When you hear the term working capital, it’s easy to picture Leonardo DiCaprio ranting down the phone in The Wolf of Wall Street.
But, you don’t need to be a high-flying investor to get to grips with it. The truth is it’s a very simple metric that’s vital to any ecommerce business.
How does working capital work for ecommerce?
Working capital is what you’re left with when you add up everything your business has or owns and deduct everything it owes — your current assets minus your current liabilities. That makes it useful for working out your store’s operating liquidity and cash flow.
Ecommerce businesses face different working capital challenges than other business verticals. You pay for products in advance, sometimes days or weeks before you’ll receive them (depending on where they’re coming from and how they’re being shipped). That makes the cost of goods sold (building and maintaining your inventory) a sizeable expense. If you’re manufacturing products, the investment of capital and time will be even greater.
You need to store and ultimately ship these products to customers — both of which have costs. But before you even have any customers to ship to, you’ll need to invest heavily in paid media and other marketing to drive sales. When the sales do arrive, there’s a good chance that your payment gateway won’t release the funds as quickly as you’ll have to pay your suppliers or ad networks.
That means you pay almost all of your costs for any single item before you’ve sold it. There’s a lag between the money going out and the money coming in that constantly needs to be bridged. It’s easy to see where problems could start to creep in.
A healthy working capital ratio
So, how can your ecommerce business avoid all those problems and maintain a healthy working capital ratio? A ratio of between 1.5:1 and 2:1, where your assets are double your liabilities, is a good benchmark.
For some products, a ratio of even 1.25:1 could be considered decent. If you’re selling in volume, bringing in £1.25m and you owe £1m, that £250,000 might not be so bad.
You’ve got a few potential tricks up your sleeve to keep your working capital in good shape — you just need to work out which ones will work for your business and how you can apply them. Let’s explore the options.
Improving working capital by cutting supply chain costs
Reducing your costs is an easy way of improving your working capital ratio. Stop the money leaving the business. How do you do that without stifling growth?
Manufacturing and wholesale
The first area in which you can cut your supply chain costs is in your relationships with manufacturers and suppliers. Here’s how to do it:
Place bigger orders less frequently
Larger orders will allow you to achieve economies of scale. You’ll secure better prices by working with larger batches instead of multiple smaller batches.
Spending more on your inventory might sound like it would have the opposite effect of what we’re trying to achieve here. But if you lower the cost per unit and reduce the amount you’re paying upfront (which we’ll discuss later) it will pay dividends.
Be a good customer
Those bigger orders are one way to get on your supplier’s good side. You could also:
- Always pay your bills on time
- Be consistent in your order frequency (your supplier has working capital worries of their own)
- Be accurate in forecasting upcoming orders
- Communicate your plans as early as possible and stick to them
Ecommerce businesses are no strangers to loyalty discounts; it works both ways. Build long-term relationships with trusted suppliers and you’ll be rewarded with their best prices.
Use technology to help you
There is plenty of tech that helps to improve efficiency and relations in the supply chain. SupplyCompass streamlines communication around product development and delivery, while Evo Pricing improves demand forecasting to help you and your suppliers.
Use local suppliers
Building trust takes time, but being able to visit your suppliers at the drop of a hat certainly accelerates the process. Consider working with local manufacturers so that face-to-face contact and the comparative ease of resolving issues through a single legal system are likely to increase trust and extend payment terms.
Shipping and freight
You can also adjust the way your inventory is shipped to cut supply chain costs. Here’s how to make savings:
Ship less frequently
We touched on this already, but it’s worth taking advantage of the economies of scale that come from ordering more products, less frequently. If you’re paying per container, make sure the container is full and your shipping operations are as efficient as possible.
Don’t ship so far
The advantages of working with local suppliers extend to shipping costs. The cost of shipping from China has increased dramatically over the past couple of years, so this point is more important than ever.
Use a freight forwarder
Yes, another expense, but one that will be worth it if you’ve got a good freight forwarder who is shopping around for the most efficient way of getting your stock from A to B.
Storage and fulfillment
Cut down the amount you spend on storing your products to make more savings. Our tips are:
Choose products wisely
Paying to store products that don’t sell is a waste of money. Reduce your product range and constantly review stock levels to check you’re holding the right amount of each product.
Avoid bulky, low-ticket items
The worst-case scenario for storage (aside from products that don’t sell) is large, low-value items. Consider working with fewer products and choosing items that have a higher value.
Use tech to manage your inventory
The easiest way to maintain efficient inventory levels is to let technology guide you. Tools like Veeqo and Cin7 Orderhive help you to see what’s selling, what’s not, and when you need to reorder.
You could combine inventory management and fulfillment by using Huboo, which offers slick real-world storage and fulfillment with great inventory management software.
How can your marketing improve your working capital? Here are a couple of areas to consider:
Understand where your money is being spent and earned
Marketing can be a big drain on ecommerce working capital. Ad budgets, content, design, apps, and other expenses soon add up. Spend wisely by understanding which tactics and platforms are working best.
Triple Whale collates advertising across multiple platforms. This gives you at-a-glance information, better attribution, and gives you greater control over reporting.
Another idea is Juni, which gives a high-level overview of your liquidity, as well as breaks down those insights into specific acquisition channels and currencies.
Earn cashback on your ad spend
Instantly improve your ROAS by earning cashback on your ad spend. Juni gives eligible UK companies 2% cashback on spending for the first 30 days, and up to 1% thereafter — so you can improve your working capital without changing anything but your payment card.
Improving working capital by delaying your payments
If a big problem for ecommerce is that a lot of money goes out before any comes in, how can you slow down the speed at which money goes out?
Manufacturing and wholesale
Just like we mentioned in relation to the supply chain, the best ways of securing favorable payment terms with suppliers are:
- Be a good and consistent customer
- Place bigger orders
- Pay on time
- Work with local suppliers
One ecommerce business recently told us they only pay for their stock 30 days after delivery. They’re a UK business working with a UK manufacturer and that close contact has allowed them to negotiate payment terms that improve their working capital quite dramatically.
Here are some other things you can do:
Show your accounts
If you’ve got liquidity, flaunt it. When you’re working with new suppliers and a relationship hasn’t been built, sharing accounts showing cash in the bank or healthy credit lines can be a useful way to gain trust.
Use revenue-based financing
Have someone else pay your suppliers instead. Under their sell first, pay supplier later model, Treyd lends you the money you need for your inventory against future revenue. You pay this pack later, by which time you’ve started to sell the stock and bring in revenue.
Ad spending is fundamental to ecommerce. Here are some ideas to shorten the distance between paying for your ads and generating revenue from sales:
If you have a high spend on the big platforms (usually more than £5,000 per month for Google Ads and more than $10,000 over the last three months for Facebook) you might be able to get on invoicing terms. This usually gives you 30 days to pay for your ads.
Paying with credit is another way to secure a bit of breathing space. Juni is designed for ecommerce businesses and gives eligible UK companies credit lines of between £10,000 and £2 million, with 37 to 60-day payment terms and 0% interest.* That’s a useful window in which to recoup your ad spend. Plus you’ll get the cashback we mentioned earlier.
Improving working capital by increasing revenue
This might be the most obvious so far, but you can of course improve your working capital by increasing your revenue. That might mean selling more products or selling higher-value items.
The various ways of increasing ecommerce revenue would make an entirely separate article, but key areas for consideration include:
- Improving the performance or lowering the cost of your ads
- A/B testing ads, landing pages, and other factors
- Upselling to and retaining existing customers
Improving working capital by accessing revenue more quickly
The final way of improving working capital is to get revenue into your account faster. Some ways of doing this include:
Talk to your payment gateways
Get in touch with your account managers and find out what you can do to get your hands on your money sooner. As always, better customers carry more weight, so see if there’s a spending figure you need to hit to access better payment terms.
Similar to invoice financing, payment financing is when a third-party advances money you’re due to receive in exchange for a cut. Wayflyer is one of the leading companies offering this to ecommerce businesses. If you have a subscription or recurring payments due, Pipe gives you early access to that money.
Buy now, pay later
Offering buy now, pay later options on your store allows you to immediately access revenue that would otherwise have come later (or not at all). Used in conjunction with promotions and marketing, this can be a great way of spreading seasonal or patchy revenue into something more consistent.
To grow your business you need to continually invest in your working capital; you need to buy more things to sell. It’s not easy to do that when the ecommerce industry is geared towards paying most things up front, then waiting for sales to arrive.
To be as efficient as possible, you need to use all the tools available to:
- Minimize the amount you need to invest in working capital
- Maximize the return on your investment
- Reduce the gap between investment and return
As we’ve explored, you can achieve this by:
- Reducing supply chain costs
- Delaying payments to your suppliers
- Increasing revenue from your customers
- Accessing that revenue more quickly
Follow the steps that apply to you and you’ll be well on your way to a healthy working capital ratio and sustainable growth for your ecommerce business.
If you liked the sound of a card with credit lines of between £10,000 and £2 million, with 37 to 60-day payment terms, 0% interest, and ROAS-boosting cashback*, get Juni.
* For UK companies only, upon eligibility. Terms and conditions apply. Penalties and interest may apply to customers that default on payments. See website for details.
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