Working Capital Concept

• Working Capital plays a very vital role in the Day to Day operations of organisation. It occupies a large portion of the Total Assets and needs to be controlled in a proper way to maximise Output while minimising Cost of Working Capital. • The Various components of WC are required to be analysed, controlled and managed separately. The combination of all these components make Working Capital effective.

Components of WC
Current Assets : • Accounts Receivable : Amount Receivable against Sales. It represents Credit given by us to our customers. It is the amount of Funds equal to Cost of Goods sold invested in the Receivables. Credit period, cost of credit and recovery of receivables has to be critically defined and designed.

Components of WC
Current Assets : • Inventory : This represents amount of funds Invested by the organisation in Stocks so the goods can be produced as per demand and sold to generate funds. Raw Material : Stock of basic Materials required for Production of Goods

Components of WC
Current Assets : Inventory • Work in Progress : This is the amount of Stocks which are half way through the process of Production. It is the Raw Material which is not yet completely processed. Finished Goods : Stock of Goods produced completely and which are in Saleable Form.

Working Capital Components
• Current Assets : Cash and Bank Balances : This is hard money available for spending at any time. It is the most liquid form of asset available in the hands of the Company. Idle and excess Cash balance is most non productive components, but it also strengthens the Liquidity position of company.

WC - Liabilities
Current Liabilities: • Accounts Payable : Amount payable against Purchases to our suppliers. This is the amount of Funds available for shorter period which can be used for Production. • Short Term Borrowings : Borrowings from Banks & Financial Institutions as Stop Gap arrangement for Day to Day activities.

WC – A Case Study
• • • • Monthly Sales : Rs. 200000 Monthly Cost of Production : Rs.144000 Raw Material : Rs.100000/month Stocks : Raw material 2 Months, WIP 15 days, Finished Goods 1 month. • Credit given to Customers = 1 month • Credit Received by Suppliers = 15 days.

Computation of WC
• Current Assets Stocks Raw Material = 200000 WIP(1/2 of COGS) = 72000 Finished Goods(Equal to COGS) = 144000 Receivables = 200000 • Current Liabilities Payables (1/2 of COGS) = 144000 WC = CA – CL 200000+72000+144000 +200000 – 144000 = 472000.

WC – Inventory Management
• Inventory is almost 60-70% of Ideal WC composition if WC is managed properly. It is the largest component of WC having direct impact on Operations of Company and also direct Impact on Demand and other Components. • Management of Inventory, its Logistics, Cost of Carrying Inventory is matter of great concern in Manufacturing Organisation.

Inventory Control – Economic Order Quantity ( EOQ )
• Major Components of Inventory Cost are 2. Purchase Cost : Uncontrollable 3. Ordering Cost : Cost per order : Can be managed through Controlled Orders 4. Carrying Cost : Cost of Stocking and Maintaining Inventory, Handling Cost, Space Cost etc. : Can be managed through Ideal and Optimum Stock Level in Store.

EOQ : Control of Inventory Costs
• Economic Order Quantity is an approach which aims at Balancing both the costs namely Ordering Cost and Carrying Cost. • Both the Costs are controversial to each other, as if Ordering Cost reduced, more Stocks are required and increase Carrying Cost, and if Carrying Cost is reduced, number of Order increase. • EOQ aims at finding the Quantity to be ordered to such Volume that Both the costs will be almost minimum and will balance each other.

EOQ - Formula
• EOQ = Root of 2 X Annual Consumption X Ordering Cost Per Order Inventory Carrying Cost Per Unit Find EOQ for Monthly Consumption = 200 Units Ordering Cost Per Order = Rs.100 Carrying Cost = Rs.12 Per Unit

Inventory Levels : Managing Logistics & Controlling Costs
• Maximum Order Level : No Order above this Level • Minimum Order Level : Stock must not go below this Level. An Order is a Must • Danger Level : A zone below Minimum Order Level, which alerts of Out of Stock • Re-Order Level : Level at which New Order or Periodic Order is due.

Inventory Appraisal – ABC Analysis
• Inventory is divided in to very varied and versatile range of products and goods. • It is very important to have catagorisation of Inventory Products in to different catagories based on the Materiality & Significance • ABC analysis aims at Catagorisation of all the Inventory items in to 3 catagories based upon their Value and Importance

Inventory Appraisal – ABC Analysis
Division of Inventory under ABC • A : These are the Products having Minimum Quantity but Maximum Value per unit. Most Imp. Products. All main Raw Materials. • B : These are those which occupy middle position in terms of Value as well as Quantity. Spares, Packing Materials, Tools etc. • C : Products having large Volume but least Value per unit, supporting or maintenance products. Stores and Consumables.

Inventory Appraisal – ABC Analysis
Uses of ABC Analysis • After catagorisation, Storage and Identification of all the Products becomes effective and efficient • Logistics and Material handling can be defined and specialised for each category depending upon the Preference and Importance • Inventory Control Systems which are very costly can be used more prudently if catagorisation is done as per ABC. • Inventory Storage, Carrying and Handling Costs can be controlled effectively.

Inventory Appraisal – ABC Analysis
Modality of ABC Analysis • A Category : Products that are around 70% in Value but 10% in Volume • B Category : Products that are around 20% in Value but 20% in Volume • C Category : Products that are 10% in Value but 70% in Volume.