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- 3. Meaning: The capital of a business, which is used in its day-to- day trading operations, is calculated as the current assets minus the current liabilities. Working capital is also called operating assets or net current assets
- 4. WORKING CAPITAL MANAGEMENT Working capital management refers to a company’s managerial accounting strategy designed to monitor and utilize the two components of working capital, current assets and current liabilities, to ensure the most financially efficient operation of the company
- 5. Components of working capital
- 6. Kinds of working capital:
- 7. Differences between temporary working capital and permanent working capital: Basis Temporary working capital Permanent working capital Meaning Temporary working capital refers to the working capital which is over & above the permanent working capital. It is necessary to meet seasonal needs and temporary needs. Permanent working capital refers to the level of current assets that have to be maintained and are important for the firm to run its business regardless of the level of business operations. Also known as Fluctuating or variable working-capital Fixed or Hard Core Working Capital Period For Short term For Long term Used Used for temporary or seasonal needs. Used for fixed assets.
- 8. Nature Temporary working capital fluctuates i.e. sometimes increasing and sometimes decreasing. Permanent working capital is stable Fund Temporary fund for seasonal works only Need to keep regular funds for day to day work Needed at times Temporary working capital will be only for special needs like advertising of a product etc Permanent working capital will always be the reserve capital for uncertain situations like lockout, strike, or depression.
- 10. FACTORS DETERMINING WORKING CAPITAL 1. Nature of business 2. Size of business 3. Production cycle process ( Time) 4. Production policy- (Continues or seasonal) 5. Terms of purchase and sales ( Credit policy) 6. Business cycle 7. Growth and expansion
- 11. 8. Scare availability of raw materials 9. Level of taxes 10.Dividend policy 11. Availability of credit
- 12. Operating cycle: • The time that elapses to convert raw materials into cash is known as operating cycle. • The time that elapses between the purchase of raw materials and the collection of cash from sales is refereed to as operating cycle.
- 13. a) Operating cycle in manufacturing unit: 1. Cash into raw materials 2. Raw materials into work in process 3. Work in process into finished goods 4. Finished goods into sales- If firm sells goods on cash basis operating cycles returns the cycle If the firm sells goods on credit basis than there will be another cycle that is 5. Debtors into Cash.
- 15. b) Operating cycle of a Non manufacturing Firm: Non-Manufacturing firms are wholesalers, retailers, service firms which do not have manufacturing process. They will have direct conversion of cash into finished goods and then into cash. They purchase finished goods from manufacturing organisation and sell them in either cash or credit.
- 17. Need or objectives of working capital: For the purchase of raw materials, components & spares To pay wages & salaries To incur day to day expenses & overheads costs To meet selling costs To provide credit facilities to the customers To maintain the inventories of raw material, work-in-process, stores and spares & finished goods.
- 18. Nature of Working Capital: 1. It is used for purchase of raw materials, payment of wages and expenses. 2. It changes form constantly to keep the wheels of business moving. 3. Working capital enhances liquidity, solvency, creditworthiness and reputation of the enterprise. 4. It generates the elements of cost namely: Materials, wages and expenses. 5. It enables the enterprise to avail the cash discount facilities offered by its suppliers. 6. It helps improve the morale of business executives and their efficiency reaches at the highest climax. 7. It facilitates expansion programmes of the enterprise and helps in maintaining operational efficiency of fixed assets
- 19. Importance of working capital Management: 1. Higher return on capital: 2. Improved credit profile and solvency 3. Higher profitability 4. Higher liquidity 5. Increased business value 6. Favourable financing conditions 7. Uninterrupted production 8. Ability to face shocks and peak demand
- 20. Estimation of Working Capital The approach to estimate a working capital is based on an operation cycle. Operation cycle comprises of two important components of working capital – Current assets and Current liabilities . Estimation of working capital is based on the assumption that production and sales occur on a continuous basis and all costs occur accordingly.
- 21. Estimation of Current Assets Current assets are estimated based on the following assumptions: • Average investment in raw material is estimated • Average investment in work-in-progress inventory is estimated • Average investment in finished goods inventory is estimated • Average investment in receivables (both in debtors and bills receivables) is estimated based on credit policy that the firm wishes to pursue • Based on the firm’s attitude towards risk, access to borrowing sources, past experience and nature of business, firms decide on the policy of maintaining the minimum cash balances
- 22. Estimation of Current Liabilities Current liabilities are estimated based on the following factors Trade creditors Direct wages Overheads
- 24. Adequacy of working capital