Working capital is a vital element in any business and has to be managed carefully to optimise its value to the business and to lower the risk for lenders. This presentation is an introduction to the topic and explains what effective working capital management is and why lenders should pay attention to it.
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Introduction to working capital management
1. An introduction to working
capital management
from
businessbankingcoach.com
in association with
2. In our introduction to
working capital
presentation, we
defined working
capital as the amount
of equity that is
invested in current
assets such as stock
(inventory), trade
debtors (accounts
receivable) or left in
the bank account
6. So the more assets the business has, the
more funding that’s needed because the
equation must always be in balance
7. and that’s what effective working capital
management is all about......
8. ...... investing as little
as possible in those
current assets without
negatively affecting
the business’
operations so as to
minimise the amount
of funding required
10. One indicator of good
working capital management =
Trade debtors (accounts receivable)
collected before trade creditors
(accounts payable) have to be paid
11. One indicator of good
working capital management =
Trade debtors (accounts receivable)
collected before trade creditors
(accounts payable) have to be paid
That way......................
12. ...........the business is
not having to borrow or
use its own cash to
make payments to
trade creditors and
others while waiting for
trade debtors to pay
13. But working capital can grow without
additional equity being invested in the
business
14. But working capital can grow without
additional equity being invested in the
business
but how is
that possible?
15. Imagine a business that sells a product that it
buys from a supplier – it needs to hold stock
(inventory) of the product to make sure it always
has enough to meet the demands of its
customers
16. Imagine also that the business sells the
product to its customers but allows them
trade credit – say, 30 days.
17. If that business increases its sales
significantly but doesn’t change the
way it manages its working capital,
there will be two inevitable results
18. If that business increases its sales
significantly but doesn’t change the
way it manages its working capital,
there will be two inevitable results
There will be an
increase in stock
(inventory) because
it will need to hold
more to meet the
increased demand
of its customers
19. If that business increases its sales
significantly but doesn’t change the
way it manages its working capital,
there will be two inevitable results
There will be an
increase in stock
(inventory) because
it will need to hold
more to meet the
increased demand
of its customers
There will be an
increase in trade
debtors (accounts
receivable) because
customers will have
bought more product
but will not pay for it
for 30 days
21. Then the question for the
lender is this;
If there is no additional
equity being invested in
the business but the
assets have grown, how
is that growth being
funded?
22. Then the question for the
lender is this;
If there is no additional
equity being invested in
the business but the
assets have grown, how
is that growth being
funded?
Remember the accounting equation
Assets = Equity plus Liabilities
23. If there is no funding from equity, there
can only be one answer to that
question;
24. If there is no funding from equity, there
can only be one answer to that
question;
It can only be
from increased
liabilities (debt)
25. In this context, liabilities will
be either trade creditors
(accounts payable)
or bank overdraft
26. Either way, these liabilities introduce
more risk into the business since they
are both very short-term.....
27. ........that’s why lenders have to be
concerned about the extent to
which the current assets are
allowed to grow
28. One final point; you often hear the term,
net working capital – don’t confuse it with
working capital
29. One final point; you often hear the term,
net working capital – don’t confuse it with
working capital
Working capital is the total of current assets
30. One final point; you often hear the term,
net working capital – don’t confuse it with
working capital
Working capital is the total of current assets
Net working capital is simply the difference
between the current assets total and the
current liabilities total – when net working
capital exists, a good question to ask
yourself is how the business funds it
31. We do hope that you enjoyed this presentation.
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