Working Capital

Management
Capital
capital is the nerve centre for any
business activity

Capital required for business:

• Fixed Capital
• Working Capital
 Introduction

Working capital typically means the firm’s

holding of current or short-term assets such as
cash, receivables, inventory and marketable
securities. These items are also referred to as
circulating capital Corporate executives devote a
considerable amount of attention to the
management of working capital.
 Definition
 Working Capital refers to that part of the firm’s
capital, which is required for financing short-term
or current assets such a cash marketable
securities, debtors and inventories.

Funds thus, invested in current assets keep

revolving fast and are constantly converted into
cash and this cash flow out again in exchange for
other current assets.

Working Capital is also known as revolving or

circulating capital or short-term capital.
 Concept
• Working Capital is also called Net Current
Assets (ie) excess of Current Assets Over
Current Liabilities.
• Working capital refers to current assets,
which are:
a) Convertible into Cash (or) equivalents
within a period of one year.
b) Requires to meet the day-to-day
operations of business.
 Concept
There are two possible interpretations of working capital
concept

• Balance sheet concept: Excess of current assets over

current liabilities b. gross or total current assets.

• Operating cycle concept: A company’s operating cycle

(i.e) Purchasing resources, Producing the product and
Distributing (selling) the product.
 Need for Working Capital
• As profits earned depend upon magnitude of
sales and they do not convert into cash instantly,
thus there is a need for working capital in the
form of CA so as to deal with the problem arising
from lack of immediate realisation of cash
against goods sold.
• This is referred to as “Operating or Cash Cycle” .
• It is defined as “The continuing flow from cash to
suppliers, to inventory , to accounts receivable &
back into cash “.
 Need for Working Capital
• Thus needs for working capital arises from
cash or operating cycle of a firm.
• Which refers to length of time required to
complete the sequence of events.
• Thus operating cycle creates the need for
working capital & its length in terms of time
span required to complete the cycle is the
major determinant of the firm’s working
capital needs.
 WORKING CAPITAL
• Current assets – Current liabilities
• It measures how much in liquid assets a
company has available to build its business.
• A short term loan which provides money to buy
earning assets.
• Allows to avail of unexpected opportunities.
• 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 and payable and cash.
 WORKING CAPITAL

• An increase in working capital indicates that the

business has either increased current assets
(that is received cash, or other current assets) or
has decreased current liabilities, for example has
paid off some short-term creditors.
 Working Capital Management
• Decisions relating to working capital and short
term financing are referred to as working capital
management. Short term financial management
concerned with decisions regarding to CA and
CL.
• Management of Working capital refers to
management of CA as well as CL.
• If current assets are less than current liabilities,
an entity has a working capital deficiency, also
called a working capital deficit.
• These involve managing the relationship between
a firm's short-term assets and its short-term
liabilities.
 Working Capital Management
• 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.
• Businesses face ever increasing pressure on
costs and financing requirements as a result of
intensified competition on globalised markets.
When trying to attain greater efficiency, it is
important not to focus exclusively on income and
expense items, but to also take into account the
capital structure, whose improvement can free up
valuable financial resources
 WORKING CAPITAL MANAGEMENT

• Active working capital management is an

extremely effective way to increase enterprise
value. Optimising working capital results in a
rapid release of liquid resources and contributes
to an improvement in free cash flow and to a
permanent reduction in inventory and capital
costs, thereby increasing liquidity for strategic
investment and debt reduction. Process
optimisation then helps increase profitability.
 WORKING CAPITAL MANAGEMENT

• The fundamental principles of working

capital management are reducing the
capital employed and improving efficiency
in the areas of receivables, inventories,
and payables.
 Why working Capital is important?

• Investment in CA represents a substantial

portion of total investment.
• Investment in CA and level of CL have to
be geared quickly to changes in sales.
Decisions involving Working Capital
• What should be the total investment in WC
of the business?
• What should be the level of individual
current assets?
• What should be the relative proportion of
different resources to finance the WC
requirements of business?
 Types of WC concept
• Gross Working Capital:
Denotes the business firms investment
in all the current assets taken together.

• Net working Capital:

Excess of Current Assets over Current
Liabilities [CA-CL].
 Gross Working Capital
• Total Current assets
• Where Current assets are the assets that
can be converted into cash within an
accounting year & include cash , debtors
etc.
• Referred as “Economics Concept” since
assets are employed to derive a rate of
return.
 Net Working Capital
• CA – CL
• Referred as ‘point of view of an
Accountant’.
• It indicates liquidity position of a firm &
suggests the extent to which working
capital needs may be financed by
permanent sources of funds.