Circulating capital definition
/What is Circulating Capital?
Circulating capital refers to the funds being constantly used to pay for core business operations, which are any activities involved in the creation of goods and services. This can include accounts receivable, all types of inventory, and operating expenses. The amount of circulating capital within a business can be evaluated by comparing it to the average amount of circulating capital used by competitors.
Example of Circulating Capital
Consider a bakery called Molly’s Bakery. To produce bread daily, the bakery regularly spends money on the following:
$3,500 on flour, sugar, yeast, salt, and other baking ingredients (raw materials)
$800 on packaging materials (bags, labels, boxes)
$5,000 on employee wages (bakers, delivery personnel, sales staff)
$600 on utilities (electricity, water, gas)
$400 on transportation expenses (fuel, maintenance of delivery vehicles)
The bakery’s circulating capital totals $10,300 per month, which is regularly spent on operations critical for producing and delivering its products. This money circulates repeatedly: it goes out to buy raw materials, pay workers, and meet operational expenses, and then returns through daily sales of bread.
What is Fixed Capital?
The other type of capital is fixed capital; the term refers to funds invested in a business for more than one cycle of production (which is typically no more than a year). To increase the return on investment, management can focus on minimizing the amount of fixed capital. Doing so leaves what may be a substantially reduced amount of capital to fund a business.
Presentation of Circulating Capital
Circulating capital is always classified as short-term, which means that it is expected to be liquidated within one year. This means that all circulating capital will appear within the current assets section of a reporting entity’s balance sheet.