A business cycle is the time it takes to manufacture a product or provide a service, then how long it takes to receive payment and finally, it landing in your bank account. So, the longer your business cycle, the more capital you’ll need, as you need to wait for payment. The trick is that often your fixed expenses such as wages and rent cannot wait to be paid.
For example, apple orchardists work via a seasonal cycle. They need enough cash to pay everyone to harvest and pack the fruit, before they’ll see a return at the end. On the other hand, a hairdressing business cycles cash through daily. Payment is often immediate, with only the monthly bills to track.
So when you’re deciding how much working capital you’ll need, it’s important to understand what kind of cycle your business runs on.
Decide on a rule of thumb of how much cash you need in reserve. You can work this out by determining your production and overhead costs, as well as what credit and assets you have available. If you can also determine how long an interruption in cash flow might be, you can calculate how much you’ll need to keep doing business over that time. Many businesses have at least 3 months of working capital on hand; you could need more or less depending on your cycle circumstances.