Invested Capital

Finance Allah shmoop How does working capital work Well you

had a vision a dream I hope that all mugs

would have their own voice their own personality their own

pathos their own swear word Well there was just something

about swearing phrases that grabbed you emotionally since well as

far back as you could remember And you think it

probably had to do with your earliest memories of your

mother swearing into the pain at your own You know

AIPO that's wearing lasted about four years until it finally

subsided when you left home for nursery school So every

mug needed a swear This one the fishmonger model said

And this one they road rage driver Model said And

of course well the bestseller here The med student reading

her student loan bill said Well how did all of

this get it started Working capital Yeah you didn't just

will the cups into existence You had to buy the

generic clay mugs You had to buy a kiln to

reheat them After you'd painted on your swear words you

had to buy that special paint He had to set

up a website through which to sell them You had

to deposit two grand into a bank account so that

you could take credit cards You had to do a

little marketing You needed shipping boxes and that corn Styrofoam

stuff that goes in and an upgraded computer from this

one Teo this one and a few other things to

get started Yeah so you needed that fifteen grand toe

Have enough dough to begin mugs your new company That's

capital to buy things But note that you're working out

of your garage for a while taking no salary buying

no insurance and setting up your own LLC through LegalZoom

for two hundred bucks So you realize that unless you

suddenly sell all thousand mugs for twenty bucks each and

make serious bank while you're going to need more working

capital in the very near future Note also that working

capital lives entirely on the asset side of the balance

sheet and it starts as cash But then that cash

gets spent on various supplies You know mugs kiln website

marketing so on And the cash in that original B

of a account dwindles to almost nothing By the time

the mugs is ready to go to market Well what

happened while it transformed into other lines on the balance

sheet like Well one line here Blank unpainted mugs Seven

hundred Yeah you only put swear phrases on three hundred

mugs to start and you're holding The value of those

mugs is being whatever you paid for them or book

value Maybe you'd get your money back if you had

to return A maybe you wouldn't Probably you wouldn't But

you don't want to test the system and the paint

and kiln and so on They're all held it book

value under the presumption that you could return them or

sell them if you had to albeit at some loss

but with no real info on what to go on

Well you just hold them in book value on your

balance sheet at least for now The rest of your

cash spent on things like marketing which just goes away

as soon if you commit to spending the money in

the period you'll run the marketing so that dough just

evaporates and well For the finished three hundred mugs they

become inventory And while you hold a blank mug five

bucks you hold a Finnish painted mug at seven bucks

as you attribute to dollars in value to the and

and you've painted on it And the mugs in the

process of being bleeped Well they're a work in process

sort of living in limbo between raw materials and finished

inventory goods ready to sell So all of this activity

has happened before you've sold a single mug but you

raised fifteen thousand dollars before then The question how How

did you raise that fifteen k Well you had two

basic choices Borrow the money like take out a loan

from the Bank of Grandmama or sell a slice of

your pie if you took out alone while you'd show

that fifteen grand is a dead on your balance sheet

over here is a liability alone payable And in this

case well let's assume it was all due to be

paid back a year or less after you borrowed it

You figured that well you'd either self mugs quickly or

you'd be well bankrupt and or you know mowing grandmama's

bond for years so that fifteen k lives is a

short term Current liability will presumably pay Feli off someday

with fifteen hundred bucks of interest that will have accrued

because grandmama charge you ten percent interest on the loan

per year to boot so well that'll be sixteen thousand

five hundred You'll pay in a year of that point

that fifteen hundred dollars of interests while you just add

to your debts payable in installments each quarter as you'll

see your short term loans payable go up by about

three hundred seventy five bucks and change about every ninety

one days So that's a loans way of raising cash

our working capital to start your company You could have

also sold Grandmama a slice or equity ownership in the

company for that same fifteen grand like let's say you

valued yourself is being worth one hundred thousand dollars to

start that fifteen grand in stock she would have bought

would then have been worth the fifteen over one hundred

fifteen or about thirteen percent ownership in your company Well

in this case you don't eighty seven percent and sheet

on thirteen percent and you'd be paying no interest well

because there'd be no loans Instead of the fifteen grand

of working capital showing up as debt it would show

up down here on the shareholder's equity line and just

hang out there as fifteen grand until told otherwise that

it should be worth more or less But yes of

course you have the cash as well in your B

of a account Right So that's a brief on how

working capital works at the inception of a company You

can imagine that if bugs took off and became huge

you need to raise more working capital just to meet

demand right Like what if orders for twenty five thousand

mugs came in off the website Well all of a

sudden you need to buy another twenty for thousand mugs

at five bucks each and while there's another hundred twenty

grand alone's you ask for the mugs let alone all

the other supplies you need So yes it's great that

you're selling twenty five thousand mugs that say twenty bucks

each for half a million dollars in revenues but you

don't collect that revenue entirely Half the orders were checks

that were mailed in They take a while to clear

in cash and so on And you know the five

percent will return the bug with email that says this

is not what I ordered so you need more working

capital as your balance sheet expands and you need to

be ableto handle the scaling up of your little company 00:06:07.75 --> [endTime] into a you know a big one