CHAPTER 2 WORKING CAPITAL MANAGEMENT CHAPTER 2 WORKING CAPITAL MANAGEMENT Working capital is the term commonly used to summarize the financial resources available for a firm’s day to day operations Th[.]
CHAPTER -2 WORKING CAPITAL MANAGEMENT Working capital is the term commonly used to summarize the financial resources available for a firm’s day-to-day operations These must be liquid resources, available as cash (or convertible to cash) when required Working capital includes cash and marketable securities—the most liquid of resources—and also the somewhat less liquid resources of accounts receivable, inventories, and prepaid expenses Working capital defined Working capital is defined as a firm’s investments in current assets GWC = Total CA = Cash + Marketable securities + Receivables + Inventories Gross Working Capital: the gross working capital is the capital invested in total current assets of the business Gross Working Capital is simply called as the total current assets of the concern GWC = CA Net Working Capital Net Working Capital is the excess of current assets over the current liability of the firm during a particular period If the current assets exceed the current liabilities it is said to be positive working capital; if it is reverse, it is said to be Negative working capital NWC = C A – CL Current assets- Current assets- assets which are used in the selling activities and assets which are expected to be converted into cash with one year or one accounting year Cash and cash equivalents Short-term investment- surplus of idle cash that is needed after a few months Receivables Prepaid expenses- expenses paid for goods & services the benefits of which haven’t yet been received Inventories of RM, WIP, FG, stores it will be determined by sales and production Current liabilities Current liabilities - are obligations that are expected to required cash payment within one year (or within the operating period if it is longer than one year) Accounts payable Notes payable Accrued expenses Bank over draft Proposed and declared dividend Tax payment and others Importance of Adequate Working Capital Working capital is the life blood and nerve centre of a business No business can run successfully without an adequate amount of working capital The main advantages of maintaining adequate amount of working capital are as follows: o Solvency of the Business o Goodwill o Easy Loans o Cash Discounts o Regular Supply of Raw Material o Regular payment of salaries, wages and other day to day commitments o Ability to face crisis o Quick and regular return on investments o Exploitation of Favorable market conditions o High Morale Types of Working Capital Working Capital may be classified into two important types on the basis of time Working capital is: Permanent working capital Temporary working capital Permanent working capital Permanent working capital is the base level of working capital, the amount required independent of daily, seasonal, or cyclical variations in business activity It is made up of permanent current assets and permanent current liabilities The firm needs its permanent working capital on a Temporary working capital Temporary working capital is the amount above the base level which results from variations in business activity It is caused by three simultaneous processes First, the business cycle increases and decreases the resource needs of all businesses over a multiyear time period Second, most firms are seasonal, having an annual cycle of activities Third, daily events impact resource needs since revenues and expenses, and cash inflows and outflows, rarely balance on a day-to-day basis NEEDS OF WORKING CAPITAL Working Capital is needed for the following purposes Purchase of raw materials and spares: The basic part of manufacturing process is, raw materials It should purchase frequently according to the needs of the business concern Payment of wages and salary: Periodical payment facilities make employees perfect in their work Day-to-day expenses: A business concern has to meet various expenditures regarding the operations at daily basis like fuel, power, office expenses, etc Provide credit obligations: A business concern responsible to provide credit facilities to the customer and meet the short-term obligation ... of Working Capital Working Capital may be classified into two important types on the basis of time Working capital is: Permanent working capital Temporary working capital Permanent working capital. .. Characteristics of Working Capital A) Circulating? ?Capital Working capital, once invested, is constantly circulating from one component to other component of working capital Working Capital as a... gross working capital is the capital invested in total current assets of the business Gross Working Capital is simply called as the total current assets of the concern GWC = CA Net Working Capital