expenses could lose stability which can affect the healthy cash flow of a business, in such situations one of the most effective tools to stabilize the situation is working capital loan. And it is common for a business owner to look out for such financial aid to ensure the stability and growth of his/her venture. Such financial backing from financial lenders not only helps specific businesses but also the growth and stability of the country’s economy.
What is a Working Capital Loan?
A working capital loan is a loan offered for a short period of time traditionally by banks and other mainstream financial institutions to businesses specifically to meet their operational expenses. These expenses can include but are not limited to:
- Raw materials and inventory purchase
- Employee salaries and wages
- Marketing and advertising costs
- Utility bills and rent
- Accounts payable (supplier invoices)
Unlike the traditional lending forms which are usually encashed for long-term investments of a business like buying machinery or expansion or modifying existing infrastructure facilities, working capital loans are designed to be repaid within a shorter time frame, typically ranging from a few months to a year at maximum.
Types of Working Capital Loans
There are various types of working capital loans available in India, each catering to different business needs and financial situations. Here’s a breakdown of the most common options:
- Overdraft Facility: This flexible option allows businesses to temporarily withdraw funds beyond their current account balance, up to a pre-approved limit. It’s ideal for covering unexpected expenses or seasonal fluctuations in working capital needs.
- Cash Credit Loan: Similar to an overdraft, a cash credit loan provides a credit limit that businesses can utilize as needed. However, it comes with a dedicated loan account and typically requires collateral like inventory or receivables.
- Term Loan: This is a fixed-sum loan with a set repayment schedule and interest rate. Term loans are suitable for financing specific working capital needs, such as stocking up on inventory for a promotional campaign.
- Line of Credit: A line of credit offers a revolving credit limit, similar to a credit card. Businesses can draw funds as needed, repay them, and then re-borrow within the limit. This option provides greater flexibility for ongoing working capital requirements.
- Invoice Financing/Factoring: This method involves sharing your business’s current pending customer invoices to a financial lender at a discount price. You would receive immediate funds, however the institution collects payment from your customers later. From a reputation point of view many MSMEs don’t prefer this method.
- Short-Term Bills of Exchange (T-Bills): These are low-risk, government-backed instruments that can be purchased to raise short-term working capital. They offer a secure way to access funds with a fixed interest rate.
- Supplier Credit: Having excellent relationships with your suppliers can bring you benefits which are common among businesses. You can ask for credit periods which can help you in making delayed payments on an agreement. However it is important that you do this over a pre agreement and only if the vendors are completely okay with the terms/time period. It is recommended to make an agreement or contract on the same to avoid future disputes.
Significance of Working Capital Loans
Working capital loans play a vital role in the success of businesses in India, particularly MSMEs. Here are some key reasons why:
- Smooth day-to-day operations: The daily expenses of a business can be met with the financial inflow that comes via working capital loans, for any struggling business this could be of great help.
- Seizing growth opportunities: Opportunities could emerge unexpectedly and your business should be ready to take advantage of them at any cost. Having necessary working capital allows you to take on such chances and allows maximization of the business.
- Inventory management: Necessary stocks help you in meeting the demands of the customers and increasing cash inflow, online business loan like working capital loans helps in ensuring the availability of stocks within the business. No customer likes to hear that the in need products are “Out of Stock”, which could even lead to the business losing customers to competition.
- Improved cash flow management: By bridging cash flow gaps, working capital loans provide businesses with greater financial flexibility and control.
- Building credit history: Increasing credit score should always be a priority for an MSME as increases it’s credit reputation and more lending institutions will show willingness to give you required funds via loans when necessary.
Conclusion
Working capital loans are better availed from NBFC lenders if you are a small business as NBFCs tend to give loans even without needed collateral and are known to have much faster disbursal timeline and does follow digital processing which is better than having to do a lot of paperwork.
