Working capital management strategy
- 3. 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
- 4. Working capital refers to that part of the firm’s capital, which is required for financing short-term or current assets such as cash marketable securities, debtors and inventories. It is also known as revolving or circulating capital or short-term capital
- 5. • Current Assets These are those assets which change their form within a short period of time, generally within one year. It includes-: Debtors, B/R, Cash & Bank balance, Prepaid expenses etc.
- 6. • Current Liabilities These are those liabilities which are payable within a short period of time, generally within one year. It includes- Creditors, B/P, Bank o/d, Short term loan, Proposed dividend etc.
- 7. Net Working Capital Current Assets - Current Liabilities. Gross Working Capital The firm’s investment in current assets.
- 8. Strengthen The Solvency Working capital help to operate the business smoothly with out any financial problem for making the payment of short-term liabilities such as payment to supplier, payment of salary and wages...etc. Enhance Goodwill Sufficient working capital enables a business concern to make prompt payment and hence help in creating and maintaining goodwill
- 9. Easy Obtaining Loan A firm having adequate working capital, High solvency and good credit rating can arrange loans from banks and financial institutions in a easy and favourable terms. Ability To Face Crisis Adequate working capital enables a firm to face business crisis in emergencies Such as depression
- 10. Regular Supply Of Raw Material Quick payment of credit purchase of raw materials ensure the regular supply of raw material from suppliers. High Morale Adequacy of working capital creates an environment of security, confidence, high morale and creates overall efficiency in business.
- 11. Smooth Business Operation Adequate working capital enable us to met any day to day financial requirement without shortage of fund, and all expenses and current liabilities are paid on time Cash discounts Adequate working capital also enable a concern to avail cash discounts on the purchase and hence it reduce costs
- 12. Strengthen The Solvency Enhance Goodwill Easy Obtaining Loan Ability To Face Crisis Regular Supply Of Raw Material High Morale Smooth Business Operation Cash discounts
- 13. Working capital management simply refers to management of working capital or it is the management of current asset and current liabilities .It involves the problem of decision making regarding investment in various current assets for maintaining the liquidity of fund
- 14. “working capital management is concerned with the problems that arise in attempting to manage the current asset, current liabilities and the interrelationship that exist between them” - SMITH
- 15. How the working capital should be financed ?
- 16. Short term fund Less costly= there is a “favourable impact on profitability” Long term fund “It provide liquidity for a longer period of time”
- 17. Approaches to Financing Mix The Hedging or Matching Approach The Conservative Approach The Aggressive Approach
- 18. Permanent working capital- Temporary working capital- Permanent working capital- There is always a minimum level of working capital which is continuously required by a firm in order to maintain its activities like cash, stock and other current assets in order to meet its business requirements irrespective of the level of operations.
- 19. Temporary working capital- Over and above the permanent working capital, the firm may also require additional working capital in order to meet the requirements arising out of fluctuations in sales volume. This extra working capital needed to support the increased volume of sales is known as temporary or fluctuating working capital
- 20. 8-20 Permanent Working Capital The amount of current assets required to meet a firm’s long-term minimum needs. Permanent current assets TIME DOLLARAMOUNT
- 21. 8-21 Temporary Working Capital The amount of current assets that varies with seasonal requirements. Permanent current assets TIME DOLLARAMOUNT Temporary current assets
- 23. This approach is also known as matching approach. The hedging approach suggests that the permanent working capital requirement should be financed with fund from long term sources while the temporary working capital requirement should be financed with short term funds
- 24. Hedging approach to asset financing Fixed Assets Permanent Current Assets Total Assets Fluctuating Current Assets Time Short-term Debt Long-term Debt + Equity Capital
- 25. According to this approach, the expected life of an asset is matched with the period of source of finance by which the asset is financed Financing Strategy Of Hedging Approach Long term fund= Fixed asset+ Total permanent current asset Short term fund= Total temporary current asset
- 26. This is an approach that emphasis on safety. This approach suggested that the entire estimated investments in current asset should be finance from long term source and short term should be use only for emergency requirement Availability of sufficient working capital will enable the smooth operation of business and reduce the risk of insolvency
- 27. Conservative approach to asset financing Fixed Assets Permanent Current Assets Total Assets Fluctuating Current Assets Time Short-term Debt Long-term Debt + Equity capital
- 28. Distinct features of this approach Liquidity is greater Risk is minimized The cost of financing is relatively more
- 29. Smooth operations with no stoppages No insolvency risk DISADVANTAGES Higher interest cost Idle fund
- 30. Financing Strategy Of conservative Approach Long term fund= fixed asset + total permanent asset + part of temporary current asset Short term fund= part of temporary current asset
- 31. Risky approach The aggressive approach suggests that the entire estimated requirement of current asset should be financed from short-term sources and even a part of fixed asset investment be financed from short - term sources This approach make the finance mix : More Risky Less costly More Profitable
- 32. Aggressive approach to asset financing Fixed Assets Permanent Current Assets Total Assets Fluctuating Current Assets Time Short-term Debt Long-term Debt + Equity capital
- 33. Financing Strategy Of Aggressive Approach Long term fund= fixed asset + part of permanent current asset Short term fund= part of permanent current asset + total temporary current asset
- 35. This is one of the latest trends in working capital management Concept was advocated by “KAMPOURIS”(CEO OF AMERICAN STANDARD) under this policy working capital tends to be zero Excess investment in current asset is avoided and firm meets current liabilities out of matching current asset