Types of Working Capital and How to Choose One for Your Business

While decisions like opening another store or buying equipment are time-bound, working capital is a part of your everyday life as a business owner. You cannot overstate the importance of working capital, as you need it to cover salaries, pay suppliers, and buy inventory. This is why the understanding of different types of working capital and how to manage them is important.

It helps you fund short-term commitments like taxes, salaries, and more. The working capital for a business is also important for choosing the right loan type for your business needs. Over 50% of MSMEs who took working capital loans saw a 10% YoY growth between 2021 and 2024. However, the lack of working capital creates cash flow issues. Discover the types of working capital and how you can manage each one smartly.

What is Working Capital?

Working capital refers to the amount of liquid cash and other assets that a business has and uses to pay for daily operations. It includes everything right from buying raw materials and paying suppliers to covering salaries and unexpected costs.

This metric assesses a business’s short-term financial health, operational effectiveness, and liquidity. You can also use it to track performance, as a short decline in working capital can indicate declining revenues, increased expenses, or poor financial management.

Positive vs Negative Working Capital

A positive working capital indicates a healthy business and cash flow. A negative working capital, on the other hand, shows that your business is struggling to maintain cash flow. Even a slight delay in payments or a seasonal dip in sales can affect your business.

Parameters	Positive Working Capital	Negative Working Capital
Meaning	Current assets are greater than current liabilities	Current liabilities are greater than current assets
Impact on Cash Flow	Surplus cash or liquidity buffer	Possible cash shortfall
Ability to Pay Bills	Easily cover short-term expenses	May struggle to meet short-term obligations
Growth Potential	High	Low

How to Calculate Working Capital

To determine the available working capital for MSMEs or any business, subtract current liabilities from current assets.

• Working Capital = Current Assets – Current Liabilities

The key components of the working capital formula are as follows:

• Cash and cash equivalents
• Unpaid bills and accounts receivable
• Inventory or stock
• Prepaid expenses

Classification of Working Capital in Business

A company’s working capital fluctuates over time due to various operating circumstances. Working capital, thus, is useful as a gauge of a business’s performance. There are, however, different types of working capital in a business. This working capital classification is done based on time and business operations.

A. Based on Time

1. Permanent Working Capital (also called Fixed Working Capital)

Permanent working capital is the minimum amount that you need at all times to keep the operations and business running smoothly. This is your business’s non-negotiable base that is always going to be there, and you will have to cover it at all costs. A business stalls when there is a lack of it.

Assume that you own and run a grocery store in India. To keep the business running, you will need capital/funds to buy stock of milk, bread, dairy, eggs, and more. You will also need cash for daily transactions, employee salaries, and necessary utilities. You have to manage all these expenses based on permanent needs, which is why they are referred to as permanent working capital.

What Is Covered by Permanent Working Capital?

Whether sales are booming or it’s the slow season, your business must always have a reservation for fixed working capital. Here are the daily and ongoing expenses that permanent working capital covers:

• Salaries and wages
• Utilities (like electricity and internet)
• A minimum level of raw materials or stock
• Rent or lease payments

You can think of permanent working capital as your business’s oxygen supply. It’s steady, reliable, and keeps your core operations alive even when demand is down. No matter what business you’re in, you’ll always need this financial backbone.

2. Temporary Working Capital (also called Variable Working Capital)

The temporary working capital is the extra amount that a business requires only for a short period. As opposed to permanent working capital, it varies and changes from demand to demand and season to season. This is why it is also called the seasonal working capital.

Let’s take an example of the same grocery store. It is Diwali, Navratri, or any other festive season. During these festivals, you will need capital to stock sweets, dry fruits, gift hampers, and more as they are in demand in these seasons. Unlike your regular stock or that of salaries, you have to cover these expenses only in the seasons.

What Is Covered by Temporary Working Capital?

The demand in the season requires an additional quantity of current assets for a brief period of time. This results in bulk purchases, seasonal surges, or corporate expansion. You need more working capital when:

• Stocking up for Diwali, Christmas, or peak seasons
• Running flash sales or influencer campaigns
• Taking on bulk orders, big clients, or a project launch

If you run a seasonal business, say an ice cream parlour, boutique, or travel company, temporary working capital is a must-have for you. It helps you ramp up when demand surges without straining your permanent capital. If you don’t have the capital, you can apply for a business loan with FlexiLoans. We offer collateral-free working capital loans disbursed in as little as 48 hours.

B. Based on Business Operations

3. Gross Working Capital

Gross working capital refers to the total current assets a business owns. It is the amount of liquid or almost liquid assets a business has on hand to manage short-term costs, purchase raw supplies, and pay invoices on a daily basis.

Let’s say that your grocery store has ₹1 lakh in cash, inventory of ₹5 lakh, ₹1 lakh in accounts receivable, and ₹50,000 in prepaid expenses. The gross working capital of your business is the addition of all these, which is ₹7.5 lakh.

What Is Covered by Temporary Working Capital?

Gross working capital only considers your current assets, such as:

• Cash in hand and bank
• Accounts receivable (money customers owe you)
• Inventory
• Short-term investments

It tells you what you own in the short term, not what you owe. It’s especially helpful when you want to assess your resource pool quickly or prepare for a new opportunity. Think of it as checking your wallet before making a big purchase. You’re not worried about EMIs right now; you want to know how much cash you have on hand.

4. Net Working Capital

Net working capital (NWC) is a measure of a business’s liquidity and capacity to pay short-term obligations and debts and finance ongoing operations. NWC is the difference between your business’s current assets and current liabilities. It’s a sign of a healthy cash flow and positive working capital if your business possesses more current assets than current liabilities.

• Net working capital: Current assets – current liabilities

Say your current assets are cash (₹1 lakh), inventory (₹2 lakh), and accounts receivable (₹1 lakh), which add up to ₹4 lakh. You also have current liabilities, bills payable (₹1 lakh), and short-term loans (₹50,000), which total ₹1.5 lakh. Your net working capital, therefore, is ₹2.5 lakh (₹4 lakh – ₹1.5 lakh).

This shows how much money you really have left after paying off short-term obligations. It’s a critical indicator of your liquidity and a number every lender, investor, and founder should know.

Net vs Gross Working Capital

The key difference between Net vs Gross working capital is that Net working capital measures short-term financial health, whereas Gross ensures liquidity strength.

Parameters	Gross Working Capital	Net Working Capital
Meaning	Total current assets	Current assets minus current liabilities
Focus	What business owns in the short term	What’s left after paying short-term dues
Formula	Gross WC = Current Assets	Net WC = Current Assets – Current Liabilities

Other Working Capital Classifications (in Financial Management)

The use and importance of working capital extend just beyond business owners. It is also important for accountants, bankers, finance teams, CFOs, and financial analysts. There are types of working capital in financial management, including the following:

Reserve Working Capital

Reserve working capital is the extra money your business sets aside for unanticipated expenditures or crises, such as an unexpected increase in the price of raw materials, a downturn in the economy, or late payments. Consider it a buffer against financial shocks.

Regular Working Capital

Regular working capital is the bare minimum of current assets your business needs to function efficiently on a daily basis, regardless of the time of year or special occasions. Similar to permanent working capital, it is constantly in use.

Why Understanding Working Capital Types Matters for Your Business

Whether you are running a Kirana store or a manufacturing factory, working capital planning not only helps you stay afloat but also ensures smooth cash flow. The importance of working capital classification also lies in its ability to help you manage funds across regular operations. Here is why working capital matters:

• Sign of a Healthy Cash Flow: Working capital keeps your cash flow healthy as it ensures you have the money to cover your regular costs and settle immediate debts.
• Better Preparedness: You are better prepared for emergencies as a cash cushion helps during unexpected events like supply chain delays or equipment failure.
• Fuels Growth and Expansion: It fuels growth because positive working capital can help you grab new opportunities, like stocking up for a seasonal sale or taking on a big client.
• Builds Credibility: Working capital builds credibility with lenders because when applying for a loan, lenders often look at your working capital to judge your business’s financial health.
• Better Business Planning: It also helps you plan better because once you understand the different types of working capital, you can align your funding and make sharper financial decisions.

Real-Life Examples of Working Capital in Action

Working capital holds great importance regardless of the size of a business. The real-life working capital use cases are part of large businesses, startups, and SMEs. Here’s how working capital for MSMEs looks in everyday scenarios:

Retail Shop in Surat: Temporary Working Capital

Let’s say you own a clothing shop in Surat. Demand from customers soars as Diwali draws near. To meet the demand, you recruit part-time employees, triple your inventory, stock up on festive collections, and start running Facebook and Instagram advertisements in order to get ready.

All of this calls for additional short-term funding just for the season, which you won’t want once festival sales return to normal. Temporary Working Capital is suitable in this condition.

Manufacturer in Pune: Permanent Working Capital

You run a small-scale metal fitting manufacturing business in Pune. Rain or shine, your activities need the following throughout the year:

• A steady supply of basic materials
• Wages for skilled labour
• Maintenance of machinery
• Utility and power bills

No matter how much or how little you generate, these are permanent, year-round demands. The money you consistently invest in these areas is your Permanent Working Capital, which is always there to keep things operating in the background.

Travel Company in Goa: Reserve Working Capital

You run a vacation business in Goa. Your company takes off in the summer and during the holidays. But reservations sharply decline during the monsoon or off-season. Nevertheless, you are still required to pay for:

• Office space rental
• Salaries
• Website maintenance
• Customer service

You set aside money for a buffer fund to deal with these hard times; it’s not always utilised, but it’s there in case. Reserve Working Capital serves as a financial safety net in the event that cash flow slows down.

How to Manage and Finance Each Type of Working Capital

A steady cash flow is important for every business that doesn’t want to survive through hard times but also finds success in the long term. Unsteady cash flow can affect operations, delay salaries, and even cost you new clients/customers. Here is how to manage working capital for MSMEs:

Managing Permanent Working Capital

This covers your essential, always-on expenses, such as staff salaries, rent, and electricity. The best way to manage this is by:

• Using only available funds or retained profits for business operations
• Avoid using credit cards or short-term loans for this. Your cash flow will thank you later
• Taking out a long-term working capital loan if needed

Managing Temporary Working Capital

Your business will be in need during special seasons to place bulk orders or launch a new product line. To manage this smartly:

• Use credit lines, overdrafts, or invoice financing
• Choose short-term business loans that offer flexibility

FlexiLoans offer collateral-free working capital loans tailored for MSMEs. You can apply online, skip the paperwork, and get funds disbursed in as little as 48 hours.

Conclusion

A business’s working capital will naturally fluctuate as it manages its investments and costs. However, it is important for you as a business owner to maintain positive working capital, as it gives you flexibility to expand and grow. It is a good time for small Indian businesses as they have attained the lowest net working capital cycle in 25 years, with an average of 47.8 days.

A brief period of negative working capital can be readily resolved, but if it persists over time, it causes more serious issues later on. Let FlexiLoans help you maintain positive cash flow and working capital. Apply for a small business loan and meet all your seasonal demands.

FAQs about Types of Working Capital