What does increase in working capital mean?

An increase in working capital signifies that a business requires additional short-term funding to support its operational activities. This shift shows a widening difference between current assets and current liabilities, signalling business expansion but also pointing to greater financial needs.

An increase in working capital is often seen when a business is growing. As operations scale up, companies usually need to hold more inventory, offer credit to a larger customer base, and cover higher running costs. While such growth is usually a good sign but it needs careful financial planning to make sure sufficient funds are available.

Common causes include:

• Business expansion requiring additional inventory investment
• Increased sales volume leading to higher receivables
• Extended customer credit terms affecting cash collection
• Seasonal business cycles demanding inventory build-up

But increases aren't always beneficial. Inefficient inventory management, slow customer payments, or poor cash flow planning can artificially inflate working capital requirements. Businesses must distinguish between growth driven increases and operational inefficiencies.

From a cash flow perspective, working capital increases represent cash outflows. Companies must fund these increases through retained earnings, external financing, or improved operational efficiency. Rapid increases without corresponding revenue growth may indicate financial stress.

Companies should forecast working capital needs, secure appropriate financing and implement efficient operational processes to minimise unnecessary increases whilst supporting legitimate business expansion.