Financial management

1. Definition of Working capital-
“Working Capital is the amount of funds necessary
to cover the cost of operating the enterprise.”
Working capital is required for the routine and day
to day operations of the enterprise.
Working capital= Current assets – Current
Liabilities.
Current assets- Current assets are those assets
which can be converted into cash with in one year.
Example- Cash in hand, bank balance, Bills
Receivables, Debtors, short term loan and advances,
stock etc.

2. Current liabilities
• Current liabilities are those which can be
payable in cash with in one year.
• Examples- Bills payable, creditors, short term
loan , dividends payable, Bank overdraft.

3. Objectives of Working Capital
• Cash doesn’t earn a return
• Want to maintain liquidity
– Take cash discounts
– Maintain firm’s credit rating
– Minimize interest costs
– Avoid insolvency
• Good cash management implies maintaining
adequate liquidity with minimum cash in bank
– Can place portion of cash balance into marketable
securities (AKA: near cash or cash equivalents)

4. Factors affecting working capital
requirements-
• 1.Nature of the Business-
certain concerns as public utility services like
electricity, railways etc. provide services and
not products they work on cash basis only.
They require less working capital . But private
business concerns make sale on credit and
hence require more working capital.

5. 2.Length of production cycle-
• The longer the time taken by raw
material get converted into
finished products, larger are the
funds required as working capital.
This is because longer time span
would increase costs like labour
and overheads etc.

6. 3.Length of working capital cycle.
• It refers to the time taken by
raw material to get converted
into cash again. Longer the
time larger is the need for
working capital.

7. 4.Seasonal business-
• Those businesses which are
seasonal require more working
capital during a particular season
only and not during the whole
year. Demand for working capital
is less in off seasons.

8. 5.Size of the business-
• Big business with large scale
operations require more working
capital as compared to a small
business with limited scale of
operations.

9. 6.Earning Capacity-
• Firms with high earning capacity
are able to generate cash profits
and hence can fulfill their
working capital requirements. But
firms with low earning capacity
require more generation of
working capital.

10. Policies of Working Capital-
• Aggressive Policy
• High risk, and often high return, the
aggressive working capital policy sees the
company keep a really low amount of current
assets. The idea here is very simple. Collect
payments on time, leaving no debtors and
invest that amount in the business. And pay
the creditors as late as possible. This means
that the business uses very little of its own
cash, paying the creditors as late as it possibly
can.

11. • It is a high risk arrangement though, because,
should your creditor come asking for money,
and for some reason, you don't have enough
money to pay them off, you might end up
having to sell a costly asset to pay off your
debt to them.

12. aggressive policies may involve holding low levels of
cash and stocks, with the risk of potential cash
shortages and stock-outs
conservative policies may be more flexible with higher
levels of cash and stock, giving lower risk at the expense
of reduced profitability
Working Capital Policy (2)

13. Conservative Policy-
• In this policy, you not only match the current
assets and the current liabilities, but you also
keep a little safety net just in case of any
uncertainty. Undoubtedly, this is the policy
with the lowest risk, but it reduces the money
used in increasing the production.
So this was all about which policy you can
choose for your working capital. As you can
see, it really depends on your business and
risk appetite. So choose wisely!

14. Static Vs Dynamic View of working
Capital-
• Static View of Working Capital-
• Gross Working Capital and net Working
capital.
• (a). Gross Working capital is equal to the total
of all current assets(including loans and
advances) of a company.
• (b). Net working capital is defined as the
difference between Gross working capital and
current Liability (including provisions).

15. Dynamic view Of Working capital-
• Working capital can be viewed as the amount
of capital required for the smooth and
uninterrupted functioning of the normal
business operation of a company ranging from
the procurement of raw materials, converting
the same into finished products for sale and
realizing cash along with profit from the
accounts receivable that arise from the sale of
finished goods on credit.

16. OPERATING CYCLE
Stages:
1) Raw materials
2) Work-in-process
3) Finished Goods
4) Receivables (Debtors/Credit sales)
Less:
Creditors (creditors/Credit purchases)
…...begins with acquisition of raw materials
and ends with collection of receivables.

17. THE WORKING CAPITAL
CYCLE
(OPERATING CYCLE)
Accounts Payable
Cash
Raw
Materials
W I P
Finished
Goods
Value Addition
Accounts
Receivable
SALES