Business Finance

Quarter 3 – Module 4:
Working Capital Management
Business Finance – Grade 12
Alternative Delivery Mode
Quarter 3 – Module 4: Working Capital Management
First Edition, 2020

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 Business Finance
Quarter 3 – Module 4:
Working Capital Management
Introductory Message
This Self-Learning Module (SLM) is prepared so that you, our dear learners,
can continue your studies and learn while at home. Activities, questions, directions,
exercises, and discussions are carefully stated for you to understand each lesson.

Each SLM is composed of different parts. Each part shall guide you step-by-
step as you discover and understand the lesson prepared for you.

Pre-tests are provided to measure your prior knowledge on lessons in each

SLM. This will tell you if you need to proceed on completing this module or if you
need to ask your facilitator or your teacher’s assistance for better understanding of
the lesson. At the end of each module, you need to answer the post-test to self-check
your learning. Answer keys are provided for each activity and test. We trust that you
will be honest in using these.

In addition to the material in the main text, Notes to the Teacher are also
provided to our facilitators and parents for strategies and reminders on how they can
best help you on your home-based learning.

Please use this module with care. Do not put unnecessary marks on any part
of this SLM. Use a separate sheet of paper in answering the exercises and tests. And
read the instructions carefully before performing each task.

If you have any questions in using this SLM or any difficulty in answering the
tasks in this module, do not hesitate to consult your teacher or facilitator.

Thank you.
 What I Need to Know

This module is designed and written to help you understand working capital
management. The different working capital financing policies is discussed in this
module as well as the cash management, receivables management, and inventory
management.

After this module, you are expected to explain tools in managing cash, receivables,
and inventory (ABM_BF12-IIIc-d12) and describe concepts and tools in working
capital management.

1
 What I Know

Directions: Choose the correct answer from the choices. Write your answers on a
separate sheet of paper.

1. It is designed to ensure that a company operates efficiently by monitoring and

using its current assets and liabilities to the best effect.
A. working capital management C. inventory management
B. cash management D. receivable management
2. These refer to cash, accounts receivable, inventories, and prepaid expenses.
A. current assets C. current liabilities
B. noncurrent assets D. owner’s equity
3. It is the difference between current assets and current liabilities.
A. permanent working capital C. temporary working capital
B. net working capital D. contractual working capital
4. In this working capital financing policy, the permanent working capital
requirements should be financed by long-term sources while temporary
working capital requirements should be financed by short-term sources
of financing.
A. maturity-matching C. aggressive
B. conservative D. modern
5. It is the time to collect cash from the sale of the inventory.
A. days of inventory C. days of receivable
B. days of payable D. none of the above
6. In this working capital financing policy, some of the permanent working
capital requirements are financed by short-term sources of financing.
A. maturity-matching C. aggressive
B. conservative D. modern
7. In this kind of working capital policy, some of the temporary working capital
requirements are financed by long-term sources of financing.
A. maturity-matching C. aggressive
B. conservative D. modern
8. It is the borrower’s willingness to pay the loan.
A. character C. collateral
B. capacity D. condition
9. It is the borrower’s security pledge for the loan payment.
A. character C. collateral
B. capacity D. condition
10. It is the borrower’s ability to pay the loan.
A. character C. collateral
B. capacity D. condition

2
 Lesson
Working Capital
1 Management
Working capital management is the proper administration of current assets
and liabilities. Good working capital management enables the firm to pay its financial
obligation, establish good relationships with suppliers and creditors, and improve
the earnings of the company.
A working capital management is important because it can improve the
business profit. It allows the company to pay its financial obligations and leads to
the growth and survival.
Current assets like cash, accounts receivable, inventories, and prepaid
expenses used in the operations of the business are called working capital. It means
that they can be converted into cash, sold, or exchanged. The amount of resources
used in the operations of the business can be affected by current liabilities like trade
accounts payable.
Net working capital is the difference between current assets and
current liabilities.
Net Working capital = Current Assets – Current Liabilities

Example: The total assets of Masipag Corporation amounts to

Php 20,000,000.00 and its total current liabilities amounts to Php 16,000,000.00.

• The working capital of Masipag Corporation is Php 20,000,000.00.

• The net working capital of Masipag Corporation is Php 4,000,000.00
(Php 20,000,000 – Php 16,000,000.00)

Operating Cycle and Cash Conversion Cycle

Operating Cycle = Days of Inventory + Days of Receivable

Where:
Days of Inventory (Inventory Conversion Period) is the average number of
days to sell its inventory.

365 days
Days of inventory =
Inventory Turnover Ratio

Cost of Goods Sold

Inventory Turnover Ratio =
Average Inventory
Days of Receivable (Receivable Conversion Period) is the time it takes to
collect cash from the sale of the inventory.

3
 365 days
Days of Receivable =
Receivable Turnover Ratio

Net Credit Sales

Receivable Turnover Ratio =
Average Accounts Receivable

The cash conversion cycle (CCC) is a metric that expresses the time
(measured in days) it takes for a company to convert its investments in inventory
and other resources into cash flows from sales. (investopedia.com)

Cash Conversion Cycle = Operating Cycle – Days of Payable

365
Days of Inventory =
Payables Turnover

Net Credit Sales

Payables Turnover Ratio =
Average Accounts Payable

Example:

Accounts Beginning Ending Average

Inventory Php 2,500,000.00 Php 3,700,000.00 /2 Php 3,100,000.00
Accounts Receivable Php 1,950,000.00 Php 2,500,000.00 /2 Php 2,225,000.00
Accounts Payable Php 900,000.00 Php 1,100,000.00 /2 Php 1,000,000.00
Net Sales Php 15,000,000.00
Cost of Goods Sold Php 9,500,000.00

Cost of Goods Sold Php 9,500,000.00

Inventory Turnover Ratio = = = 3.06
Average Inventory Php 3,100,000.00

365 days 365

Days of inventory = = = 119.28
Inventory Turnover Ratio 3.06

Net Credit Sales Php 15,000,000.00

Receivable Turnover Ratio = = = 6.74
Average Accounts Receivable Php 2,225,000.00

365 days
Days of Receivable = = 54.15
6.74

Operating cycle = Days of Inventory + Days of Receivable

= 119 + 54
= 173

4
 Figure 1. The Operating Cycle

The operating cycle is 173 days which means that it is longer to recover its
inventory. A shorter cycle is preferred because it means business is more efficient
and has enough cash to meet financial obligations. The company must find ways to
decrease its operating cycle.
Net Credit Sales Php 15,000,000.00
Payables Turnover = = = 15
Average Accounts Payable Php 1,000,000.00

365
Days of Inventory = = 24.33
15

Cash Conversion Cycle = Operating Cycle – Days of Payable

= 173 – 24
= 149 days

It means that the company takes 149 days to get the cash from its investments
in inventory and accounts receivable.

5
 What’s In

Directions: Choose the correct word or phrase from the box below. Write your
answers on a separate sheet of paper.

Production Budget Cash Budget

Sales Budget Operating Budget

1. _______________________________ displays the expected cash receipts and

disbursements for an accounting period. It can be prepared on a monthly or
a quarterly basis for a year.
2. _______________________________ is made to estimate how much their revenue
and expenses would be within a year.
3. _______________________________ provides information in respect to the
number of units that should be produced over a given accounting period based
on expected sales and targeted level of ending inventories.
4. _______________________________ provides the estimated amount of money
based on the volume of products that a company proposes to sell in a
future period.

6
 What’s New

Directions: Try to guess the following pictures. Write your answers on a separate
sheet of paper.

1.

__ __ __ __ __ __ __ __ __ __ __ __

2. +
__ __ __ __ __ __ __ __ __ __ __ __ __ __ __ __ __

3. +
__ __ __ __ __ __ __ __ __ __ __ __ __ __

7
 What is It

Working Capital Financing Policies

1. Maturity-matching working capital financing policy

The permanent working capital requirements should be financed by
long-term sources while temporary working capital requirements should be
financed by short-term sources of financing.

2. Aggressive working capital financing policy

Some of the permanent working capital requirements are financed by
short-term sources of financing. Managers use this kind of policy because
long-term sources of funds have a higher cost as compared to short-term
sources of financing. By financing some of the permanent working capital
requirements with short-term sources of financing, the financing cost is
minimized, which in turn, improves net income.
But what is the trade off? Since it is short-term, the debt has to be
paid soon and the company may not yet have enough cash by the time the
debt matures. This refers to liquidity risk and this risk increases with the
aggressive working capital financing policy.

3. Conservative working capital financing policy

There are of the temporary working capital requirements that are
financed by long-term sources of financing.
Some companies use this policy because they don’t want to be stressed
too much and to be focused on other company’s matter. It can also be their
management style. It will be easy for the company to raise funds (Cayanan
and Borja, 2017).

To summarize the financing policy, see the table below:

Financing Policies Permanent Working Capital Temporary Working Capital
Maturity-matching Long-term sources Short-term sources
Aggressive Long-term sources, Short-term sources
short-term sources
Conservative Long-term sources Short-term sources,
long term sources

Permanent or fixed working capital refers to the minimum level of

current assets required by a firm to continue the operations of the business
and to cover up all current liabilities.

8
 Temporary working capital is the difference between net working capital and
permanent working capital. It can help the business survive during the slack season.

Temporary working capital = Net working capital – permanent working capital.

Long-term sources of financing include long-term debt like loan from a bank
and equity such as common stock and preferred stock. Short-term sources include
short-term loans from a bank.

Cash Management
Cash management involves the maintenance of a cash and marketable
securities investment level which enables the company to meet its cash requirements
and at the same time, optimize the income of idle funds (Cabrera, 2015).
The objectives of cash management are to meet the financial obligation of the
firm and to avoid losses in the normal operation of the business.

Reasons for Holding Cash

1. Transaction Motive – Cash is needed for the day-to-day operations of the
business.
2. Contractual Motive – Some banks require a company to maintain a certain
compensating balance for their deposit accounts and loans.
3. Precautionary Motive – Firms hold cash to be ready in case of unwanted
situations such as slowdown of accounts receivables that may affect the fund
for operations.
4. Speculative Motive – A company holds cash for other investment
opportunities.

Cash budget is used in determining the cash needs of the company. It shows
the projected cash receipts and cash disbursements for a particular period of time.
(Cash budget was discussed in Module 3)

Receivables Management
Providing credits to a customer is one way of increasing sales and gaining
additional customers. Properly managing the accounts receivable lets the company
continue its operations. To minimize loss from accounts receivable, the customer
must be given credit terms and credit evaluation must likewise be done.

The following 5C’s of credit can be used in credit evaluation.

1. Character – is the borrower’s willingness to pay the loan.
2. Capacity – is the borrower’s ability to pay the loan.
3. Capital – is the borrower’s financial resources.
4. Collateral – is the borrower’s security pledge for the loan payment.
5. Condition – is the current economic or business conditions.

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Inventory Management

Inventory is the stocks of the product the business is selling and the parts or
raw materials that made up the product.
Inventory management is very important for manufacturing and
merchandising companies especially companies with perishable products. There
should be a sufficient number of inventories to secure the smooth operations of
the business.

The following are the list of internal controls that management should consider in to
protect their inventories.
1. Separating the custodial functions from recording functions. The
company should not allow the assignment of custodial functions from
recording functions to one person to avoid manipulation of records.
2. Aging of inventories. It allows the company to decide what to do with slow-
moving items. For example, they can use bundling or buy one take promo.
3. ABC Analysis. This approach categorizes the inventories according to
their values. A is considered the most important inventory or with the
highest values, B is considered the average item and C is the least
important or has lower value.

10
 What’s More

A. Directions: Below is the summarized financial information of Redz Company.

Compute the following. Write your answers on a separate
sheet of paper.

1. Average Inventory _________________

2. Average Receivable _________________
3. Average Payable _________________
4. Inventory Turnover Ratio _________________
5. Days of Inventories _________________
6. Receivables Turnover Ratio _________________
7. Days of Receivable _________________
8. Payables Turnover Ratio _________________
9. Days of Payable _________________
10. Operating Cycle _________________

Accounts Beginning Ending

Inventory Php 2,000,000.00 Php 3,100,000.00
Accounts Receivable Php 1,150,000.00 Php 2,000,000.00
Accounts Payable Php 500,000.00 Php 1800,000.00
Net Sales Php 10,000,000.00
Cost of Goods Sold Php 6,500,000.00

11
B. Directions: Answer the following questions in to three (3) to five (5) sentences.
Write your answers on a separate sheet of paper.

1. Why is proper management of working capital important to a company’s

financial health?

_______________________________________________________________________
_______________________________________________________________________

2. What are the three working financing policies? Enumerate and discuss briefly.

_______________________________________________________________________
_______________________________________________________________________

3. What are the benefits and importance of cash and accounts

receivable management?

_______________________________________________________________________
_______________________________________________________________________

Scoring Rubrics:

5 points The answer is well-written, organized and the idea is very relevant
to the question and has no grammatical or spelling errors.
4 points The answer is fairly written, and the idea is almost relevant to the
question and has one grammatical or spelling error.
3 points The answer is somewhat relevant to the questions and has two to
three grammatical or spelling errors.
2 points The answer is unclear and has four grammatical or
spelling errors.
1 point The answer does not address the question and has more than five
grammatical or spelling errors.

12
 What I Have Learned

Directions: Answer the following questions in one (1) to two (2) sentences. Write your
answers on a separate sheet of paper.

In this lesson,

I learned that:

____________________________________________________________________________
____________________________________________________________________________

I did that:

____________________________________________________________________________
____________________________________________________________________________

I realized that:

____________________________________________________________________________
____________________________________________________________________________

Scoring Rubrics:

5 points The answer is well-written, organized and the idea is very relevant
to the question and has no grammatical or spelling errors.
4 points The answer is fairly written, and the idea is almost relevant to the
question and has one grammatical or spelling error.
3 points The answer is somewhat relevant to the questions and has two to
three grammatical or spelling errors.
2 points The answer is unclear and has four grammatical or
spelling errors.
1 point The answer does not address the question and has more than five
grammatical or spelling errors.

13
 What I Can Do

Directions: Answer the following question in three (3) to five (5) sentences. Write your
answers on a separate sheet of paper.

How do we apply the concepts of working capital management in our daily lives?
Write your answers on a separate sheet of paper.

____________________________________________________________________________
____________________________________________________________________________

Scoring Rubrics:

5 points The answer is well-written, organized and the idea is very relevant
to the question and has no grammatical or spelling errors.
4 points The answer is fairly written, and the idea is almost relevant to the
question and has one grammatical or spelling error.
3 points The answer is somewhat relevant to the questions and has two to
three grammatical or spelling errors.
2 points The answer is unclear and has four grammatical or
spelling errors.
1 point The answer does not address the question and has more than five
grammatical or spelling errors.

14
 Assessment

Directions: Choose the correct answer from the box below. Write your answers on a
separate sheet of paper.

A. ABC analysis I. Character

B. Working capital J. Condition
C. Net working capital K. Capital
D. Maturity-matching L. Days of inventory
E. Aggressive working M. Days of receivable
F. Conservative working N. Temporary working capital
G. Collateral O. Permanent working capital
H. Capacity

______ 1. It refers to the minimum level of current assets required by a firm to

continue the operations of the business and to cover up all
current liabilities.
______ 2. These are current assets used in the operations of the business.
______ 3. It is the difference between current assets and current liabilities.
______ 4. In this kind of financing policy, some of the temporary working
capital requirements are financed by long-term sources of financing.
______ 5. In this kind of financing policy, some of the permanent working
capital requirements are financed by short-term sources
of financing.
______ 6. In this kind of financing policy, the permanent working capital
requirements should be financed by long-term sources while
temporary working capital requirements should be financed by
short-term sources of financing.
______ 7. This concept classifies the inventories into three categories according
to its importance or value.
______ 8. It is the difference between net working capital and permanent
working capital.
______ 9. It is the borrower’s financial resources.
______ 10. It the borrower’s security pledge for the loan payment.
______ 11. It is the current economic or business environment.
______ 12. It is the borrower’s willingness to pay the loan.
______ 13. It is the borrower’s ability to pay the loan.
______ 14. It is the number of days it takes to collect cash from the sale of
the inventory.
______ 15. It is the average number of days to sell its inventory.

15
 Additional Activities

A. Directions: Choose the correct word or phrase from the box below. Write your
answer on a separate sheet of paper.

aggressive net working capital

ABC analysis maturity-matching
conservative inventory
cash management permanent working capital
temporary working capital working capital management

1. It is the difference between current assets and current liabilities.

2. It is the proper administration of current assets and liabilities.
3. This approach categorizes the inventories into three categories according to
their importance.
4. In this type of working financing policy, the permanent working capital
requirements should be financed by long-term sources while temporary
working capital requirements should be financed by short-term sources
of financing.
5. It is the difference between net working capital and permanent
working capital.
6. It refers to the minimum level of current assets required by a firm to continue
the operations of the business and to cover up all current liabilities.
7. It involves the maintenance of a cash and marketable securities investment
level which enables the company to meet its cash requirements and at the
same time, optimize the income of idle funds.
8. It is the stocks of the product the business is selling and the parts or raw
materials that made up the product.
9. In this type of working capital financing policy, some of the temporary working
capital requirements are financed by long-term sources of financing.
10. In this type of working capital financing policy, some of the permanent
working capital requirements are financed by short-term sources of financing.

B. Directions: Answer the given problem. Write your solutions and answers on a
separate sheet of paper. (5 points each)

DEFG Company has an inventory conversion period of 66 days, a receivable

conversion period of 35 days, and payable conversion period of 26 days.

1. Calculate the firm’s operating cycle.

2. Calculate the firm’s cash conversion cycle.

16
 17
What I Know What’s In What’s New
1. A 1. Cash budget 1. Current assets
2. A 2. Operating budget 2. Current liabilities
3. B 3. Production 3. Working capital
4. A budget
5. C 4. Sales budget
6. C
7. B
8. A
9. C
10. B
What’s More What I Have Learned What I Can Do
A. The answer will depend The answer will depend on
1. Php 2,550,000.00 on the student. the student.
2. Php 1,575,000.00
3. Php 650,000.00
4. 2.54
5. 143. 7 or 144
days
6. 6.3
7. 57.5 or 58 days
8. 15.38
9. 23.78 or 24
10. 222 days
B.
The answer will depend
on the student.
Assessment Additional Activities:
1. O A.
2. B 1. Net working
3. C capital
4. D 2. working capital
5. E management
6. F 3. ABC analysis
7. A 4. Maturity-
8. N matching
9. K 5. Temporary
10. G working capital
11. J 6. Permanent
12. I working capital
13. H 7. Cash
14. L management
15. M 8. Inventory
9. Conservative
10. aggressive
B.
1. 101
2. 75
Answer Key
References
"Cash Conversion Cycle (CCC)". 2020. Investopedia. Accessed August 1.
https://www.investopedia.com/terms/c/cashconversioncycle.asp#:~:text
=The%20cash%20conversion%20cycle%20(CCC)%20is%20a%20metric%2
0that%20expresses,into%20cash%20flows%20from%20sales.
"What Is ABC Analysis?". 2021. InvoiceBerry.
https://www.invoiceberry.com/accounting-terms/abc-analysis.
"What Is An Operating Cycle?". 2020. CFI. Accessed July 30.
https://corporatefinanceinstitute.com/resources/knowledge/accounting/
operating-cycle/.
"Working Capital Management". 2020. Investopedia. Accessed July 30.
https://www.investopedia.com/terms/w/workingcapitalmanagement.asp
#:~:text=Working%20capital%20management%20is%20a,liabilities%20to
%20the%20best%20effect.&text=A%20company's%20working%20capital
%20is,assets%20minus%20its%20current%20liabilities.
Cabrera, Ma. Elenita, and Gilbert Anthony Cabrera. 2017. Business Finance
Principles And Applications. Sampaloc, Manila: GIC Enterprises & Co., Inc.
Cayanan, Arthur, and Daniel Vincent Borja. 2017. Business Finance. 1st ed. Manila:
Rex Book Store.
Teaching Guide For Senior High School Business Finance. 2016. Quezon City:
Commission on Higher Education.

18
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