Working capital refers to the capital required to meet the day-to-day operational expenses of a business like wages, raw materials, utilities etc. It consists of current assets like inventory, receivables, cash etc. Proper management of working capital involves determining the optimal level of current assets and liabilities and arranging sources to finance them. The key components of working capital to be managed are inventory, receivables and cash. Firms use various short-term financing options like bank finance, trade credit, commercial paper etc. to manage their working capital requirements.

1. What is mean by working capital? And
explain its components.
 Working capital is the capital which is needed to meet the day-to-day
transaction of the business concern. It may cross working capital and net
working capital. Normally working capital consists of various compositions of
current assets such as inventories, bills, receivable, debtors, cash, and bank
balance and prepaid expenses. Working capital is needed to meet the
following purpose:
 Purchase of raw material
 Payment of wages to workers
 Payment of day-to-day expenses

2. Definition
 According to the definition of Weston and Brigham, "Working Capital refers
to a firm's investment in short-term assets, cash, short-term securities,
accounts receivables and inventories".

3. What do you mean by working capital
management?
 Working capital management refers to the management of both current
assets and current liabilities. It is a study of relationship between current
assets and current liabilities. The main aim of financial management is to
supply continuous flow of funds to administer the day-to-day activities. The
size of this capital must not be in excess nor inadequate. It should be
adequately supplied to increase the wealth of the organization.

4. Working capital management involves two
main processes:
 Determining the size of the amount of working capital
 Arranging the sources of working capital

5. CONCEPTS OF WORKING CAPITAL
 1. Gross working capital
 2. Net working capital

6. What is the circular flow concept of
working capital?

7. What are the different types of
Working Capital?
 1. Permanent working capital
 2. Temporary working capital
 3. Gross working capital
 4. Net working capital
 5. Negative Working capital
 6. Reserve Working capital

8. NEEDS FOR WORKING CAPITAL
 Replenishment of inventory
 Provision for operating expenses
 Support for credit sales
 Provision of a safety margin

9. Principles of working capital
 Principles of Risk Valuation
 Principle of Equity Position
 Principle of cost capital
 Principles of Maturity Payment

10. DETERMINANTS OF WORKING CAPITAL
REQUIREMENTS
 1. Nature of business
 2. Size of business
 3. Manufacturing cycle
 4. Production policy
 5. Volume of sales
 6. Term of purchases and sales

11. CONT…
 7. Business cycle
 8. Growth and Expansion
 9. Fluctuations in the Supply of Raw Materials
 10. Price Level Changes
 11. Operating efficiency
 12. Profit Margin
 13. Profit appropriation
 14. Credit policies of Reserve Bank of India
 15. Capital structure of the company

12. What are the different sources of working
capital?
 Sources of working capital:
 Long term financing
 Short term financing
 Spontaneous financing

13. CONT…
 Long term financing:
 Loans from financial institutions
 Floating of debentures
 Accepting public deposits
 Issue of shares
 Raising funds by Internal financing

14. ISSSUES IN WORKING CAPITAL
 Components
 Time
 Investment
 Criticality
 Growth

15. ACCOUNTS RECEIVABLES MANAGEMENT
 What is Receivables?
 Receivables represent amounts owed to the firm as a result of sale of
goods or services in the ordinary course of business. These are claims of the
firm against its customers and form part of its current assets.

16. What do you mean by receivables
management?
 It is the process of making decisions relating to the investment of funds in
accounting receivables which will result in maximizing the overall return on the
investment of the firm. Thus, the objective of receivables management

17. What are the purposes of receivables?
 Achieving growth in sales
 Increasing profits
 Meeting competition

18. Explain the factors influencing the size of
the receivables?
 Level of sales
 Credit policies
 Terms of trade

19. FACTORING
 The word ‘factor’ has been derived from the Latin word ‘factor’ which
means ‘to make or to do’. In other words, it means ‘to get things done’.
 Factoring is a method of financing where by a company sells its trade debts
at a discount to a financial institution, (namely the factor) and a company
(namely the client) which sells good and services to trade customers on
credit.

20. Factoring Process:

21. What are the functions of factoring?
 i) Maintenance of Sales Ledger
 ii) Collection of Accounts Receivables
 iii) Credit Control and Credit Protection
 iv) Financing of Receivable
 v) Advisory Services

22. What are the advantages of factoring?
 1. Prompt Payment and Reduction in Debt
 2. Improves Current Ratio
 3. Increase in the Turnover of Stocks
 4. Improved Credit Standing
 5. Lesser Risk
 6. Specialized Service
 7. No need for Collection Department

23. What are the disadvantages of factoring?
 1. High Risk
 2. Existence of Teething Problems
 3. Unsuitability

24. Meaning of Inventory Management:
 The dictionary meaning of inventory is ‘stock of goods’. The word ‘inventory’
is understood differently by various authors. In accounting language it may
mean stock of finished goods only. In a manufacturing concern, it may
include raw materials, work in process and stores, etc.

25. What are the kinds of inventories?
 Raw materials
 Work-in-progress
 Finished goods

26. What are benefits of holding inventories?
 Avoiding losses of sales
 Reducing ordering cost
 Achieving efficient production runs

27. Explain the Costs and Risks associated with
Inventories?
 Cost and risk Associated with Holding Inventory
 Financial cost
 Cost of storage
 Price Fluctuation
 Risk of obsolescence
 Deterioration in Quality

28. Cont….
 Theft, Damage and Accident
 Order placing cost
 Inventory carrying cost
 Cost of shortage of stock

29. What is Inventory Management?
 The investment inventory is very high in most of the undertakings engaged
manufacturing, wholesale and retail trade. The amount of investment is
sometimes more in inventory than in other assets. About 90% part of
working capital invested in inventories. It is necessary for every
management to give proper attention to inventory management. A proper
planning of purchase, handling, storing, and accounting should form a part
of inventory management. An efficient system of inventory management
will determine
 What to purchase
 How much to purchase
 From where to purchase
 Where to store etc.

30. Determination of Economic Ordering
Quantity
 Determination of the quantity for which the order should be placed is
one of the important problems concerned with efficient inventory
management. EOQ refers to the size of the order which gives maximum
economy in purchasing any item of raw material or finished product. It is
fixed mainly after taking into account the ordering cost and inventory
carrying cost. It can be determined by applying the following formula:
2AB
 EOQ = ----------
S

31. Cont…
 Where,
 EQ = Economic Ordering Quantity
 A = Quantity (units) purchased in a year
 B = cost of placing an order
 S = Annual cost of storage of one unit.

32. Determination of optimum production
quantity
 The EOQ model can be extended to production runs to determine the optimum
production quantity. The two costs involved in this process are: set up cost and
inventory carrying cost. The formula for EOQ can also be used for determining
the optimum production quantity as given below:
 2U x P
 E = ----------
 S

33. Cont…
 Where,
 E = optimum production quantity
 U = Annual output
 P = set up cost for each production run
 S = cost of carrying inventory per unit per annum

34. Determination of re-order level
 Re order level is the level of inventory at which the firm should place an
order to replace the inventory. In case, the order is placed at this level, the
new goods will arrive before the firm runs out of goods to sell. It can be
determined by applying the following formula.
 Re-order level = Maximum usage x Maximum lead time

35. Inventory turnover ratio
 This is calculated minimize the investment in inventories. It is calculated for
each item of inventory by applying the following formula.
 Cost of goods consumed / sold during the period
 Inventory turnover ratio= -------------------------------------------------------------
--
 Average inventory held during the perio

36. Aging schedule of inventory
 Classification of the inventories according to age also helps in identifying inventories
which are moving slowly into production or sales. This requires identifying the date of
purchase/manufacture of each item of the inventory and classifying them.

37. ABC analysis
 ABC analysis is a form of inventory control wherein different degrees of control are exercised over
different items of stores on the basis of the investment involved.
 For example, in the making of aircraft, cryogenic engines involving high costs will be monitored closely
while cost of tyres, nuts and bolts etc. will be given lesser attention.
 Categorisation: Under this system, the items are divided into three categories according to their
importance (value) and frequency of replenishment during a period.

 These categories are:
 A category – Highly important – 70%
 B category – Relatively less important – 20%
 C category – Least important – 10%
 ABC analysis is also called as 70-20-10 analysis or selective stock control.

38. VED analysis
 V - Some spares would be so important that their non availability would render
extreme damage to plant equipment or human life. If these items go out of stock
or not readily available, results in loss of production for the whole period.
 E – Essential items which reduce the equipments performance but do not render it
inoperative or unsafe: non availability of these items may result in temporary loss
of production or dislocation of production work replacement can be delayed
without affecting the equipments performance seriously temporary repairs are
sometimes possible.
 D – Desirable items which are mostly non functional and do not affect the
performance of the equipment.

39. Just-in-Time inventory (JIT)
 Business concerns are giving maximum attention to reduce stock
levels by establishing cordial relationship with suppliers to
arrange for frequent delivery of quantities. This is called Just-in-
time purchasing. The objective of Just-in-time purchasing is to
obtain delivery of material immediately before their use. This is
possible with the co-operation of supplier.

40. What do you mean by cash management?
 Cash management: Cash management has assumed importance because it
is the most significant of all the current assets. It is required to meet business
obligations and it is unproductive when not used.
 Cash management deals with the following:
 Cash inflows and outflows
 Cash inflows with the firm
 Cash balances held by the firm at a point of time

41. What are the motives for holding cash?
 Transaction motive
 Precautionary motive
 Speculative motive
 Compensatory motive

42. Explain the cash management models.
 (a) Baumol model: This model was suggested by William J.Baumol.
According to this model, optimum cash level is that level of cash where the
carrying costs and transactions costs are the minimum.
 Carrying costs: This refers to the cost of holding cash namely, the interest
foregone on marketable securities. They may also be termed as opportunity
costs of keeping cash balance.
 Transaction costs: This refers to the cost involved in getting the marketable
securities converted into cash. This happens when the firm falls short of cash
and has to sell the securities resulting in clerical, brokerage, registration and
other costs

43. Miller Orr – Model
 This model helps in determining the optimum level of cash in
such circumstances. It deals with cash management problem
under the assumption of random cash flows by laying down
control limits for cash balances. These limits consist of an upper
limit (U), lower limit (O) and return point (R). When cash
balance reaches the upper limit, a transfer of cash equal to “U-R”
is affected to marketable securities. When it touches the lower
limit, a transfer equal to “R-O” from marketable securities to
cash is made.

44. Working capital finance
 Trade credit
 Commercial paper
 Public deposits
 Letter of credit
 Bank finance
 Accruals
 Bills discounting
 Installment of credit