1

Abstract

Business is broadly divided into two groups: Fixed Capital and Working Capital. From them Working Capital Management is most important in organization. Working capital refers to the funds locked up in materials; work in-progress, finished goods, receivables and cash etc Since, these assets are known as current assets, in very simple terms, Working Capital may be defined as capital invested in current assets. It will be shown later, however, that this definition of working capital has become controversial. Working capital is constantly converted into cash which again turns into working capital. This process of conversion goes in continuously. The cash is used to purchase current assets and when the goods are produced and sold out, those current assets are transformed into cash. Thus it moves on a circular away. Working Capital Management refers to the administration of all aspects of current assets, namely cash, marketable securities, debtors and stocks and current liabilities. There is a direct relationship between a firms growth and its working capital needs. If sales increase then firm needs more Working Capital, So, Financial Manager should be aware of such needs and finance them quickly.

What is Working Capital Management?

Meaning of Working Capital Management:

An accounting strategy in which a company seeks to maximize its cash flows so as to pay for its current liabilities and operating expenses. Examples of working capital management include active monitoring of accounts receivable and maintaining little shortterm debt. Working capital management, if done properly, can help a company improve its earnings and maintain a healthy financial state. Defination According to Gestenbery, Circulating capital means current assets of company that are changed in the ordinary cost of business. Ordinary cost form one firm to another as for example cash to inventory, inventory to receivable and receivable into cash. According to Hogland view, Working Capital is as excess of current assets over current liability. Features of Working Capital Short Term Needs An Element of Permanency Liquidity An Element of Fluctuation Circular movement Factors That Determine the Working Capital The amount of Working Capital is determined by a wide variety of factors. 1. Nature of Business 3. Production Cycle 5. Credit Policy 7. Conditions of Supply 2. Seasonality of Operations 4. Production Policy 6. Market Conditions

Types of Working Capital Basically, two types of Working Capital are needed in business: permanent working capital which is permanently blocked in business and variable working capital which varies with the requirements of business. These two types of working capital are the bases for a convenient classification of working capital as follows: Chart:

Working Capital

Permanent Or Fixed

Variable

Initial Working Capital

Regular Working Capital

Seasonal Working Capital

Special Working Capital

1) Permanent Working Capital It is that type of working capital which is permanently locked up in current assets. Some cash is required to maintain stocks of raw materials and finished goods at three normal levels, and also for paying wages and salaries regularly. Permanent working capital is of two kinds:

(a) Initial Working Capital In the initial period of its operation, a company must have enough money to pay certain expenses before the business yields cash receipt. In the initial year, banks may not grant loans or overdrafts, sales may have to be made on credit and it may be necessary to make payments to the creditors immediately. Hence the necessary funds will have to be supplied by the owners themselves in the initial years. (b) Regular Working Capital It is the working capital required to continue the regular business operations. It is required to maintain regular stocks of raw materials and work-in-progress and also of the finished goods which must be maintained permanently at a definite level. Regular working capital is the excess of current assets over current liability and special working capital. 2) Variable Working Capital It is that part of working capital which is required to meet the seasonal needs as well as special needs of the business. It so, therefore, subdivided into two parts: a) Seasonal Working Capital Some business enterprises require additional working capital during a particular season. For example, the sugar mills have to purchase sugarcane in a particular season and have to employ additional labour to process it. They must meet this requirement by providing additional funds for a temporary period. b) Special Working Capital In all enterprises, some unforeseen events do occur when extra funds are needed tied over such situation. Some of these events are sudden increase in demand for the final product (when a war breaks out, for example) downward movement of prices and sales during depression necessitating extra working funds; considerable rise in prices of raw material so that more funds will be needed to maintain their stock at the normal level; and strikes or natural calamities which also force the management to provide for additional fund.

Importance of Working Capital Management Working Capital Management refers to the administration of all aspects of current assets, namely cash, marketable securities, debtors and stocks and current liabilities. There is a direct relationship between a firms growth and its working capital needs. As sales grow, the firm needs to invest more in components of working capital. So, the finance manager should be aware of such needs and finance them quickly. Financial manager should pay special attention to the management of current assets on a continuing basis to curtail unnecessary investment in current assets, and in turn to manage working capital in the best possible way to get the maximum benefit. Concept of Working Capital There are two concepts of working capital. Gross working Capital:Gross Working Capital refers to the firms investment in current assets. Net Working Capital Net Working Capital means the difference between current assets and current liabilities, and therefore, represents that position of current assets which the firm has to finance either from long term funds or bank borrowings. Both concepts have equal significance from the managements view point, so they are not exclusive. The gross working capital concept focuses attention on optimization of investment in current assets, and effective and economical financing of current assets. The net working capital concept is qualitative, indicates the liquidity position of the firm and suggests the extent to which working capital needs may be financed by permanent sources of funds. There are many sources though which firm can raise Working Capital Finance. The sources like Shares Debentures Retained earning Commercial banks Co-operative bank Money lenders
6

Negative Working Capital Can Be Good ... Sometimes Some companies can generate cash so quickly they actually have a negative working capital. This happens because customers pay upfront and so rapidly, the business has no problems raising cash. In these companies, products are delivered and sold to the customer before the company ever pays for them. For e.g. - Wal-Mart Ratio Related with Working Capital 1) Debtor Ratio It indicates the time taken to collect the amount from debtors. In other words it measures the efficiency of credit collection department. Debtors Ratio = Debtors + Bill Receivable * No. of Days Total Credit Sales (Services) When the no. of days is less than the previous year it shows the increasing in the efficiency of the collection department and if days are more than the previous year than it show the loss their efficiency in the collection of the amount. 2) Creditors Ratio It indicates the time taken to payment of amount to creditors. In other words it measures the efficiency of payment of the debt of department.

Creditors Ratio =

Creditors + Bill payment * 100 Total Credit Purchase

The Creditor Ratio is shows the time taken to payment to creditors. When the no. of days is less it shows the higher working capital of the firm and financial efficiency of the firm is better. The no. of days is higher it shows the less working capital of the firm and financial efficiency of the firm is not good.
7

3) Current Ratio It measures of short term financial strength of business.

Current Ratio =

Current Assets Current Liability

4) Liquid Ratio

It is designed to shows the cash and other liquid assets available for immediate payment. When the Liquid Ratio is more than 1:1 it show the higher liquidity of the firm and when it is less than 1:1 it shows the less efficiency of the firm.

Liquid Ratio =

Liquid Assets Liquid liability

5) Inventory to Working Capital Ratio Inventory to Working Capital Ratio = Closing Stock * 100 Working Capital When the current ratio of the firm is more than 2:1 it shows the high level of short term financial strength of the firm.

Conclusion
Working Capital Management is essential for the longterm success of a business. No business can survive if it cannot meet its daytoday obligations. A business must therefore have clear policies for the management of each component of working capital.

The aim of Working Capital Management is to achieve balance between having sufficient working capital to ensure that the business is liquid but not too much that the level of working capital reduced profitability. Different industry types require different levels of working capital.

Service industries need little to no inventory whereas retailers need more. Depending on the retailers business their inventory will also vary. Manufacturers will probably require more because they need raw material stocks, workinprogress and finished goods. Retailers may sell for cash therefore having few receivables and producers may have trade customers and have greater receivables.

Bibliography

www.wikipedia.org Financial Management by I M Pandey

10