Roll no – 412

Working Capital Management

Components
• Introduction • Meaning of Working Capital Management • Components of working capital management • Objective of working capital management • Nature of working capital management • Management of working capital working capital management • Different Aspects of Working Capital Management • Steps for working capital management • Aim of Working Capital Management • Importance of working capital management • Decision criteria • Holistic Approach to Working Capital Management • Working capital management current challenges • Benefits from optimized working capital management • Case Study • Conclusion • Reference or The procedure of

Vivek College Of Commerce

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ruthlessly delaying payments to suppliers and cutting inventories across the board. Collection of receivables brings back the cycle to cash. neither inadequate nor excessive. in turn transformed into work-in-progress and then to finished goods.Roll no – 412 Working Capital Management Introduction Working capital management is also known as liquidity decision. Operating cycle can be said to be t the heart of the need for working capital. SSL can increase their margins by extending credit to good customers and also by paying the creditors in advance to get better rates High working capital ratios often mean that too much money is tied up in receivables and inventories. the knee-jerk reaction to this problem is to apply the “big squeeze” by aggressively collecting receivables. Inadequate working capital means the firm does not have sufficient funds for running its operations. The company has been effective in carrying working capital cycle with low working capital limits. i. risk and return. It may also be observed that the PBT in absolute terms has been increasing as a year to year basis as could be seen from the above table although profit percentage turnover may be lower but in absolute terms it is increasing.B.. Excessive working capital means the firm has idle funds which earn no profits for the firm.. as much as needed the firm. In order to further increase profit margins.Y.e. But that only attacks the symptoms of working capital issues. It should be neither excessive nor inadequate.e. A more effective approach is to Vivek College Of Commerce T. presuming goods are sold as credit. not the root causes. Typically. The flow begins with conversion of cash into raw materials which are. i. Management of working capital: A firm must have adequate working capital.com ‘C’ Page No- -2- . With the sale finished goods turn into accounts receivable. Both situations are dangerous. Working capital some times is referred to as “circulating capital”. The basic objective of working capital management is to manage firms current assets and current liabilities in such a way that the satisfactory level of working capital is maintained. It will be interesting to understand the relationship between working capital.

current liabilities.which is "reversible" Vivek College Of Commerce T. Definition of working capital management-“The process of managing activities and processes related to working capital. Working capital management policies of a firm has a great on its probability. This level of management serves as a check and balances system to ensure that the amount of cash flowing into the business is enough to sustain the company's operations. liquidity and structural health of the organization Working Capital Management means the “Deployment of current assets and current liabilities efficiently so as to maximize shortterm liquidity “ Working capital management entails short term decisions . if done properly. relating to the next one year period . An accounting strategy in which a company seeks to maximize its cash flows so as to pay for its current liabilities and operating expenses Examples of working capital management include active monitoring of accounts receivable and maintaining little short-term debt. There should be no shortage of funds and also no working capital should be ideal. This is an ongoing process that must be evaluated using the current level of assets and liabilities. This will not only free up cash but lead to significant cost reductions at the same time. i.generally.B.e. Working capital management. Current Liabilities and the inter-relationship that exists between them. The basic goal of working capital management is to manage the current assets and current liabilities of a firm in such a way that a satisfactory level of working capital is maintained. can help a company improve its earnings and maintain a healthy financial state. it is neither adequate nor excessive as both the situations are bad for any firm.Roll no – 412 Working Capital Management fundamentally rethink and streamline key processes across the value chain.Y. Working capital management may involve implementing short-term decisions that may or may not carry over from one earnings period to the next” Management of working capital is concerned with the problem that arises in attempting to manage the current assets. Meaning of Working Capital Management Working Capital Management is concerned with the problems that arise in attempting to manage the Current Assets.com ‘C’ Page No- -3- .

working capital. organization or other entity. For example. an entity has a working capital deficiency.i. it could be that the company's sales volumes are decreasing and. So.B.e. also called a working capital deficit.Current Liabilities = Working Capital Working capital can be reflected as a positive or negative number depending on how much debt the business is carrying. Meaning of working capital-Working capital (abbreviated WC) is a financial metric which represents operating liquidity available to a business. The worst-case scenario is bankruptcy. Inventories of stock as: Vivek College Of Commerce T. including governmental entity. working capital is considered a part of operating capital. The net working capital of a business is its current assets less its current liabilities Current Assets include: 1) 2) 3) 4) 5) Cash in hand and cash at bank Bills receivables Sundry debtors Short term loans and advances. Along with fixed assets such as plant and equipment. This can be seen by comparing the working capital from one period to another.com ‘C’ Page No- -4- . If current assets are less than current liabilities. Money that is tied up in inventory or money that customers still owe to the company cannot be used to pay off any of the company's obligations. its accounts receivables number continues to get smaller and smaller. If a company's current assets do not exceed its current liabilities. Working capital also gives investors an idea of the company's underlying operational efficiency.Roll no – 412 Working Capital Management Working capital management is the device of finance. then it may run into trouble paying back creditors in the short term. if a company is not operating in the most efficient manner (slow collection). The accounting formula used to calculate the available working capital of a business is: Current Assets .Y. It is a derivation of working capital that is commonly used in valuation techniques such as DCFs (Discounted cash flows). as a result. it will show up as an increase in the working capital. Net working capital is calculated as current assets minus current liabilities. slow collection may signal an underlying problem in the company's operations. It is related to manage of current assets and current liabilities . A declining working capital ratio over a longer time period could also be a red flag that warrants further analysis.

Provision for taxation. Raw material Work in process Stores and spares Finished goods Working Capital Management 6. 7. d. 9. On the basis of concept. Short term loans. Bills payable. Permanent or fixed working capital. working capital may be classified as: 1. 7.com ‘C’ Page No- -5- . 1. advances and deposits. Prepaid expenses 8. Working capital may be classified in to ways: 1. 5. Temporary or variable working capital Vivek College Of Commerce T. Of profit. 6. 2. to app. Sundry creditors Gross working capital Net working capital There are two concepts of working capital: The gross working capital is the capital invested in the total current assets of the enterprises current assets are those Assets which can convert in to cash within a short period normally one accounting year. Dividends payable. On the basis of time. 3. b. On the basis of time. c. if it does not amt. Accrued incomes. 4.Roll no – 412 a.B. Temporary investment of surplus funds. Bank overdraft. 2. On the basis of concept working capital can be classified as gross working capital and net working capital.Y. 2. 2. Marketable securities Current Liabilities include: Accrued or outstanding expenses.

Temporary or variable working capital-Temporary or variable working capital is the amount of working capital which is required to meet the seasonal demands and some special exigencies. Special working capital is that part of working capital which is required to meet special exigencies such as launching of extensive marketing for conducting research. Factors determine the working capital requirements 1. finished goods and cash balance. etc. On the other hand the trading and financial firms requires less investment in fixed assets but have to invest large amt. 2. and no funds are tied up in inventories and receivables. 4. Production policy: If the policy is to keep production steady by accumulating inventories it will require higher working capital.com ‘C’ Page No- -6- . Size of the business: Greater the size of the business. Every firm has to maintain a minimum level of raw material. 3. greater is the requirement of working capital. of working capital along with fixed investments. Length of production cycle: The longer the manufacturing time the raw material and other supplies have to be carried for a longer in the process with progressive increment of labor and service costs before the final product is obtained.Roll no – 412 Working Capital Management Permanent or fixed working capital-Permanent or fixed working capital is minimum amount which is required to ensure effective utilization of fixed facilities and for maintaining the circulation of current assets. water supply and railways because they offer cash sale only and supply services not products.in-process. This minimum level of current assts is called permanent or fixed working capital as this part of working is permanently blocked in current assets. Variable working capital can further be classified as seasonal working capital and special working capital. Temporary working capital differs from permanent working capital in the sense that is required for short periods and cannot be permanently employed gainfully in the business. So working capital is directly proportional to the length of the manufacturing process. The capital required to meet the seasonal need of the enterprise is called seasonal working capital. work. Vivek College Of Commerce T. nature of business: The requirements of working is very limited in public utility undertakings such as electricity.Y.B. As the business grow the requirements of working capital also increases due to increase in current assets.

B. Rate of growth of business: In faster growing concern. Such firms may generate cash profits from operations and contribute to their working capital. etc.Y. of working capital due to rise in sales. Asset structure. 2. Vivek College Of Commerce T. the business contracts. a firm requires larger working capital than in slack season. 7. 10. Seasonal variations: Generally. rise in prices. when the business is prosperous. Import policy. of working capital as compared to a firm having a low rate of turnover. we shall require large amt. of working capital. 12. Longer the cycle larger is the requirement of working capital. 3. during the busy season. 11. Management ability. 9. there is need for larger amt.com ‘C’ Page No- -7- . Price level changes: Changes in the price level also affect the working capital requirements. A firm having a high rate of stock turnover will needs lower amt. monopoly conditions. 8. Irregularities of supply 5. difficulties are faced in collection from debtor and the firm may have a large amt. A firm maintaining a steady high rate of cash dividend irrespective of its profits needs working capital than the firm that retains larger part of its profits and does not pay so high rate of cash dividend. Credit policy: A concern that purchases its requirements on credit and sales its product / services on cash requires lesser amt. Business cycle: In period of boom. optimistic expansion of business. Rate of stock turnover: There is an inverse co-relationship between the question of working capital and the velocity or speed with which the sales are affected.Roll no – 412 Working Capital Management 5. 4. of working capital. On the contrary in time of depression. of working capital and vice-versa. 6. Others FACTORS: These are: 1 Operating efficiency. etc. Generally rise in prices leads to increase in working capital. Working capital cycle: The speed with which the working cycle completes one cycle determines the requirements of working capital. The dividend policy also affects the requirement of working capital. Earning capacity and dividend policy: Some firms have more earning capacity than other due to quality of their products. sales decline.

Working capital management is the tool used in fund flow analysis. accounts receivable and accounts payable. The method’s foundation is a special designed training and a workshop before the implementation phase starts in order to secure the level of knowledge regarding working capital and cash flow but also engagement from the involved personnel. A method to release tied up working capital which includes inventory. Working capital is very significant for paying day to day expenses and long term liabilities.Y.Roll no – 412 Working Capital Management Thus.B. A way to identify improvement potentials and includes also concrete suggested activities for improvement.com ‘C’ Page No- -8- . Components of working capital management • inventory management Tools of inventory management • • • • • • • • Fixation of levels Fixation of EOQ ABC analysis VED analysis FSN / FSD analysis Perpetual inventory system Periodic inventory system Inventory turnover ratios • cash management Vivek College Of Commerce T.

com ‘C’ Page No- -9- .Y. Discounts Compensation Location New products Cost of receivables • • Carrying cost Defaulting cost Vivek College Of Commerce T.B.Roll no – 412 Working Capital Management Objective of cash management 1) To make prompt cash payments 2) To maintain minimum cash reserve Motives of holding cash • • • • • Holding cash Transaction motive Precautionary motive Speculative motive Compensatory motive Strategy of cash management • • • • Cash planning Managing the cash flows Optimum cash balance Investing idle cash • Receivables management Determinants of accounts receivable Credit sales • • • • • • Credit sales volume Credit policies Business terms – Time period.

com ‘C’ Page No- . the management has to consider the composition of current assets pool. from right source and at a right price Vivek College Of Commerce T. 3) Continuous supply for uninterrupted production 4) To reduce wastage & losses 5) To reduce scientific inventory manage technique 6) To reduce excessive or shortage inventory.Y. financing.Roll no – 412 • Administration cost Working Capital Management Management of receivables • • • • Forming of credit policy Executing credit policy Formulating & executing policy Collection policy Objective of working capital management Objectives of the management of working capital are as follows:1) Maintenance of working capital at appropriate level. The working capital position sets the various policies in the business with respect to general operations like purchasing. and 2) Availability of ample funds as and when they are needed. 7) To have uninterrupted production 8) For effective utilizations of store space 9) To provide right material at right time.B.10 - . expansion and dividend etc. In the accomplishment of these two objectives.

inventories and debtors) and the short term financing. the Finished Goods should be kept on as low level as Vivek College Of Commerce T.and hence increases cash flow.and minimizes reordering costs . These policies aim at managing the current assets (generally cash and cash equivalents. but reduces cash holding costs. the lead times in production should be lowered to reduce Work in Progress (WIP) and similarly. • Inventory management Identify the level of inventory which allows for uninterrupted production but reduces the investment in raw materials .11 - .Y. Besides this. 1) Cash managementIdentify the cash balance which allows for the business to meet day to day expenses. risk and liquidity Dimension 2 – composition and level of CA Dimension 3 – composition and level of Cl Management of working capital Or The procedure of working capital management It can be categorized into the following types:Guided by the above criteria.B. such that cash flows and returns are acceptable.Roll no – 412 Working Capital Management Nature of working capital management Dimension 1 – Profitability. management will use a combination of policies and techniques for the management of working capital.com ‘C’ Page No- .

such that any impact on cash flows and the cash conversion cycle will be offset by increased revenue and hence Return on Capital (or vice versa).Roll no – 412 Working Capital Management possible to avoid over production . Identify the appropriate credit policy. Vivek College Of Commerce T. • Short term financing. given the cash conversion cycle: the inventory is ideally financed by credit granted by the supplier. Different Aspects of Working Capital Management .see Supply chain management.B. it may be necessary to utilize a bank loan (or overdraft). Economic quantity • Debtor’s management. Just In Time (JIT). i. see Discounts and allowances.Y. Economic order quantity (EOQ).Management of Inventory . Identify the appropriate source of financing.e.Management of Payables/Creditors Steps for working capital management Two Steps involved in the Working Capital Management: • • Forecasting the Amount of Working Capital Determining the Sources of Working Capital Aim of Working Capital Management The aim of working capital management is to achieve balance between having sufficient working capital to ensure that the business is liquid but not too much that the level of working capital reduced profitability.Management of Receivables/Debtors -Management of Cash .com ‘C’ Page No- . however. or to "convert debtors to cash" through "factoring". credit terms which will attract customers.12 - .

Roll no – 412 Working Capital Management Importance of working capital management Working capital management is essential for the long‐term success of a business. As a management tool. Because this number effectively corresponds to the time that the firm's cash is tied up in operations and unavailable for other activities.B. the most useful result is shown as a percentage. ROC Vivek College Of Commerce T.com ‘C’ Page No- . exceeds the cost of capital.the net number of days from the outlay of cash for raw material to receiving payment from the customer. No business can survive if it cannot meet its day‐to‐day obligations. These involve managing the relationship between a firm's shortterm assets and its short-term liabilities. By definition. management generally aims at a low net count.generally. and cash. • In this context. The goal of working capital management is to ensure that the firm is able to continue its operations and that it has sufficient cash flow to satisfy both maturing short-term debt and upcoming operational expenses. These decisions are therefore not taken on the same basis as Capital Investment Decisions (NPV or related. this metric makes explicit the inter-relatedness of decisions relating to inventories. A business must therefore have clear policies for the management of each component of working capital Decision criteria Decisions relating to working capital and short term financing are referred to as working capital management.Y. as above) rather they will be based on cash flows and / or profitability. and if. determined by dividing relevant income for the 12 months by capital employed. relating to the next one year period .13 - . which results from capital investment decisions as above. which results from working capital management. 1) One measure of cash flow is provided by the cash conversion cycle .which is "reversible". the return on capital. accounts receivable and payable. Firm value is enhanced when. Return on equity (ROE) shows this result for the firm's shareholders. working capital management entails short term decisions .

reduce stock. sales and after-sales support. In order to address the often hidden interdependencies among the different components and achieve maximum savings from a working capital program. companies can. decrease replenishment times from internal and external suppliers. This affects the cash conversion cycle. or other aspects of the business. for example. It includes buying of raw material and selling of finished goods either in cash or on credit.Roll no – 412 Working Capital Management measures are therefore useful as a management tool. and optimize cashcollection and payment cycles. companies must analyze the entire value chain. The key is to uncover the underlying causes of excess operative working capital. market positioning. The six or seven months. cutting inventories of spare parts or reducing product customization could lead to a major reduction in inventory. See Economic value added (EVA). But how would these measures affect service quality.B.com ‘C’ Page No- .14 - . from product design to manufacturing. Benefits from optimized working capital management • • • Increase in profitability from efficient management and capital Improved liquidity Enhanced business process Vivek College Of Commerce T. Holistic Approach to Working Capital Management By streamlining end-to-end processes. They must also look for ways to simplify and streamline processes and eliminate waste. For instance. • Credit policy of the firm: Another factor affecting working capital management is credit policy of the firm.Y. Working capital management current challenges • • • • • Inability to balance working capital and to convert stock or debtors into cash Turnover falling Costs rising Profit margins under pressure Customer taking longer to pay Doubts about ability to make serious capital repayments on loan within the next measure of profitability are Return on capital (ROC). always keeping potential tradeoffs in mind. in that they link short-term policy with long-term decision making.

and accounts payable. but also create value and have a strong impact on a company’s enterprise value by reducing capital employed and thus Vivek College Of Commerce T. The overall NWC reduction added up to more than 40%.com ‘C’ Page No- . Working capital goals were integrated into budgets and incentive programs to further foster sustainability. group-wide working capital program with a strong commitment of top management levels. and the lack of a comprehensive perspective on working capital. Roughly half of the improvement potential was already realized within one year from start of the implementation. The main reasons had been an undifferentiated top-down approach. Case Study A leading industrial conglomerate with worldwide sales presence in all of its divisions recently conducted a comprehensive. This will not only lead to more financial flexibility. In order to anchor working capital management in the organization. together with employees responsible for implementation on the operational level. companies can sharply reduce their dependence on outside funding and can use the released cash for further investments or acquisitions. Conclusion Many companies still underestimate the importance of working capital management as a lever for freeing up cash from inventory. but also served as a beacon for the initiative and proof of concept. such as optimizing payment processes. to complete restructuring of production processes. Thus. By effectively managing these components. accounts receivable.Roll no – 412 • • Permanent reduction in working capital Working Capital Management Additional growth opportunities through the release of capital for investment. Improvement measures ranged from more easily implemented quick wins.Y. Before the program brought the change.15 - . Quick wins not only paid off the initiative after a few months. Critical success factors were a holistic approach to the entire value chain and the definition of clear and practicable measures.B. a pragmatic controlling tool was set up and regular reporting cycles were established. a number of initiatives had fallen short of expectations. the symptoms rather than the root causes of excess accounts receivable and inventory or low positions in payables had been approached and no sustainable results had been achieved.

html financial-dictionary.html www./a/def-workingcap.investopedia..com/5334/working_capital.wikipedia.org/wiki/Working_capital www.com/terms/w/workingcapital.Roll no – 412 Working Capital Management increasing asset productivity.com/od/.com ‘C’ Page No- . Thus working capital management is very important for all type of organization irrespective of their some limitations Reference en..com/money-words_term_9827_Working_capital_manag..com/working+capital www.Y. http://www..pdf womeninbusiness.about.caalley. www.com/art/WorkingCapitalManagement.16 - .com/.advfn.investorwords.B.asp#ixzz1hwk2CnNZ Vivek College Of Commerce T.thefreedictionary.qfinance.allprojectreports..com › Home › QFINANCE Dictionary www./working_capital_management/working....

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