The Need for Working Capital Management

Working capital management is significant in financial management because of the fact that it takes on a essential role in keeping the steering wheel of the business operating. Every business requires capital, without which it cannot be promoted. Financial commitment is concerned with investment in current advantage and fixed asset. You can find two assets necessary to be financed by set capital and working capital. In other words, the mandatory capital can be divided into two categories, such as permanent capital and working capital. Predetermined capital necessary for establishment of an business, where as working capital necessary to utilize fixed asset. Fixed asset cannot be utilised without current property. It is merely like blood in the human body, without which there is no body.

Working capital performs a key role in a business enterprise as the role of heart and soul of heart and soul in human body. It works as grease to run the rims of fixed property. Its effective provision can ensure the success of a company while its inefficient management may lead not and then reduction but also infinite downfall of what often might be considered as a encouraging concern. Quite simply, efficiency of a concern depends basically on its capacity to control its working capital. Working capital management is there for just one of the important element of a firm's over-all financial management.

Meaning

Working capital identifies short term account to beef operating expenses. To estimate great Indian financial analyst and scholar Mr. Ramamoorthy, "it identifies the funds, which a company must have to funding its day to day operations". It is worried about the management of the firm's current advantage and current liabilities. It relates to with the problems that occur in wanting to manage current investments, current liabilities and their inter romance which exist between them. If a company cannot maintain a satisfactory level of working capital, it is likely to be insolvent and could even have no choice but into bankruptcy.

Concepts of working capital

The idea of working capital has been a subject of great controversy, among the financial wizards and they view it in a different way. There is absolutely no universally accepted explanation of working capital. Broadly there are to ideas of working capital commonly within the existing books of fund such as:

Gross Working Capital

Net Working Capital

Gross Working Capital concept

According to the concept, the full total current resources are referred to as the gross working capital or circulating capital. Total current advantage include; cash, marketable securities, bank account receivables, inventory, pre-paid expenses, advanced repayment of tax. This idea also known as as quantitative or wide-ranging approach. To price Weston and Brigham, " Gross Working Capital identifies firm's investment in short term resources such as, cash, short-term securities, profile receivables and inventories ". The idea helps to make optimum investment in current assets and in their financing.

According to Walker, "use of the concept is helpful in providing for the current amount of working capital at the right time so the firm can realize the greatest return on investment".

Significance

Gross working capital principle concentrates attention on both aspect of current asset management. They are really:

1). Optimum investment in current investments:

Investment in current asset must be just adequate to the needs of the company. On the other hand abnormal investment in current property should be prevented.

2). Funding of current advantage:

Need for working capital arise due to the increasing level of business activity. Therefore, there is a need to provide it quickly. If there is surplus fund come up that should be invested in short term securities.

Net Working Capital Concept

As per this idea the surplus of current asst over current liabilities represents world wide web working capital. Similar view is indicated by Guthmann, Gerstenberg, Goel Etc.

Net Working Capital signifies the quantity of current property which remain after all the current liabilities were paid. It may be either positive or negative. It will be positive if current advantage surpass current liabilities and vice versa.

To price Roy Chowdry, "Net Working Capital shows the liquidity of the liquidity of business whilst gross working capital denotes the quantum of working capital with which business has to operate.

Significance

Net Working Capital Strategy targets two aspects. They are really:

1). Preserving liquidity position:

Excess current investments help in get together its financial responsibility within the functioning routine of the organization. Negative and extra working capitals both are bad to the company.

2). To decide upon the extent of permanent capital in funding current asset:

Net working capital means the part of current asst that should be financed by permanent funds. This idea helps to make a decision the extent of permanent finance required in funding current assets.

Kinds of working capital

The categorization of working capital can be made either predicated on its principle or the necessity to maintain current property either completely and or briefly. As per conceptual view it might be classified directly into gross and online work in capital. Gestenberg has conveniently categorized the working capital in to regular or permanent working capital and temporary or varying working capital.

Gross working capital or quantitative

Net working capital or qualitative

Temporary or adjustable working capital

Permanent or regular working capital

Types of working capital

Concept base

Time base

Permanent working capital

This is the least investment kept by means of inventory of recycleables, work in process, finished goods, stores and spares and e book debt to help uninterrupted procedure in a company. Though this investment is steady in a nutshell run, it really varies in long haul depending upon the expansion programs performed by the organization. It may increase or reduce over a period of time.

Temporary working capital

Any additional working capital apart from long lasting working capital necessary to support the changing creation and sales activities is known as non permanent working capital. A firm required to maintain an additional amount current asset temporarily over and above permanent working capital.

Temporary

Permanent

Components of working capital

1). Current Asset

Current are those possessions that in the normal span of business can be or will be converted into cash within an accounting period. It includes cash, marketable securities, inventories, sundry debtors, finance institutions and prepaid bills.

2). Current Liabilities

Current liabilities are those liabilities objective to be paid in the normal span of business within an acceptable period. It contain sundry creditors, lending options and advances, bank over draft, short-term borrowing, taxes and proposed dividend.

Aspects of Working Capital Management

Management of working capital involves the following four aspects:

1). Determining the full total account requires to meet up with the current functions of the organization.

2). To choose the structure of current property.

3). To evolve suitable policies, types of procedures and reporting system for handling the individual components of current belongings.

4). To look for the various resources of working capital.

Objectives of Working Capital Management

1). To make sure maximum investment in current resources.

2). To punch a balance between your twin goals of liquidity and success in the use of cash.

3). To make sure adequate circulation of funds for current operations.

4). To speed up the circulation of funds or to reduce the stagnation of cash.

Operating cycle

The operating circuit involves the following procedure:

a). alteration of profit to raw materials

b). transformation of raw materials directly into work in progress

c). transformation of work in progress in to completed goods

d). conversion of finished goods directly into sales

e). transformation of debtors directly into cash

Finished goods

Work in process

Raw materials

cash

Sales

Debtor

Factors influencing working capital

Nature of business

Size of business

Production pattern process

Production policy

Credit insurance plan or conditions of purchase and sales

Business cycle

Growth and expansion

Scarce availability of raw materials

Profit level

Level of taxes

Dividend policy

Depreciation policy

Price level changes

Operating efficiency

Availability of credit

Need to maintain well balanced working capital

For maximization profit or minimization of working capital cost or even to maintain balance between liquidity and profitability, there is a need to keep an equilibrium in working capital. It will not be high or inadequate. Extreme working capital means idle cash that can earn no income but entail cost, and inadequate working capital disturbs production and success.

Danger of unnecessary working capital

It results unnecessary build up of inventories.

It is sign of faulty trade regulations and slack in collection period.

It makes management complacent which degenerates directly into managerial inefficiency.

Accumulation inventories tend to make speculative profits develop.

Danger of inadequate working capital

It stagnate growth.

It becomes difficult to implement operating programs and achieve the firm's focus on.

Operating inefficiencies creep in.

It causes inefficient usage of fixed possessions.

Firm manages to lose its reputation.

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