Nature & Scope of Working Capital

Definition Working capital is the amount of funds necessary for the cost of operating the enterprise - Shubin

Types of Capital

Capital Fixed Capital

(Capital Budget)

Working Capital
(Day to day Budget)

Concepts of Working of Capital

Working Capital
Based on Balance Sheet
Gross WC (Quantitative) Net WC (Qualitative)

Based on Operating Cycle

Working Capital (Based on B/S)

CURRENT ASSETS CURRENT LIABILITIES

Raw materials, WIP & Fin. Goods Work in Progress Finished goods A/c Receivables (Sundry Debtors) Marketable securities Cash in hand, Cash at bank Accrued income, paid in advance

Bank Over Draft Outstanding expenses Bank interest A/c Payables (Sundry Creditors) Transportation, Electricity charges Repayment of ST loans Accrued expenses, Received in advance.

Working Capital (Based on B/S)

Gross Working Capital: Circulating or Current capital Companys investment in total CA CL is not considered

Net Working Capital: Current Assets (minus) Current Liabilities CA > CL : Positive NWC CA < CL : Negative NWC

Order placed Invoice Received Stock arrives

Cash paid for RM

Operating Cycle Concept

FG Sold ( cash, credit) Cash received from Debtors

Operating Cycle Concept

FG Sold ( cash, credit) RM Purchase period Order placed Stock arrives

WIP Inventory Period

A/c Receivable Period

Invoice Received

Cash paid for RM

A/c Payable Period

Cash Cycle

Operating Cycle

Cash received from Debtors

Kinds of Working Capital

Variable Working Capital

Fixed Working Capital

Fixed Capital

Kinds of Working Capital

Fixed Working Capital Minimum amount of investment to be made in core current assets Variable Working Capital Additional amount of investment to be made in core current assets

Grows with business expansion

Grows with demand fluctuations

Financed through LT sources

Financed through ST sources

Over a time it becomes fixed

Always remain variable

Dimensions of Working Capital

1. Investment : Right & Adequate

2. Financing : 3 sources (Spontaneous credit, ST, LT sources)

3. Inter relatedness
4. Volatility 5.Reversibility

Dangers of poor WC allocation

Excessive Working Capital Unnecessary accumulation of inventory (theft, mishandling) Defective credit policy, bad debts Slackened collection of A/c Recei. Inadequate Working Capital Unable to undertake profitable projects, Growth may be stunted Difficult to implement operating plans, unable to achieve goals

Managerial inefficiency due to complacent mgt Inventory for speculative profit , Liberal dividend policy

Unable to meet day to day need, hence, operational inefficiency Under utilization of fixed assets leading to poor RoI, face tight supply terms

Factors determining the WC needs

1. Nature & Size of business: (trade / production, local/ national) 2. Length of manufacturing cycle 3. Turnover of WC 4. Credit policy 5. Production policy 6. Business cycle 7. Seasonal fluctuations 8. Operating efficiency 9. Growth & Expansion 10. Price level changes 11. Taxation, Dividend policy