Table of Contents

  • Summary
  • What Is Business Finance?
  • When Should You Seek Out Business Financing?
  • How to Calculate How Much Finance Your Business Needs
  • Access Financial Solutions That Work for You
  • Frequently Asked Questions (FAQs)

Summary

If you want to bolster your company's cash flow, invest in its future growth or protect it from unforeseen changes, you might benefit from external financing. However, it can be challenging for businesses looking to secure funding to determine how much is necessary. This guide helps business owners identify their capital needs by offering general insight and outlining two useful simple metrics. We then break down what cash flow solutions are available at MarketFinance, before answering some common questions.

There’s no denying it—cash flow is the lifeblood of every business. When it's positive, businesses can cover their expenses and invest in their future growth, but a business's survival can be put at risk when it's negative. If your small business is grappling with cash flow shortages or if you're looking to expand its horizons, it might be a good idea to look into business financing.

Available in both secured and unsecured forms, business financing can offer a lifeline to every type of enterprise. With so many different types available, your business is bound to find the perfect solution to meet its needs. However, even after you’ve settled on an option, you still need to determine how much capital your business requires.

To help you work out how much funding to ask for, this guide offers some simple ways to understand the financial needs of your business. From considering your company’s cash flow cycle to formulating financial projections, if you want to establish the amount of financing for your small-to-medium-sized enterprise (SME), read on to find out more.

What Is Business Finance?

In simple terms, business finance refers to funds that are available to businesses. Also commonly referred to as corporate finance, business finance can help organisations manage their cash flow difficulties and invest in long-term growth. It can also be added to a company's reserves to serve as a crucial buffer if any unexpected events occur.

Business finance can be accessed from various institutions, including traditional banks, building societies and private lenders. Popular types of business finance include business loans, invoice finance, asset finance, merchant cash advances, business overdrafts, business credit cards and commercial mortgages.

When Should You Seek Out Business Financing?

Generally, there’s no right or wrong reason to seek funding. It all depends on the financial security and future growth plans of your business. However, here are some common reasons why you may be tempted to secure funds from outside your company.

If You’re Lacking Working Capital

Working capital is the amount of money your business needs to meet its everyday needs. It's used to cover the price of employees, suppliers, and various other vital business assets. If a company doesn't maintain enough working capital, it may struggle to cover the cost of its short-term expenses. Not only does this stagnate the growth of the organisation, but it can also disrupt a business's liquidity ratio. Fortunately, by accessing business finance and fixing cash flow issues, companies can bypass these problems.

If You’re Looking to Expand

Another reason businesses access external funding is to invest in their future growth. Once you've covered your business's basic expenses, it's only natural to want to take it to the next level. Whether you're looking to invest in your workforce, expand internationally or undergo a digital transformation, business finance can help you achieve this. While the borrowed capital may temporarily put businesses in the red, financing for growth typically produces a promising return on investment (RoI).

If You Don’t Have a Safety Buffer

Another reason businesses seek out financing is to protect themselves against unexpected circumstances. Businesses have always been vulnerable to sudden changes in the market. However, for many, the events of Covid-19 have re-emphasised the importance of being financially prepared. If your enterprise is making enough to put capital aside each month, it's more likely to be resilient to bumps down the road. If this isn’t currently an option, business funding can help to provide you with a valuable financial buffer.

How to Calculate How Much Finance Your Business Needs

Unfortunately, there’s no perfect way to determine your business's capital needs. However, by considering the general attributes of your business, you can form a rough estimate of how much cash you want to keep on hand.

First of all, think about your company's size. If you are running a large enterprise, you could be in a position to allow your working capital to slip into the negative temporarily. Alternatively, if you run a small to medium-sized venture, you’re more likely to be vulnerable to market disruptions. Therefore, in most cases, smaller businesses should keep a little extra in their cash reserves.

Secondly, consider how your business makes money. If your business relies on physical inventory, you may need more working capital to keep operations running smoothly. This means that whether your business produces or retails goods, it's likely that you will need to acquire more significant financing. On the contrary, because the staff's knowledge is the greatest asset of professional service businesses, these enterprises rarely require as much funding as product-based enterprises.

These factors give businesses a general insight into how much financing they need. But if you’re looking for a more detailed estimate, we recommend making a detailed assessment of your company's past and future finances.

To do so, follow the following guide:

Work Out Your Cash Conversion Cycle

Also known as an operating cycle, a cash conversion cycle refers to the time it takes for a company to convert their inventories into cash. Since the length of this cycle indicates whether a business has enough cash to meet its obligations, this measurement can help businesses understand when they need capital and how much they may require. However, since this method only accounts for revenue gained from physical stock, it doesn't apply to service businesses.

You can work out your cash cycle with this equation:

  • (365 / (cost of goods sold / average inventory)) + (365 / (credit sales / average accounts receivable))

If this seems a little technical, don’t worry. Next, we break this equation down step by step.

1. Determine Your Company's Inventory Period

When calculating a cash cycle, measuring the inventory period should be the first port of call. An inventory period refers to how long a company holds onto its inventory before selling it.

To work out your inventory period, you need to determine your inventory turnover by dividing the costs of goods sold by the average inventory. These figures can be found on your company’s balance sheet or income statement. Once you have calculated your inventory turnover, you divide the total days in the inventory period (365) by this figure.

2. Establish Your Companies Accounts Receivable

Next, you need to figure out your business accounts receivable. This is simply the money owed to a company by its debtors.

To work this out, you need to calculate your business's receivables turnover. You can do this by dividing your credit sales by the average trade receivables you have on hand for a year. After figuring this out, you divide your account receivable period (365) by this number.
Use These Findings to Calculate Your Cash Cycle Lastly, you can establish your company's cash cycle by adding your inventory period to its accounts variable. This final number reveals the number of days in your business’s operating cycle.

Now you have your figure; you can compare it against the average cash cycle in your industry to determine how much funding your company needs. This figure varies wildly across industries. The Institute for Supply Management (ISM) reports that the median cash cycle time is 44 for consumer goods companies, five days for energy companies, 136 for healthcare companies, and 71 for industrial.

As a general rule of thumb, if your cash cycle is shorter than these industry averages, it's recommended that you look to secure more funding.

Make a Cash Flow Forecast

Calculating your business's cash conversion is one way to assess how much capital it needs moving forward. However, cash flow forecasting is another essential tool businesses can use to make decisions about their finances. What's more, since this metric doesn't rely on the sale of inventory, it can be used by service-based and product-based businesses alike.

A cash flow forecast helps business owners to estimate the amount of cash coming in and out of their business. Taking note of income and expenses over a certain period provides companies with a projection of their future cash flow, helping them make better-informed decisions about their companies finances.

If you like how this sounds, follow these steps to create your cash flow forecast.

1. Decide on a Time Frame

Before you create your future forecast, you need to decide on a timeframe. Cash flow forecasts can cover any time between a month to a year. So, depending on how long you’ve been in business and how detailed you want your estimate to be, carefully consider this timeframe before you start collecting the data.

2. Workout Your Income

After you've agreed on a time frame, you need to enter your business’s income throughout this period. This includes your sales, tax refunds, grants, and any potential royalties or investments from shareholders you may have received during this time.

We recommend keeping a record of your weekly or monthly income before adding it to determine your net income.

3. Workout Your Expenses

Next, to factor in your expenses, you will need to calculate your expenses for the same period. This refers to any money your business has spent, including salaries, rent, stock, finance charges like start-up costs, interest rates, and taxes.

Like you did with your income, you can jot down your weekly or monthly expenses before combining them to figure out your net expenses.

4. Use These Figures to Calculate Your Forecast

Finally, to determine your cash flow projection, subtract your net expenses from your net income. This will leave you with a positive or negative cash flow figure.

If your cash flow figure is in the red, your business may need to seek more external financing to protect itself against imminent cash flow issues. However, if your forecast looks positive, the amount of funding you need depends more on how much you want to invest in the future growth of your company.

Don't worry if your business is just getting off the ground or you don't have a detailed record of your finances. You can also gauge how much finance your company needs by reaching out to financial advisors. By talking to the experts, you can get help identifying your cash flow needs and establishing how much capital you may want to invest into your business. While these services often come at a premium, the financial advice they provide is often invaluable.

Access Financial Solutions That Work for You

Alt text: Two women laughing while standing in a cafe

No matter how much funding your business requires, you need to secure the right type of finance to back your venture. However, with each type of financing bringing its own distinct set of advantages and drawbacks, it can be hard to know which arrangement to move forward. At MarketFinance, we understand how hard it can be to get this right. This is why we offer a range of solutions that can be catered to the unique cash flow needs of most businesses.

If you deal with more occasional cash flow needs, invoice financing may be a great fit for your business. Invoice finance helps to free up capital tied up in invoices, helping businesses access money owed to them. If you choose MarketFinance, you could receive up to 90% of your unpaid invoices within 24 hours. This can be especially useful to businesses with longer than average cash conversion cycles. If you're interested or are looking to apply, head over to our website here.

Frequently Asked Questions (FAQs)

What is business finance?

Simply put, business finance refers to funds that are available to businesses. Business finance can help organisations manage their cash flow difficulties, invest in their long-term growth, or protect themselves against unexpected circumstances. Business finance can be accessed from various institutions, including traditional banks and popular types of business finance, including business loans, invoice finance, and business overdrafts.

When should my business seek out funding?

While there's no definitive rule for when a business should seek funding, many factors make external financing a viable option. For instance, if your business lacks working capital, is looking to invest in its future growth, or is interested in establishing a financial safety buffer, it may be wise to look into business funding.

What is a cash conversion cycle?

Also referred to as an operating cycle, a cash conversion cycle refers to the time it takes for a company to convert their inventories into cash. The length of this cycle indicates whether a business has enough cash to meet its obligations. Therefore, the metric is used to help business owners decide when they need capital and how much they may require.

How do you work out a business's cash conversion cycle?

If you want to work out your business's cash conversion cycle, first, you need to determine its inventory period and accounts receivable. Then you add these figures together to find out the total amount of days in your cash conversion cycle.

What is a cash flow forecast?

A cash flow forecast is a document that helps business owners to estimate their venture's future cash flow. To create the forecast, companies need to track their income and expenses over a certain period. This document can benefit business owners by helping them to make better-informed decisions about their companies finances.

How do you make a cash flow forecast?

If you're interested in creating a cash conversion forecast, first, you need to decide on an appropriate time frame that you would like to work from. Then, you need to find out your company's total income and expenses during this period. Finally, you subtract your net outcomings from your net income, and you will have a clear overview of your businesses finances.