Importance Of Working Capital During Recession

The economic and credit crisis of 2008 has forced many companies into cash flow problems due to non availability of working capital and credit facilities which in turn have led to retrenchment of staff, shrinkage of operations, curtailment of plans for capital expansion into different markets and downsizing. For most of these companies such a curtailment of operations and credit crunch threatens their very existence. To overcome this problem companies look up to finance professionals who can manage the working capital requirements through planning, obtaining additional facilities and restructuring their operations. Working capital management is one of the cornerstones of business continuity and acts as a hedge against tightening credit and access to additional capital. Companies which manage their working capital optimally during times of recessions come out stronger post the recession period. During times of double digit growth and expansions it is easy to forecast working capital needs and manage liquidity. The real test however comes during periods of recession and credit crisis as witnessed by the world during 2008 and 2009. During these times the management and finance professionals need to devote themselves to reassessing the organization’s working capital sources and needs, such as how to finance the working capital, what is the level of financing required in downturn and what are the costs of obtaining the working capital.

What is working capital?
Working capital, also known as net working capital, represents operating liquidity available to a business. Along with fixed assets such as plant and equipment, working capital is considered a part of operating capital. It is calculated as current assets minus current liabilities. If current assets are less than current liabilities, an entity has a working capital deficiency.

Working Capital = Current Assets − Current Liabilities
A company can be endowed with assets and profitability but short of liquidity if its assets cannot readily be converted into cash. Positive working capital is required to ensure that a firm is able to continue its operations and that it has sufficient funds to satisfy both maturing short-term debt and upcoming operational expenses. The management of working capital involves managing inventories, accounts receivable, payable and cash. These components provide the sources of income for the business, whether in the form of profit from the sale of products and services, or interest earned from securities. The current liabilities consist mainly of accounts payable which is of prime importance as management of payables can significantly affect cash flows of the company. Effective working capital management is ensuring sufficient cash flow to fund operations while reducing debt. Working capital management is the responsibility of all the departments in the organization i.e. finance, sales, purchasing, planning, manufacturing etc., also known as the cash conversion cycle.

The important aspects of working capital management are:
1) Planning - Companies should begin by determining what their working capital requirements should be and tune the working capital model accordingly. The model could be aggressive or moderate based on the market situation affecting the company. Assessing the risks present and future, also plays an important part in planning for the working capital requirements. 2)Reassess internal working capital policies such as credit periods for customers, suppliers, short term finance, long term finance, equity participation, inventory, securities etc. 3)Benchmarking-Companies should benchmark their requirements against similar companies in their industries to have information on working capital requirements. 4)Balance growth and profitability- Companies should balance growth with profitability with sound working capital policies.

To be successful, working capital and cash management initiatives require buy-in and support from senior levels of management and logically, should be led by the Chief Financial Officer, or in some cases, the Chief Executive Officer. Dramatic improvements in working capital are possible. The best organizations are shifting their focus to a more strategic approach to the finance function, by taking responsibility for performance improvement initiatives that have a direct link to enhancing the economic value of the organization. Improving your business’s cash-flow management system is critical to freeing up your capital and using it to your advantage. These operational improvements can contribute to strategic success and help sustain your competitive advantage.

BUSINESS PROFILE
The evolution of L&T into the country's largest engineering and construction organization is among the most remarkable success stories in Indian industry.
L&T was founded in Bombay (Mumbai) in 1938 by two Danish engineers, Henning Holck-Larsen and Soren Kristian Toubro. Both of them were strongly committed to developing India's engineering capabilities to meet the demands of industry.

Henning Holck-Larsen (4.7.1907 - 27.7.2003)

Soren Kristian Toubro (27.02.1906 - 4.3.1982)

Beginning with the import of machinery from Europe, L&T rapidly took on engineering and construction assignments of increasing sophistication. Today, the company sets global engineering benchmarks in terms of scale and complexity. EARLY DAYS Henning Holck-Larsen and Soren Kristian Toubro, school-mates in Denmark, would not have dreamt, as they were learning about India in history classes that they would, one day, create history in that land. In 1938, the two friends decided to forgo the comforts of working in Europe, and started their own operation in India. All they had was a dream. And the courage to dare. The war-time need to repair and refit ships offered L&T an opportunity, and led to the formation of a new company, Hilda Ltd., to handle these operations. L&T also started two repair and fabrication shops - the Company had begun to expand. Again, the sudden internment of German engineers (because of the War) who were to put up a soda ash plant for the Tatas, gave L&T a chance to enter the field of installation - an area where their capability became well respected.

THE JOURNEY In 1944, ECC was incorporated. Around then, L&T decided to build a portfolio of foreign collaborations. By 1945, the Company represented British manufacturers of equipment used to manufacture products such as hydrogenated oils, biscuits, soaps and glass. In 1945, L&T signed an agreement with Caterpillar Tractor Company, USA, for marketing earthmoving equipment. At the end of the war, large numbers of war-surplus Caterpillar equipment were available at attractive prices, but the finances required were beyond the capacity of the

L&T emerged second. S.M. Naik. Naik’s rankings soar among the country’s news makers. In the sector-wise survey. A. Rao. and strong customer orientation. Naik’s stellar contributions to the industry and nation. ICAI Bestows Top Honour on Mr. 2011) Finance Minister Presents Coveted ET Company of the Year Award to Mr.M. In the decades that followed. 2011) L&T bags ’India Shining Star Award’ for Outstanding CSR L&T bagged the ’India Shining Star CSR Award’. U. Subramaniam. Chennai (Madras) and New Delhi. CFO.M. Mr. the L&T saga continues. CFO. L&T had widened its capabilities to include some of the best technologies in the world. high quality of products and services. In 1976. Businessworld’s rankings of ’Most Respected Companies’ saw stellar honours for L&T. Naik . Today. and by 1973 had become one of the Top-25 Indian companies. It is also taking steps to grow its international presence. there cannot and must not be an 'end'. and on 7th February 1946. fifty-five acres of undeveloped marsh and jungle was acquired in Powai. instituted by the Wockhardt Foundation. He retired as Chairman in 1978. A. Naik is ranked 12th. for Outstanding CSR in the sector for companies engaged in heavy engineering. has emerged as among the most high profile of India’s corporate leaders in the Indian and the global media. the company grew rapidly. A. Unlike other stories.M. the company grew into an engineering major under the guidance of leaders like N. For an institution that has grown to legendary proportions.. Chairman & Managing Director. Holck-Larsen was awarded the Magsaysay Award for International Understanding in recognition of his contribution to India's industrial development. 2011. Mr. ‘Business Achiever – Corporate’ for the year 2010 on Mr. (February 24. for his outstanding contribution to business leadership as a finance professional.Leadership & Excellence Award 2011. L&T. having seen a rise of 157 per cent. Y. L&T was ranked ’India’s Most Respected Company’ in the Infrastructure category. In the survey of global media. (February 19. the Mumbai based CHEMTECH Foundation has conferred on him its prestigious Hall of Fame . L&T CMD Honoured with CHEMTECH Hall of Fame Award In recognition of L&T’s CMD. (January 30. S. In the decade that followed. D. The award was presented at the 11th International Conference of the Centre in Mumbai on February 11. M. 2011) L&T wins Award for ’Company with Best CSR & Sustainability Practices-2011’ L&T’s CSR initiatives were again in the limelight as it bagged the award for ’Company with the Best CSR and Sustainability Practices’ by the Asian Centre for Corporate Governance and Sustainability. A recent survey of press citations saw Mr. In 1948. This prompted them to raise additional equity capital. Deosthalee.2011’ Rankings Leading business magazine. AWARDS & RECOGNITIONS 2011 MAJOR AWARDS RECEIVED BY L&T IN 2011 L&T CMD Ranks among Top News Makers in Indian and Global Media Mr.partners. Naik. development projects and Information Technology of the L&T Group. Deosthalee. L&T. Powai stands as a tribute to the vision of the men who transformed this uninhabitable swamp into a manufacturing landmark. M. L&T wins Top Honours in Businessworld’s ’Most Respected Company . Larsen & Toubro Private Limited was born. EXPANDING HORIZONS By 1964. Offices were set up in Kolkata (Calcutta). Independence and the subsequent demand for technology and expertise offered L&T the opportunity to consolidate and expand. L&T is one of India's biggest and best known industrial organisations with a reputation for technological excellence.. He was ranked Number 10 in the Indian media. The institute saluted his role in providing strategic direction to the business of financial services. Y.M. V. In the overall rankings. Today. Kulkarni and A.R. L&T The Institute of Chartered Accountants of India (ICAI) – the country’s apex body of Chartered Accountants – has bestowed its highest honour. Desai.

L&T Construction today is organised into four Independent Companies to allow for more in-depth technology and business development as well as to focus attention on domestic and international project execution. longest pipelines including many other benchmark projects have been built by L&T Construction. Many of the country’s prized landmarks – its exquisite buildings. Payable Management and Cash management. tallest structures. Faridabad Switchgear Works (FSW). mechanical. electrical and instrumentation engineering and services extend to all core sector industries and infrastructure projects. Contracts are executed using state of the art design tools and project management techniques from concept to commissioning. There are a number of toolsavailable for a proper working capital management. L&T Construction is equipped with the requisite expertise and wide-ranging experience to undertake Engineering Procurement and Construction (EPC) projects with single source responsibility. Most of them are studied as a part of theproject.COMPANY PROFILE OVERVIEW L&T Construction is India’s largest construction organisation with over 65 years of experience and expertise in the field. L&T Construction’s leading edge capabilities cover every discipline of construction: civil. L&T Construction figures among the World’s top contractors and ranks 35th among top global contractors and 60th among international contractors as per the survey conducted by Engineering News Record magazine. . Each Independent Company is further split into different Strategic Business Units (SBUs) to take care of the specific needs of various customers. As a part ofinventory management. Working capital management comprises of four major parts – Inventory management. a manufacturing unit of Larsen & Toubro Limited (L&T). The ICs are: • • • • Infrastructure Buildings & Factories Power Transmission & Distribution Projects Metallurgical & Material Handling Projects ABSTRACT The project titled ‘Analysis Of Woking Capital Management’ aims at understanding and analyzing the Working Capital Structure of the plant. Receivablesmanagement. various inventory management techniques are studied. largest airports/ industrial projects. longest flyovers. USA. highest viaducts.

Credit Policy. This technique. Collections are tried to be made as fast as they can. NOT RETAINED IN THE BUSINESS IN A PARTICULAR FORM FOR LONGER THAN A YEAR. ABC Analysis. giving special focus on how they are being implemented practically. These methods. which are not practically implemented (like Reorder Point. THE MONEY INVESTED IN IT . IT IS A TRADING CAPITAL. even L&T is tryingto minimize its debtors. TRENDS IN WORKING CAPITAL MANAGEMENT AND ITS IMPACT ON FIRMS’ NATURE AND IMPORTANCE OF WORKING CAPITAL THE WORKING CAPITAL MEETS THE SHORT-TERM FINANCIAL REQUIREMENTS OF A BUSINESS ENTERPRISE. Also. Single Piece Flow System etc). there is an innovative technique being used by L&T formanaging its receivables efficiently.and all these tools are very much focused and effective in doing so. Credit Terms. and Collection Policy and Procedure are understood. Just like any other firm. Safety Stock etc) are studied. JIT. are studied in detail. known as Channel Financing makes surethat the receivables are collected almost instantly.Most of these are being implemented in the plant (like PIV. Even those tools. As far as receivables management is concerned. as far as possible. along with their working and importance.

THE NEED FOR MAINTAINING AN ADEQUATE WORKING CAPITAL CAN HARDLY BE QUESTIONED. THE AMOUNTS INVESTED IN .CHANGES FORM AND SUBSTANCE DURING THE NORMAL COURSE OF BUSINESS OPERATIONS. JUST AS CIRCULATION OF BLOOD IS VERY NECESSARY IN THE HUMAN BODY TO MAINTAIN LIFE. THE CASH FLOW PROBLEMS OF MANY SMALL BUSINESSES ARE EXACERBATED BY POOR FINANCIAL MANAGEMENT AND IN PARTICULAR THE LACK OF PLANNING CASH REQUIREMENTS (JARVIS ET AL. 1996). 1994). ON ITS ABILITY TO GENERATE CASH RECEIPTS IN EXCESS OF DISBURSEMENTS. THE BUSINESS CAN HARDLY PROSPER AND SURVIVE. THE MANAGEMENT OF WORKING CAPITAL IS IMPORTANT TO THE FINANCIAL HEALTH OF BUSINESSES OF ALL SIZES. 1996). THE FLOW OF FUNDS IS VERY NECESSARY TO MAINTAIN BUSINESS. THE MANAGEMENT OF WORKING CAPITAL WHILE THE PERFORMANCE LEVELS OF SMALL BUSINESSES HAVE TRADITIONALLY BEEN ATTRIBUTED TO GENERAL MANAGERIAL FACTORS SUCH AS MANUFACTURING. WORKING CAPITAL MANAGEMENT MAY HAVE A CONSEQUENT IMPACT ON SMALL BUSINESS SURVIVAL AND GROWTH (KARGAR AND BLUMENTHAL. MARKETING AND OPERATIONS. THE SUCCESS OF A FIRM DEPENDS ULTIMATELY. WORKING CAPITAL STARVATION IS GENERALLY CREDITED AS A MAJOR CAUSE IF NOT THE MAJOR CAUSE OF SMALL BUSINESS FAILURE IN MANY DEVELOPED AND DEVELOPING COUNTRIES (RAFUSE. IF IT BECOMES WEAK.

THE IMPORTANCE OF EXERTING TIGHT CONTROL OVER WORKING CAPITAL INVESTMENT IS DIFFICULT TO OVERSTATE. THIS WILL PROLONG THE CASH OPERATING CYCLE.WORKING CAPITAL ARE OFTEN HIGH IN PROPORTION TO THE TOTAL ASSETS EMPLOYED AND SO IT IS VITAL THAT THESE AMOUNTS ARE USED IN AN EFFICIENT AND EFFECTIVE WAY. GIVEN THAT MANY SMALL BUSINESSES SUFFER FROM UNDERCAPITALISATION. PROFITABILITY (DUE ADVERSELY AFFECT ALTHOUGH THIS MIGHT INCREASE TO INCREASE SALES). IF RESOURCES ARE BLOCKED AT THE DIFFERENT STAGE OF THE SUPPLY CHAIN. IT MAY ALSO . A FIRM CAN BE VERY PROFITABLE. THE FIRM WOULD NEED TO BORROW TO SUPPORT ITS CONTINUED WORKING CAPITAL NEEDS. THUS. THE TWIN OBJECTIVES OF PROFITABILITY AND LIQUIDITY MUST BE SYNCHRONISED AND ONE SHOULD NOT IMPINGE ON THE OTHER FOR LONG. HOWEVER. BUT IF THIS IS NOT TRANSLATED INTO CASH FROM OPERATIONS WITHIN THE SAME OPERATING CYCLE. THERE IS EVIDENCE THAT SMALL BUSINESSES ARE NOT VERY GOOD AT MANAGING THEIR WORKING CAPITAL. INVESTMENTS IN CURRENT ASSETS ARE INEVITABLE TO ENSURE DELIVERY OF GOODS OR SERVICES TO THE ULTIMATE CUSTOMERS AND A PROPER MANAGEMENT OF SAME SHOULD GIVE THE DESIRED IMPACT ON EITHER PROFITABILITY OR LIQUIDITY.

BUT IT HAS AN IMPLICIT COST WHERE DISCOUNT IS OFFERED FOR EARLY SETTLEMENT OF INVOICES The relevance of Working Capital to publishing in young economies In the FSU Working Capital levels were controlled at government rather than factory level. Risk was a government problem. the implications are as follows. Inventory levels and print runs were according to a formula: in textbook publishing. printers and distributors would negotiate for annual cash budgets but did not have to concern themselves about Working Capital questions except where budget moneys were delayed. Publishers would have to borrow money from the bank or shareholders to pay for the inventory. In a competitive open economy printers would have to offer discounts and credit to persuade publishers to take the risk of early ordering. Schools would demand the latest up-to-date editions. Publishers. Invoices were settled on standard credit terms. 1. the remaining 50% would be used for replacement copies in subsequent years. Non or slow payment was not a major problem for printers and publishers. THUS IT HELPS FIRMS TO REDUCE ITS CASH OPERATING CYCLE. Thus textbook printing would commence in November for the following September. Printing capacity was sufficient to produce local and other agreed requirements. 150% of the textbook requirement would be printed in year 1. INSTEAD IT IS OFTEN USED AS A SHORT TERM SOURCE OF FINANCE. Authors were paid standard royalty rates and terms. BUT IT IS DIFFERENT IN THE SENSE THAT IT DOES NOT CONSUME RESOURCES. ANOTHER COMPONENT OF WORKING CAPITAL IS ACCOUNTS PAYABLE. For young economies. In young economies the first industries to develop are those with low or negative Working Capital % to sales.THE PROFITABILITY IF THE COSTS TIED UP IN WORKING CAPITAL EXCEED THE BENEFITS OF HOLDING MORE INVENTORY AND/OR GRANTING MORE TRADE CREDIT TO CUSTOMERS. Negative Working Capital is where the organisation uses supplier credit .

3. suppliers and authors of book publishers also want to operate to a low or negative Working Capital / sales %. However profit margins are often lower because of the competition (but not always!) and the failure rate among such industries among developed countries is usually higher. Financial entry barriers are lower and these industries are easier to expand.or customer Prepayments to fund their day to day needs. despite the introduction of modern 4colour sheet-fed presses.G. distributors will try to withhold payment until they have received money from their customers.g.g. retailers. industries with cash sales or advance payments on signature of contract (e. Most of the innovations introduced at the end of the previous chapter were created by reduced the level of Working Capital and the time schedule of creating and selling books. Most marketing innovations in book publishing have come about through the application of the above Working Capital concepts to creating additional sales and expanding the market. Organisations with negative Working Capital use the money from their customers with which to invest and to pay suppliers. The customers. 2. not to satisfying publishers and their customers under national or international competition. These price scales were geared to maximum production output. Printers will change their attitude to pricing and print-runs only in a crisis. Entrepreneurs are attracted to industries with low or negative Working Capital % figures 5. printers). E. In many young economies printers have not co-operated with publishers . Printers are loath to change from their dominant position where they could dictate prices and schedules according to price scales formulated at state level. Thus printers ask for advance payments e. 4-colour printing would cost 4-times the cost of single colour printing. Competition is fiercest among industries with low or negative Working Capital / sales % figures. Banks are attracted to industries with low or negative Working Capital / sales % figures as cash and profits are earned more quickly 4. banks and financial services. 6. for paper. 7. distribution.

Publishers. This may affect printers. The concept applies equally to state enterprises and non-profit making organisations. the producers have to accept a greater burden. Authors were paid standard royalty rates and terms. This policy will affect the evolution of the Working Capital cycle and may tilt it more in favour of producers. staff and suppliers paid promptly. the less likely is the publisher to have to rely on offering credit as an incentive. It is essential to distinguish between genuine expansion cases and opportunistic entrepreneurs. If cash and profits are generated more quickly. 150% of the textbook requirement would be printed in year 1. 9. printers and distributors would negotiate for annual cash budgets but did not have to concern themselves about Working Capital questions except where budget moneys were delayed. Where producers are dominant. The relevance of Working Capital to publishing in young economies In the FSU Working Capital levels were controlled at government rather than factory level. The more a publisher is actively engaged in marketing and distribution. In developed countries publishers have sometimes allowed retail groups extra credit (= higher Working Capital for publishers) in order to encourage them to expand into new outlets or sell more books.(partly the fault of the publishers) and faced near collapse as publishers have purchased printing overseas. In some young economies. Invoices were settled on standard credit terms. Where customers are dominant. 10. publishers and distributors. Inventory levels and print runs were according to a formula: in textbook publishing. Risk was a government problem. . their customers will have to accept higher levels of Working Capital. 8. the government may have a policy of holding key organisations in the state sector or as majority owned state enterprises rather than encouraging a “free-for-all enterprise policy. Bank interest is reduced. the remaining 50% would be used for replacement copies in subsequent years. Non or slow payment was not a major problem for printers and publishers. new titles can be commissioned sooner.

Banks are attracted to industries with low or negative Working Capital / sales % figures as cash and profits are earned more quickly 4. Thus printers ask for advance payments e. Most of the innovations introduced at the end of the previous chapter were created by reduced the level of Working Capital and the time schedule of creating and selling books. Thus textbook printing would commence in November for the following September. Competition is fiercest among industries with low or negative Working Capital / sales % figures. 3. industries with cash sales or advance payments on signature of contract (e. printers). Negative Working Capital is where the organisation uses supplier credit or customer Prepayments to fund their day to day needs. for paper. 1. distribution. The customers. retailers. In young economies the first industries to develop are those with low or negative Working Capital % to sales. Organisations with negative Working Capital use the money from their customers with which to invest and to pay suppliers. Entrepreneurs are attracted to industries with low or negative Working Capital % figures 5. E. In a competitive open economy printers would have to offer discounts and credit to persuade publishers to take the risk of early ordering. Financial entry barriers are lower and these industries are easier to expand. However profit margins are often lower because of the competition (but not always!) and the failure rate among such industries among developed countries is usually higher. Schools would demand the latest up-to-date editions. the implications are as follows.g.g.G. Most marketing innovations in book publishing have come about through the application of the above Working Capital concepts to creating additional sales and expanding the market. For young economies. 6. Publishers would have to borrow money from the bank or shareholders to pay for the inventory. 2. suppliers and authors of book publishers also want to operate to a low or negative Working Capital / sales %. distributors will try to withhold payment until they have received money from their customers. banks and financial services. .Printing capacity was sufficient to produce local and other agreed requirements.

Printers will change their attitude to pricing and print-runs only in a crisis. The concept applies equally to state enterprises and non-profit making organisations. Printers are loath to change from their dominant position where they could dictate prices and schedules according to price scales formulated at state level. 9. Where producers are dominant. not to satisfying publishers and their customers under national or international competition. This policy will affect the evolution of the Working Capital cycle and may tilt it more in favour of producers. publishers and distributors. In many young economies printers have not co-operated with publishers (partly the fault of the publishers) and faced near collapse as publishers have purchased printing overseas. Bank interest is reduced. If cash and profits are generated more quickly. 10. 8. the government may have a policy of holding key organisations in the state sector or as majority owned state enterprises rather than encouraging a “free-for-all enterprise policy. the less likely is the publisher to have to rely on offering credit as an incentive.7. In some young economies. This may affect printers. 4-colour printing would cost 4-times the cost of single colour printing. It is essential to distinguish between genuine expansion cases and opportunistic entrepreneurs. The more a publisher is actively engaged in marketing and distribution. new titles can be commissioned sooner. In developed countries publishers have sometimes allowed retail groups extra credit (= higher Working Capital for publishers) in order to encourage them to expand into new outlets or sell more books. despite the introduction of modern 4colour sheet-fed presses. These price scales were geared to maximum production output. . staff and suppliers paid promptly. Where customers are dominant. the producers have to accept a greater burden. their customers will have to accept higher levels of Working Capital.

1. Schools would demand the latest up-to-date editions. industries with cash sales or advance payments on signature of contract (e. Risk was a government problem. distribution. For young economies. Publishers would have to borrow money from the bank or shareholders to pay for the inventory. However profit margins are often lower because of the competition (but not always!) and the failure rate among such industries among developed countries is usually higher. Invoices were settled on standard credit terms. E. In a competitive open economy printers would have to offer discounts and credit to persuade publishers to take the risk of early ordering. printers and distributors would negotiate for annual cash budgets but did not have to concern themselves about Working Capital questions except where budget moneys were delayed. banks and financial services. Organisations with negative Working Capital use the money from their customers with which to invest and to pay suppliers. printers). Authors were paid standard royalty rates and terms. In young economies the first industries to develop are those with low or negative Working Capital % to sales. retailers. Competition is fiercest among industries with low or negative Working Capital / sales % figures.g. Thus textbook printing would commence in November for the following September.The relevance of Working Capital to publishing in young economies In the FSU Working Capital levels were controlled at government rather than factory level. Financial entry barriers are lower and these industries are easier to expand. 2. 150% of the textbook requirement would be printed in year 1. Negative Working Capital is where the organisation uses supplier credit or customer Prepayments to fund their day to day needs. . Inventory levels and print runs were according to a formula: in textbook publishing. Printing capacity was sufficient to produce local and other agreed requirements. the implications are as follows. Non or slow payment was not a major problem for printers and publishers. the remaining 50% would be used for replacement copies in subsequent years.G. Publishers.

the less likely is the publisher to have to rely on offering credit as an incentive. The more a publisher is actively engaged in marketing and distribution. It is essential to distinguish between genuine expansion cases and opportunistic entrepreneurs. 8. Thus printers ask for advance payments e. These price scales were geared to maximum production output. 9. In many young economies printers have not co-operated with publishers (partly the fault of the publishers) and faced near collapse as publishers have purchased printing overseas. The concept applies equally to state enterprises and non-profit making organisations. distributors will try to withhold payment until they have received money from their customers. 7. Printers are loath to change from their dominant position where they could dictate prices and schedules according to price scales formulated at state level.3. The customers. Most marketing innovations in book publishing have come about through the application of the above Working Capital concepts to creating additional sales and expanding the market. If cash and profits are generated more . despite the introduction of modern 4colour sheet-fed presses. suppliers and authors of book publishers also want to operate to a low or negative Working Capital / sales %. Printers will change their attitude to pricing and print-runs only in a crisis.g. In developed countries publishers have sometimes allowed retail groups extra credit (= higher Working Capital for publishers) in order to encourage them to expand into new outlets or sell more books. 6. not to satisfying publishers and their customers under national or international competition. 4-colour printing would cost 4-times the cost of single colour printing. Banks are attracted to industries with low or negative Working Capital / sales % figures as cash and profits are earned more quickly 4. Most of the innovations introduced at the end of the previous chapter were created by reduced the level of Working Capital and the time schedule of creating and selling books. for paper. Entrepreneurs are attracted to industries with low or negative Working Capital % figures 5.

Where customers are dominant. the government may have a policy of holding key organisations in the state sector or as majority owned state enterprises rather than encouraging a “free-for-all enterprise policy. the producers have to accept a greater burden. This may affect printers. new titles can be commissioned sooner. In some young economies. Where producers are dominant.quickly. staff and suppliers paid promptly. This policy will affect the evolution of the Working Capital cycle and may tilt it more in favour of producers. Bank interest is reduced. their customers will have to accept higher levels of Working Capital. . publishers and distributors. 10.

In this book we shall subtract current liabilities items from current assets as follows: Young Inventory Receivables Prepayments Payables Customer Prepayments 15.000 6. The faster that we create and sell the books the higher is likely to be the return on investment.000 (9.000 35.000 28. machinery) and Net Current Assets. marketing.000 We defined Net Current Assets as Total Current Assets less Total Current Liabilities. we have been discussing Working Capital.000) (1. The Balance Sheet comprises Long term Assets (real estate. Thus our Balance Sheet appears as follows: Long Term Assets Working Capital Cash in Bank Total Capital 6. In this chapter we will exclude Cash in Bank from our definition.000) . Thus when we have been using the word investment in the chapter on pricing. purchasing. and royalty and investment policy. the higher is likely to be the return on investment. Working Capital management is about the commercial and financial aspects of Inventory. credit. The less Working Capital used to attract sales. The higher the profit margin. The word Working Capital is often used for Net Current Assets. motor vehicles. the lower is likely to be the level of Working Capital tied up in creating and selling titles. In the earlier chapter on Accounting concepts we showed a sample Balance Sheet.000 17.000 1.Chapter 6: Working Capital Management Working Capital is the money used to make goods and attract sales.

The Working Capital cycle.Working Capital 28. and Accounts Payable. The totals are the same. I have divided the Prepayments figure of 6. Income Statement Turnover Cost of Sales Royalties Gross Profit Osiris 100.000 ) 25. other than for provisions for write-offs and write-downs.000 into Prepayments to authors and Prepayments to printers. the Working Capital figure will fall be US$ 500. This revised format is useful when designing spreadsheet financial planning models for business plans or for internal reporting. In the organisation’s Balance Sheet there will be the costs of paper. The Young scenario has the same Income Statement but I have adapted the Prepayments figure within the Balance Sheet in order to illustrate more elements of Working Capital. titles still under development. This figure is the average time that it takes to turn investment in books into cash and profit. We studied Payback in the previous chapter.000 ) (18. Accounts Receivable. will generate the same amount of cash.00 0 (57.000 . or Cash Conversion cycle as it is also called is usually expressed in terms of the number of days.000 Using this format we can state than any reduction in the Working Capital figure. author advances of books already and not yet published. and the cash figure will be increased by the same figure. Example: Osiris publishers In order to illustrate the concept I have adapted slightly the example used in the chapter on Accounting concepts. In addition there will be the cost of stocks of unsold books. Payback expresses the number of days required to recoup the original investment on a single title. Thus if a customer pays US$ 500 that he owes to the organisation.

000 (9. In practice royalties will be earned that . in this case excluding royalties.Distribution costs Promotion Write-offs Administration costs Operating Profit (5.000 3.000 Working Capital / Sales % Inventory in days Receivables in days Prepayments in days: authors Prepayments in days : printers Payables Customer Prepayments Working Capital Cycle in days 28.000 Analysis Balance Sheet Inventory Receivables Prepayments: authors Prepayments : printers Payables Customer Prepayments Working Capital Osiris 15.000 3.000) (2. Thus the publisher holds approximately 2 months of unsold inventory Accounts receivable in (Receivables / Turnover) x 365 = 62 days.000 ) 5. More correctly the purchases figure. days Assuming the turnover is phased evenly throughout the year.00% 96 62 61 19 (36) (4) 198 Explanation of the calculations Working Capital figure Inventory in days Explanation (Inventory / Cost of Sales) x 365 = 96 days.000) 28. if available should be used.000) (3.000 17.000) (1. this means the on average customers take 62 days to pay Prepayments in days – (Prepayment: authors / Royalties) x 365 = 61 authors days.000) (10.

The purchases figure if available would give a more accurate figure. In practice part of the Cost of Sales figure would be new title pre-press costs not carried out at the printer. the Working Capital figure will vary throughout the year according to the . Academic publishing is higher. reprints.4 = 198 Working Capital / Sales 28. Professional publishing uses a lower Working Capital % figure Working Capital is also a measure of risk • This figure may include new titles.000 = 28% % Explanation of the figures • • • • • On average it takes Osiris 198 days to turn an investment into cash and profit.000 / (57. licence sales. foreign language coeditions.000 + 5. Accounts Payable in days (Payables /(All purchases) x 365 (9. I have assumed that this figure includes money owed to authors (see prepayment: authors) Customer Prepayments Working Capital cycle in days (Customer Prepayments / Turnover) * 365 = 4 days 96 + 62 + 61 + 19 .000 + 10.000 / 100.000 + 18. This item relates to cases where advance payments are made to printers as a deposit or for paper.reduce this figure while new advances are also paid to other authors.000 + 2. Prepayments in days – (Prepayment: printers / Cost of sales) x 365 = printers 19 days. Within the total Balance Sheet. The figure would be different for each of these.000) x 365 = 36 days The purchases (investment) rather than the cost of sales figure should be used if available.36 . New tiles will use more Working Capital than reprints On average Working Capital equates to 28% of turnover The percentage of Working Capital to turnover varies according to the type of publishing Trade publishing in developed countries may have a figure of between 35.45 % of turnover.

printers). Competition is fiercest among industries with low or negative Working Capital / sales % figures. Publishers would have to borrow money from the bank or shareholders to pay for the inventory. Publishers.G. Negative Working Capital is where the organisation uses supplier credit or customer Prepayments to fund their day to day needs. Risk was a government problem. In a competitive open economy printers would have to offer discounts and credit to persuade publishers to take the risk of early ordering. E. the remaining 50% would be used for replacement copies in subsequent years. 150% of the textbook requirement would be printed in year 1. the implications are as follows. 2. Publishers should know the typical Working Capital cycle and the level of Working Capital as a % of turnover for each market or distributor. Invoices were settled on standard credit terms. The relevance of Working Capital to publishing in young economies In the FSU Working Capital levels were controlled at government rather than factory level. distribution. Non or slow payment was not a major problem for printers and publishers. Organisations with negative Working Capital use the money from their customers with which to invest and to pay suppliers. retailers.phasing of new titles and the sales cycle. In young economies the first industries to develop are those with low or negative Working Capital % to sales. 1. industries with cash sales or advance payments on signature of contract (e. banks and financial services. Printing capacity was sufficient to produce local and other agreed requirements. Inventory levels and print runs were according to a formula: in textbook publishing.g. Schools would demand the latest up-todate editions. printers and distributors would negotiate for annual cash budgets but did not have to concern themselves about Working Capital questions except where budget moneys were delayed. Financial entry barriers are lower and these industries are easier to expand. Thus textbook printing would commence in November for the following September. for each category of book. However profit margins are often lower . Authors were paid standard royalty rates and terms. For young economies.

despite the introduction of modern 4colour sheet-fed presses. 8. Most of the innovations introduced at the end of the previous chapter were created by reduced the level of Working Capital and the time schedule of creating and selling books. Entrepreneurs are attracted to industries with low or negative Working Capital % figures 5. Printers are loath to change from their dominant position where they could dictate prices and schedules according to price scales formulated at state level. 6. not to satisfying publishers and their customers under national or international competition.g. Most marketing innovations in book publishing have come about through the application of the above Working Capital concepts to creating additional sales and expanding the market. 4-colour printing would cost 4-times the cost of single colour printing. The customers. suppliers and authors of book publishers also want to operate to a low or negative Working Capital / sales %. 7. Printers will change their attitude to pricing and print-runs only in a crisis. distributors will try to withhold payment until they have received money from their customers.because of the competition (but not always!) and the failure rate among such industries among developed countries is usually higher. The more a publisher is actively engaged in marketing and distribution. In developed countries publishers have sometimes allowed retail groups extra credit (= higher Working Capital for publishers) in order to encourage them to expand into new outlets or sell more books. the less likely is the publisher to have to . Thus printers ask for advance payments e. In many young economies printers have not co-operated with publishers (partly the fault of the publishers) and faced near collapse as publishers have purchased printing overseas. It is essential to distinguish between genuine expansion cases and opportunistic entrepreneurs. 3. for paper. Banks are attracted to industries with low or negative Working Capital / sales % figures as cash and profits are earned more quickly 4. These price scales were geared to maximum production output.

the producers have to accept a greater burden. If cash and profits are generated more quickly. Retailers will argue that they would not purchase many new titles without their risk being mitigated by a “sale-or-return” policy” The central issues. “Sale or return” terms make planning and cash forecasting much more difficult. are: • Investment decisions rely too heavily on economies of scale e. This policy will affect the evolution of the Working Capital cycle and may tilt it more in favour of producers. which receive too little promotional effort and thus sell slowly or not at all. Where producers are dominant. which must be solved. in printing prices. by amortising first edition costs against larger print runs Publishers produce too many titles. their customers will have to accept higher levels of Working Capital. Their own customers solve the problem by negotiating credit with publishers or demanding “sale or return” terms. new titles can be commissioned sooner. Bank interest is reduced. • These can be solved only through long term changes in publishing strategy and greater attention to the “value chain” where suppliers. The concept applies equally to state enterprises and non-profit making organisations. 9. the government may have a policy of holding key organisations in the state sector or as majority owned state enterprises rather than encouraging a “free-for-all enterprise policy. Most publishers solve the question on a temporary basis by negotiating credit with printers and other suppliers.g. On demand publishing may reduce inventory levels but does not solve . 10. wholesalers and retailers co-operate to mutual benefit and shared risk. Where customers are dominant. publishers. This may affect printers. Working Capital levels in book publishing in developed countries Working Capital is a major problem in book publishing. In some young economies. publishers and distributors.rely on offering credit as an incentive. Most publishers rightly prefer to offer a slightly higher discount for a firm sale. staff and suppliers paid promptly.

Paperbacks can now sell in many cases at the same price as a hardback edition. The creation of “hit-parades” or “Top 10” listings has been adopted for books of different categories and has attracted significant media attention thus making books more fashionable. cassettes and greeting cards • • • Are all high margin projects Carry much heavier promotion budgets and commitment to marketing Are standardised in format Enjoy few economies of scale so short run and ondemand manufacture are the norm Sell to a more wide variety of retailers Sell on a less seasonal basis • • • Paperback publishers have adopted some of these aspects and have fought successfully to overcome the low price perception of paperbacks. lower printing prices than those paid by their publisher customers. Most packagers prefer to sell finished books rather than licence titles on a film and royalty basis. Many publishers have studied the publishing of music CD’s and cassettes. there are major differences: CD’s. bookclubs or foreign distributors. Packagers often stay loyal to printers who reward them with long credit and. Publishers buy the rights for a territory for a period of years or number of printings (provided that the title stays in print).the marketing aspects. Packagers buy at low prices from printers because they create only a small number of titles but each title will have a large print run. They evolve as part of the specialisation process especially when publishers become larger and more bureaucratic. While lessons can be learned. and of greeting cards with a view to finding solutions. The financial attraction to publishers is that they can buy smaller print runs at economic cost. Most publishers will make advance payments to the packagers but may be able to approve the content and design. in many cases. . As a result books may sell faster. perhaps at higher prices and thus reduce Working Capital levels. “Book Packagers” Book packagers create books under contract to publishers.

Will often sell the total print run to a make high profits single or small number of distributors . printers have often offered credit to allow packagers to start up. The printer may demand advance payment .Printers tend to give better prices to established publishers Some publishers may be closely linked with a printer. enjoy “freedom” . Most stay as packagers.Purchase rights from authors .Hold no Inventory but reprints .Receive advance payments from publishers . Compared with publishers.Packagers usually allow publishers to approve content Private publishers in young economies .Sell books with no transfer of rights and designers. textbooks and Ministry of Education. sometimes with dire results for the printer . these packagers have little market value in acquisition terms. enjoy “freedom” .Founders are creatively rather than market driven. Subsequently a small number of them have decided to become publishers and done so very successfully after re-financing.In the TV world many program companies will create programs for several networks while TV companies concentrate on distributing the programs.Founders are creatively rather than market driven. A similar situation exists in the multimedia field. University Publishing Houses .Are paid after delivery .g.Publishers will not involve customers in the book content except in special cases e. The production companies will retain the rights and earn fees for repeatshown programs.International printers offer them low prices and credit. and sell territorial or other rights to a number of customers The Working Capital cycle in both cases is similar in both . Thus packagers are very similar to many private publishers in young economies but with important differences as the table below shows: Book Packagers . Thus packagers are specialists who are not involved in marketing and distribution.

Lower profit margins . Neither the book packager nor the young private publisher is adequately financed. There are few potential buyers for book packagers.Licensing (but problematic in young economies) .Slow schedules for the development of new titles .g.Holding paper stock unless market conditions demand and the savings are large . They influence distributors. Making more efficient use of Working Capital The table below lists items.Lower Inventory levels by reducing print quantities and working with printers who will deliver quickly and produce low print runs economically . The cost of starting such organisations is much lower.Advance payments by customers the books are required on publication e. their potential to sell reprints is lower. While book packagers can of course sell foreign rights.Seasonal sales except where the publishers prints only for the season . both enjoy the creative aspects but do not want to expand if it means losing control.Long print runs except where all . Working Capital is lower because they are involved only in creating the books.Making advance payments to up the rate of sale printers . retailers and consumers only so long as they generate saleable new ideas.Slow authors who deliver late and whose manuscripts require substantial editing . which influence Working Capital levels favourably and adversely Items that reduce Working Capital levels for publishers .cases. The reason is perhaps the same.Successful promotion that speeds .Customers who pay promptly . School and university textbooks .Increased profit margins Items that increase Working Capital levels for publishers .Inventory which is sold and paid for quickly by customers after publication .

suppliers. delivering manuscripts on schedule . sales staff and agents to speed up the rate of sale and of developing new books..Incentives to staff .Paying suppliers on completion with credit .Authors who deliver manuscripts on disk ready for computer makeup . customers . authors .

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