Presentation on Working Capital Management for

Classification of Working capital<br>

On the Basis of Concept:

Gross working capital is the capital invested in total current assets of the enterprise. Examples of current assets are : cash in hand and bank balances, Bills Receivable, Short term loans and advances, prepaid expenses, Accrued Incomes etc.  
Net Working Capital = Current Assets – Current Liabilities
When current assets exceed the current liabilities the working capital is positive and negative working capital results when current liabilities are more than current assets.
Examples of current liabilities are Bills Payable, Sunday debtors, accrued expenses, Bank Overdraft, Provision for taxation etc. Net working capital is an accounting concept of working capital.
Contd.<br>

On the Basis of Time Permanent or Fixed working capital
It is the minimum amount which is required to ensure effective utilization of fixed facilities and for maintaining the circulation of current assets.
regular working capital is the capital required to ensure circulation of current assets from cash to inventories, from inventories to receivables and from receivables to cash and so on.
Reserve working capital is the excess mount over the requirement for regular working capital which may be provided for contingencies that may arise at unstated periods such as strikes, rise in prices, depression etc.
Contd.<br>

Temporary or Variable working capital
It is the amount of working capital which is required to meet the seasonal demands and some special exigencies.
Variable working capital is further classified as seasonal working capital and special working capital.
The capital required to meet seasonal needs of the enterprise is called seasonal working capital.
Special working capital is that part of working capital which is required to meet special exigencies such as launching of extensive marketing campaigns for conducting research etc.<br>

Need of Working Capital For purchase of raw materials, components and spares.
To pay wages and salaries.
To incur day-to-day expenses and overhead costs such as fuel, power etc.
To meet selling costs as packing, advertisement
To provide credit facilities to customers.
To maintain inventories of raw materials, work in progress, stores and spares and finished stock.
The amount of working capital needed goes on increasing with growth and expansion of business till it attains maturity.<br>

Significance of Working Capital Management In a typical manufacturing firm, current assets exceed one-half of total assets.
Excessive levels can result in a substandard Return on Investment (ROI).
Current liabilities are the principal source of external financing for small firms.
Requires continuous, day-to-day managerial supervision.
Working capital management affects the company’s risk, return, and share price.<br>

Factors determining working Capital Requirement Nature or Character of Business
Size of Business
Production Policy
Length of Production cycle
 Credit Policy
Rate of Growth of Business
Price Level Changes
Working Capital Cycle<br>

Different Components of Working Capital 1. Current Assets:
Current assets are those assets which can be easily converted into cash and which are required to meet the day to day operations of the business. These includes
Cash and bank balances, Temporary investments, Temporary investments, Inventory of raw materials, stores and spares, Work-in-progress, Finished goods, Prepaid expenses etc.
2. Current Liabilities:
Current liabilities are those claims of outsiders which are expected to mature for payment within an accounting year. These includes
Creditors for goods purchased, Outstanding expenses, Short-term borrowings, Advances received against sales,<br>

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

FORECASTING / ESTIMATION OF WORKING CAPITAL REQUIREMENTS Factors to be considered
Total costs incurred on materials, wages and overheads
The length of time for which raw materials remain in stores before they are issued to production.
The length of the production cycle or WIP, i.e., the time taken for conversion of RM into FG.
The length of the Sales Cycle during which FG are to be kept waiting for sales.
The average period of credit allowed to customers.
The amount of cash required to pay day-to-day expenses of the business.
The amount of cash required for advance payments if any.
The average period of credit to be allowed by suppliers.
Time – lag in the payment of wages and other overheads<br>

PROFORMA - WORKING CAPTIAL ESTIMATES 1. TRADING CONCERN STATEMENT OF WORKING CAPITAL REQUIREMENTS
Amount (Rs.)
Current Assets
(i) Cash ----
(ii) Receivables ( For…..Month’s Sales)---- ----
(iii) Stocks ( For……Month’s Sales)----- ----
(iv)Advance Payments if any ----
Less : Current Liabilities
(i) Creditors (For….. Month’s Purchases)- ----
(ii) Lag in payment of expenses -----_
WORKING CAPITAL ( CA – CL ) xxx
Add : Provision / Margin for Contingencies -----


NET WORKING CAPITAL REQUIRED XXX<br>

2. MANUFACTURING CONCERN STATEMENT OF WORKING CAPITAL REQUIREMENTS
Amount (Rs.)
Current Assets
(i) Stock of R M( for ….month’s consumption) -----
(ii)Work-in-progress (for…months)
(a) Raw Materials -----
(b) Direct Labour -----
(c) Overheads -----
(iii) Stock of Finished Goods ( for …month’s sales)
(a) Raw Materials -----
(b) Direct Labour -----
(c) Overheads -----
(iv) Sundry Debtors ( for …month’s sales)
(a) Raw Materials -----
(b) Direct Labour -----
(c) Overheads -----
(v) Payments in Advance (if any) -----
(iv) Balance of Cash for daily expenses -----
(vii)Any other item -----

Less : Current Liabilities
(i) Creditors (For….. Month’s Purchases) -----
(ii) Lag in payment of expenses -----
(iii) Any other -----
WORKING CAPITAL ( CA – CL )xxxx
Add : Provision / Margin for Contingencies -----

NET WORKING CAPITAL REQUIRED XXX<br>

Points to be remembered while estimating WC (1) Profits should be ignored while calculating working capital requirements for the following reasons.
(a) Profits may or may not be used as working capital
(b) Even if it is used, it may be reduced by the amount of Income tax, Drawings, Dividend paid etc.
(2) Calculation of WIP depends on the degree of completion as regards to materials, labour and overheads. However, if nothing is mentioned in the problem, take 100% of the value as WIP. Because in such a case, the average period of WIP must have been calculated as equivalent period of completed units.
(3) Calculation of Stocks of Finished Goods and Debtors should be made at cost unless otherwise asked in the question.<br>

Steps in Determination of Working Capital: Step 1:
Identify the various items of current assets and current liabilities which consist in determination of working capital. The current assets include inventory of raw materials, WIP and finished goods, sundry debtors, prepaid expenses, desired cash balance etc. The current liabilities include creditors for raw materials, stores and consumables, creditors for wages, creditors for expenses, etc.
Step 2:
(a) Estimate the holding period of each item stock i.e., raw materials, work-in- progress and finished goods.
(b) Estimate the collection period of sundry debtors.
Continued.<br>

(c) Estimate the desired cash balance for meeting the requirements of day to day operations.
(d) Estimate the payment deferral period of creditors for raw materials.
(e) Estimate the lag in payment of wages and expenses.
Step 3:
(i) Determine the raw material, labour and overheads cost per unit.
(ii) Determine the operating level.
(iii) Determine the percentage of conversion cost incurred on WIP.
(iv) Determine the cost of sale and selling price per unit.
Continued<br>

Step 4:
Ascertain the value of each item of current assets and current liabilities taking into account the information in step (2) and step (3).
Step 5:
Put the values of current assets and current liabilities in a statement form and ascertain the net working capital (i.e. current assets – current liabilities) after adding up the desired cash balance and amount needed for meeting contingencies.<br>

Management of Working Capital Management of working capital is concerned with the problems that arise in attempting to manage the current assets, the current liabilities and the inter-relationship that exists between them. In other words, it refers to all aspects of administration of current assets and current liabilities.
Working Capital Management Policies of a firm have a great effect on its profitability, liquidity and structural health of the organization.<br>

Nature of Working capital Management Working capital Management policies of a firm have a great effect on its profitability, liquidity and structural health of organization. In this context, evolving capital management is three dimensional in nature.
Dimension I is concerned with formulation of policies with regard to profitability, risk and liquidity.
Dimension II is concerned with decisions about composition and level of current assets.
Dimension III is concerned with decisions about composition and level of current liabilities.<br>

PRINCIPLES OF WORKING CAPITAL MANAGEMENT / POLICY PRINCIPLES OF WORKING CAPITAL MANAGEMENT Principle of Risk Variation Principle of Cost of Capital Principle of Equity Position Principle of Maturity of Payment<br>

Principle of Risk Variation: Risk refers to inability of firm to meet its obligation as and when they become due for payment. Larger investment in current assets with less dependence on short-term borrowings increases liquidity, reduces risk and thereby decreases opportunity for gain or loss. 
 Principle of Cost of Capital: The various sources of raising working capital finance have different cost of capital and degree of risk involved. Generally, higher the risk lower is cost and lower the risk higher is the cost. A sound working capital management should always try to achieve proper balance between these two.
Principle of Equity Position: This principle is concerned with planning the total investment in current assets. According to this principle, the amount of working capital invested in each component should be adequately justified by firm’s equity position.<br>

Principle of Maturity of Payment: This principle is concerned with planning the sources of finance for working capital. According to this principle, a firm should make every effort to relate maturities of payment to its flow of internally generated funds.

Hedging Vs Conservative Approach

The Hedging Approach says that permanent requirement should be financed by long term sources while the temporary requirement should be financed by short-term sources of finance. The Conservative approach on the other hand says that the working capital requirement be financed from long-term sources. The Aggressive approach says that even a part of permanent requirement may be financed out of short-term funds.<br>

Lets Sum Up
The term working capital may be used to denote either the gross working capital which refers to total current assets or net working capital which refers to excess of current asset over current liabilities.
The working capital requirement for a firm depends upon several factors such as Nature or Character of Business, Credit Policy, Price level changes, business cycles, manufacturing process, production policy.
The working capital need of the firm may be bifurcated into permanent and temporary working capital.
The Hedging Approach says that permanent requirement should be financed by long term sources while the temporary requirement should be financed by short-term sources of finance. The Conservative approach on the other hand says that the working capital requirement be financed from long-term sources. The Aggressive approach says that even a part of permanent requirement may be financed out of short-term funds.
Every firm must monitor the working capital position and for this purpose certain accounting ratios may be calculated.<br>

THANK YOU<br>