.png)
Working capital is one of the most basic and essential signifiers of how well your SaaS business is doing. In general, you want to have a positive flow of working capital that gets replenished quickly with new revenue and is plentiful enough to handle any emergency expense that hits your business.
However, in an industry where a lot of money can be tied up in things like billing platforms that only release cash after a set amount of time, customer contracts that don’t get paid all at once, and expenses that aren’t expected to generate revenue for months or even years, working capital can get a lot more complicated than a simple formula of money in - money out.
If you’re wondering how to increase your working capital or create an organized, reliable method of ensuring you always have enough capital to go around, you’re not alone. Keep reading to learn what working capital means, how working capital works, and what SaaS businesses can do to increase their working capital.
What does working capital mean?
Working capital is a cash value that measures how much available liquid capital a company has to pay for short-term obligations and sustain day-to-day operations. It can be determined by finding the difference between your business’s current assets and its current liabilities. Understanding working capital is essential to effectively manage your business’s financial resources and driving growth.
How to calculate working capital
Working capital can be calculated with a simple formula subtracting your liabilities from your assets.
The biggest challenge of calculating working capital is determining which category each item on your balance sheet belongs to. Generally, current assets include cash, cash equivalents, accounts receivable, inventory, prepaid expenses, and other assets that are expected to be converted into cash within a year.
Current liabilities, on the other hand, encompass short-term debts, accounts payable, wages payable, unearned revenue, and other obligations due within a year.
What does current ratio mean, and how do you calculate it?
Another version of working capital is current ratio. Your current ratio, also known as working capital ratio, is determined by taking your current assets and dividing them by your current liabilities.
A ratio above 1 means your current assets exceed your liabilities, while a ratio below 1 means the opposite. In general, a higher ratio is good, as it means your company has a better ability to pay its short-term obligations. However, bigger isn’t always better—a current ratio that’s too high means that your company may have too much excess cash sitting around that could be put to better use.
1.5 is a good benchmark for a healthy current ratio.
How working capital works in SaaS
SaaS businesses can have unconventional working capital scenarios. Due to their recurring revenue models, time to cash can be significantly delayed, which can increase the need to get working capital from other sources in the meantime. SaaS companies also don’t have many traditional business expenses like inventory or operational equipment but do incur other expenses like infrastructure maintenance and high customer acquisition costs.
Because of this, it’s especially important to keep track of your working capital and ensure you have enough to manage your business effectively. Sufficient working capital enables you to scale operations, invest in product development, and seize market opportunities. It also provides the necessary financial buffer to cover expenses, such as payroll, marketing campaigns, and infrastructure maintenance, while waiting for revenue to materialize.
On the other hand, insufficient working capital can lead to decreased profitability and an inability to cover operation costs or short-term obligations, which can damage your business and financial relationships. It can also prevent you from taking advantage of strategic growth initiatives, investing in product improvements, or seizing time-sensitive market opportunities.
How to increase working capital in SaaS: 8 strategies to implement
So how do you increase your working capital to ensure you’re prepared to deal with unexpected costs or to take advantage of unexpected opportunities? Here are 8 strategies to try.
1. Cut unnecessary expenses
The most obvious way to improve your finances is to cut out anything that’s sucking up money.
Take a look at your balance sheet and identify any costs that aren’t absolutely necessary to keep your business running. The worse your working capital situation is, the more you should consider cutting out.
For example, a common expense in SaaS startups is cloud storage and data hosting costs. Try exploring different hosting providers that offer cheaper solutions, or see if there’s a more affordable pricing plan, such as a usage-based plan, that prevents you from paying for space or features you don’t use. The same goes for any technology you’re not utilizing to its full potential. Take an inventory of all your software subscriptions and determine which ones your team isn’t using.
Another strategy to cut unnecessary expenses is to leverage automation tools. Automation can streamline various operational processes, such as customer support, marketing, and data analysis, thereby reducing the need for manual labor and associated costs. SaaS companies can implement automation tools for tasks like lead generation, email marketing campaigns, and customer engagement, which not only improves efficiency but also helps in optimizing expenses.
2. Minimize customer churn
Customer churn can pose a significant challenge for forecasting growth and business health, as it interferes with projected revenue. If your ARR is based on anticipated revenue from 100 12-month contracts, and 30% of your customers cancel and demand refunds after six months, that can present a major problem for the way you calculate the rest of your financials—including your working capital.
To minimize churn, SaaS companies should prioritize customer retention and focus on enhancing the overall customer experience. A seamless and intuitive onboarding experience as well as a seamless overall interface and user experience with your product can contribute greatly to decreasing churn and keeping existing customers happy.
Enhancing customer support can also go a long way in minimizing churn. Prompt and effective customer support helps address customer concerns and resolves issues quickly, increasing customer satisfaction and loyalty. SaaS companies can invest in resources such as dedicated support teams, self-help knowledge bases, and live chat systems to provide timely assistance to their customers.
3. Reduce bad debt
Not all debt is bad, as startups that heavily rely on outside funding and debt financing know. However, some of it is, and it’s important to be able to tell the difference.
Bad debt refers to unpaid or delinquent debts from customers that are unlikely to be collected. Essentially, any time you sell to a customer on credit (or in any scenario where the full contract value isn’t paid off—such as a 1-month subscription charge that never gets paid), and the customer doesn’t pay even after repeated contacts, the money that would’ve been revenue now becomes an expense.
Like all expenses, bad debt can have a detrimental impact on working capital as it ties up resources that could be invested in growth and operational activities. SaaS startups need to be cautious about bad debt to maintain a healthy working capital position.
One way to reduce bad debt is by conducting thorough credit assessments before extending credit or entering into subscription agreements with customers. This involves evaluating the creditworthiness of potential customers and considering factors such as their financial stability, payment history, and industry reputation. By identifying customers with higher credit risks and refusing to work with them, you can take proactive measures to mitigate potential bad debt.
If that sounds like overkill for your product or service, another method is to simply implement more effective billing and collections processes. Make your processes as transparent and accurate as possible, and always ensure invoices are promptly delivered to customers. You can also leverage automated billing systems to streamline the invoicing process and minimize errors.
Finally, you should always establish clear payment terms and policies. Create set due dates and promptly follow up on overdue payments with reminders and escalation procedures. Don’t leave gray areas, and avoid allowing customers to access your product until they’ve paid in full, if possible. Implementing flexible payment methods can also help reduce the chance of non-payment.
4. Collect payments faster
Collecting payments in a timely manner is vital for maintaining a healthy working capital position. It provides businesses with immediate cash flow that can be reinvested to fuel growth and meet operational needs.
However, collecting payments isn’t as cut-and-dry in SaaS as it is in some other industries. Because SaaS relies on subscription- or usage-based pricing models that can vary greatly between businesses or even customers in a single business, SaaS businesses sometimes have to wait weeks or months to collect their revenue.
Aside from streamlining your billing and collections, one strategy to get your revenue faster is to consider obtaining upfront payments for annual contracts rather than relying on monthly or short-term contracts. However, this often involves sacrificing a portion of customers who can only afford your product in short-term payments. It also involves longer sales cycles, and the need to offer discounts to entice buyers—which means lost revenue.
Fortunately, B2B buy now pay later can help solve this issue. By allowing customers to pay in affordable short-term installments while the SaaS vendors get paid the full annual contract value upfront, B2B BNPL for SaaS can help companies offer long-term contracts and collect payments faster without the usual downsides. For example, Capchase Pay user CIENCE was able to reduce their time to cash from 15 days to same day.
5. Shorten sales cycles
Long sales cycles impact your working capital because they prevent potential revenue from becoming actualized revenue. Even since the economic downturn started in late 2022, SaaS industry sales cycles have been growing longer due to increased competition, complex decision-making processes, and the need for extensive product evaluations.
The longer the sales cycle, the more it can strain a company's cash flow and working capital. During an extended sales cycle, resources are tied up in nurturing leads, conducting marketing efforts, and negotiating contracts. This prolonged process delays revenue realization and can hinder your company’s ability to invest in growth initiatives, meet operational expenses, and improve working capital.
There are several things you can do to shorten your sales cycles. One is to optimize your lead qualification process. By clearly defining ideal customer profiles, establishing criteria for lead scoring, and implementing efficient lead nurturing strategies, your sales team can spend more time on high-quality prospects that are most likely to convert into paying customers—and avoid nurturing leads that won’t turn into anything.
You can also try leveraging sales automation tools to streamline the sales process and accelerate deal closures. Tasks like email follow-ups, proposal generations, and contract management can all be aided with automation, so your sales team can focus more on building relationships and closing deals.
Finally, optimizing your pricing and contract structure can help too. Your pricing should be clear, flexible, and affordable, while your contracts should be simple and free from unnecessary stipulations. By avoiding creating points to negotiate over, you can cut through red tape and accelerate the sales process.
6. Seek expert financial advice
Sometimes it takes a new set of eyes to understand what your real problems are. A professional financial advisor or consultant with specialized knowledge in SaaS finance can provide valuable insights, strategies, and best practices to increase your working capital and optimize your overall financial strategy.
A financial expert can assist in various areas, including financial forecasting, budgeting, cash flow management, and financial reporting. They can provide guidance on optimizing pricing models, subscription plans, and contract structures to enhance cash flow and reduce or eliminate areas where your business is losing money. They can also help identify potential risks and opportunities, develop contingency plans, and provide recommendations for improving financial performance.
You don’t always need a professional financial advisor either—sometimes a regular growth partner or mentor can help as well.
For example, SaaS companies that partner with Capchase Grow for non-dilutive growth financing get access to a personal growth advisor who understands both your company’s specific needs and the greater landscape of SaaS finance. These advisors have extensive experience in the industry and can provide tailored financial advice and strategic insights to help businesses optimize working capital and fuel growth.
7. Avoid financing fixed assets
Fixed assets are any assets that aren’t expected to be liquidated into cash within the next year. Usually, these are long-term physical assets that businesses acquire to take care of everyday operations, such as buildings, equipment, land, and vehicles. While SaaS businesses don’t typically need to worry about many of these expenses, that doesn’t mean they don’t have fixed assets. Popular fixed assets for SaaS companies include:
- Office space
- Furniture and other office equipment
- Hardware like computers or security systems
- Software like HR, analytics, or design tools
- Servers and data centers
- Cloud storage
Many of these fixed assets are financed, especially when a company is just starting out, because the company simply couldn’t pay for it otherwise.
The biggest issue with financing fixed assets is the fact that it freezes up money that could’ve been used to fuel growth—something that is especially important in the rapidly evolving world of SaaS, where having the flexibility to pounce on new opportunities is crucial. When your company is bogged down with debt for assets that don’t produce any immediate returns and typically depreciate in value, it becomes harder to allocate funds to opportunities that could help you move to the next level. Interest rates and other fees associated with financing can also sneak up on you quickly and eat away at your capital.
So, although it’s usually unavoidable to finance operational costs when you’re getting started, you should try to pay without financing as soon as you have the means to do so. It will save you more money and help your business be more agile in the long run.
8. Consider outside financing
Although it involves taking on debt, losing equity, or otherwise paying back what you’ve borrowed, sometimes, outside financing is the best solution to boost your working capital in a pinch. With outside financing, you can pay lingering debts or fund important initiatives that will help you scale your operations, acquire new customers, launch a new product, or take care of other projects that will boost your overall revenue and cash flow. The only caveat is that you must be fairly certain that the initiative you’re trying to fund will be successful in bringing in more cash: otherwise, you’re just digging yourself deeper into a hole.
While there are many different ways to receive outside funding as a SaaS startup, if you’re just trying to boost working capital, we recommend revenue-based financing. Unlike venture capital, revenue-based financing doesn’t dilute equity and doesn’t require taking on millions of dollars when you only need a few $10,000 or $100,000—which is particularly helpful if you’re just looking to pay for one cost and not finance the growth of your entire business. It also doesn’t require taking on new partners that have a say in the direction of your business.
Revenue-based financing also doesn’t require taking on debt. It gets paid back as a percentage of your monthly revenue, so you don’t have to worry about not being able to pay during low-performing periods. It also gets lent based on your current revenue, so you don’t have to jump through hoops with credit checks or volunteering collateral.
Capchase Grow offers revenue-based growth financing for SaaS businesses looking to scale, pay for key expenses, or boost their working capital. To see how much you’d qualify for, try our runway calculator.
Keep your business agile with a working capital improvement plan
In most cases, there’s no one silver bullet solution to increasing your working capital: It’s a combination of factors that work together holistically, with some of them being more important than others, depending on your business’s scenario.
That’s why the most important tip of all is to avoid focusing on just one thing and instead focus on making a working capital improvement plan that helps maximize cash flow and minimize loss wherever possible. This article has highlighted 8 of the most popular areas of your business that could be incorporated into this plan, but there are likely many other factors at play in your unique scenario.
If you need extra capital to get your business out of a rut, or just need someone to help guide you through assessing your working capital and finding areas for improvement, Capchase offers both. To learn more about how we help SaaS businesses extend their runway, accelerate their sales cycles, and get in touch with a network of mentors, schedule a chat with our team.
