WORKING CAPITAL

Meaning:Capital required for a business can be classified into 2 categories. Fixed (L&B, P&M). Working (wages, salaries, RM). Every business needs capitals for its establishment & also for its day to day operations. Long-term funds are required to create production facilities through purchase of fixed assets like P&M, L&B etc. Investments in these assets represent that part of firms capital which is blocked on permanent or fixed basis is called fixed capital. Funds needed for short-term purposes for purchase of raw material, payment of wages known as working capital. That is part of the firms capital which is required for financing short-term or current assets. Funds invested in current assets keep revolving fast & converted into cash & these cash flows out again in exchange for other current assets. Hence it is also known as revolving or circulating or short-term capital. Definition:According to shubin, working capital is the amount of funds necessary to cover to cost of operating the enterprise. According to genstenberg, circulating capital means current assets of a company that are changed in the ordinary course of business form one form to another Concepts of working capital:The concept of working capital is of 2 types. They are: Gross working capital. Net working capital.

WORKING CAPITAL
Gross working capital:It refers the total amount of funds invested in current asset. It is a financial concept. Cash, B/R, sundry debtors (less provision for bad debts), shortterm loans & advances, inventories like RM, WIP, FG, temporary investment of surplus funds, prepaid expenses, accrued incomes. Net working capital:It is the excess of current assets over current liabilities. Net working capital may be positive or negative. Net working capital is an accounting concept. N.W.C = current assets current liabilities. Ex of C.L:B/P, sundry creditors, accrued or outstanding expenses, and short term loans advances & deposit, dividend payable, bank overdraft, provision for taxation.

Kinds of working capital:On the basis of conpect On the basis of time(or) behavious Regular working capital
Gross working capital Permanent (or) fixed working capital Temporary (or) variable working capital

Reserve working capital Seasonal working capital Special working capital

Net working captial

WORKING CAPITAL
On the basis of time or behavior: Permanent or fixed working capital:This is the minimum amount which is required to ensure effective utilization of fixed facilities & for maintaining the circulation of current assets. This part of the capital is permanently blocked in current assets. The permanent working future is classified into: Regular working capital. Reserve working capital. Regular working capital required to ensue circulation of current assets from cash inventories form inventories to receivables & from receivable to cash & so on. Reserve working capital is excess amount over the requirement for regular working capital for regular working which may be provided for contingencies that may arise at strikes, rise in prices, depression etc. Temporary or variable working capital:This is required to meet the seasonal demands & some special exigencies. It is classified into 2 types. They are: Seasonal working capital. The capital is required to meet the seasonal needs of enterprise is called seasonal working capital. Special working capital. This is the part of working capital which is required to meet special exigencies such as launching of extensive marking campaigns for conducting research etc.

WORKING CAPITAL
Importance of working capital: Solvency of business: - Working capital helps in maintaining the solvency business. Good will: - It enables to make prompt payments & helps increasing & maintaining goodwill. Easy loans: - High solvency & good credit standing can arrange easy loans from banks & other financial institutions. Cash discounts: - Working capital enables to available cash discounts on the purchase & hence it reduces costs. Regular supply of raw materials: - Working capital ensures regular supply of raw material & continuous production. Regular payment of salaries, wages & day to day commitment: - Employee working capital can make regular payments & it raises the morale of employees, increases their efficiency, reduces wastage & cost & enhances production & profits. Exploitation of favorable market conditions: - Concerns with adequate working capital can exploit favorable market conditions such as purchasing its requirements in bulk when the prices are lower & by holding its inventories for higher prices. Ability to face crisis: - Adequate working capital enables a firm to face business crisis in emergencies. Quick & regular return on investments: - Sufficient working capital enables a firm to pay quick & regular return to its investors. High morale: - It creates security, confidence, high morale & overall efficiency in a business. Operating cycles:This starts wi9th the purchase of raw material & ends with the realization of cash from the sale of finished products. This involves purchase of RM & its conversion into stocks of finished goods through WIP, conversion finished stock into sales, debtors & receivable & ultimately realization of cash & this cycle continues again form cash to purchase of RM.
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WORKING CAPITAL
Cash

Debtors, sales, Bills receivables

Raw Material

Finished Product

Working In Process

Factors determining working capital requirements:-

Nature of business Other factors

Size of business

Price level charges

Production policy

Earning capacity & dividend policy

Working capital

Manufacturing process

Rate of growth of business

Seasonal variation

Business cycle Credit policy Rate of stock turnover

Working capital cycle

WORKING CAPITAL
Nature of business:The working capital requirements of a firm basically depend upon the nature of business. Public utility undertakings like electricity, railways need very limited working capital because they offer cash sales only. But the trading & financial firms require huge amounts to invest in current assets. The manufacturing requires sizable working capital along with fixed investments. Size of business operations:Greater the size of a business unit requires large amount of working capital. Production policy:The requirement of working capital depends on production policy. The production could keep steady by accumulating inventories in slack period to meet high demand in peak seasons or production could be curtailed in slack & increased in peak seasons. If the policy is to keep production steady by accumulating inventories if requires higher working capital. Manufacturing process/length of production cycle:In manufacturing business, the required working capital directly proportioned to length of manufacturing process. Longer the process gives large amount of working capital needed to meet the labour & service cost for long period. Seasonal variations:In certain industries raw material is not available throughout the year. They have to buy bulk raw material in unreason to ensure uninterrupted flow throughout the years. So, a huge amount is blocked in the form of material inventories during such seasons given rise to more working capital requirements.

WORKING CAPITAL
Working capitals cycle/operating cycle:Cash

Debtors, sales, Bills receivables

Raw Material

Finished Product

Working In Process

The speed with which the working capital completes one cycle determines the required working capital. Longer the period gives larger amount of working capital. Rate of stock turn over:There is a high degree of inverse co-relation between sales & amount of working capital. A firm has a high rate of stock turnover need lower amount of working capital as compared to firm having a low rate of turnover. Credit policy:A firm make it purchases on credit & sells on cash needs less amount of working capital. On the other hand if it makes it purchases on cash & sells on credit it needs high amount of working capital. Business cycles:This refers to alternate expansion & contraction in general business activity. In a period of boom, large amount of W.C is needed due to increase in sales. In times of depression i.e., when there is a down swing in business, sales

WORKING CAPITAL
decline, difficulties arise in collection from debtors may have large amount of W.C. Rate of growth of business:The w.c requirement increase with growth & expansion of business activities for normal expansion gives the firms provide retained earnings for W.C. fast growing company requires large amount of w.c. Earning capacity & dividend policy:High earning capacity firms may generate cash profits from operations & contribute W.C. the dividend policy also influences the W.C. if a firm maintains steady high rate of cash divided irrespective of its earnings needs more w.c than the firms that retain large part of profits & does not pay high rate of cash dividend. Price level changes:Rising prices will requires maintaining larger amount of w.c as more funds will be required to maintain the same current assets. Other factors:Operating efficiency management ability, irregularities in supply, import policy asset structure, importance of labour, banking facilities also influence the w.c requirements. Estimation of w.c requirements:No business cab run successfully without adequate amount of W.C. to avoid the shortage, an estimate of w.c requirement should be made in advance. But estimation of w.c requirement is not an easy task & large no. of factors has to be considered. Those are:

WORKING CAPITAL
Total cash incurred on material, wages & overheads. Length of time for which raw material are to remain in store before they are issued for production. Length of production or operating cycle. Length of sales cycle during which finished goods & 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 business. Average amount of cash requirements to make advance payments. Average credit period expected to be allowed by suppliers. Time lag in the payment of wages & other expenses. The total amount blocked in current assets estimated on the basis of first seven items, the last two items are total amount of current liabilities. From first seven items, the last two items deducted to find out the requirements of w.c. in case of purely trading origin 1, 2,3 points would not arise, but all other factors 4to9 are to be taken into consideration. Importance: Profits should be ignored while calculating w.c required. because: Profits may or may not be used as w.c. Even if profits are to be used for w.c it has to be reduced by the amount of income tax, drawings, and dividend paid etc. Calculation WIP depends upon its degree of completion. If nothing is given 100% consumption of raw material & 50% in case of labour & overheads. Calculation of finished goods & debtors should be made at cost unless otherwise asked in the question. Financing of working capital requirements:The w.c requirements can be classified as: Permanent or fixed working capital requirements. Temporary or variable working capital requirements.
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The fixed proportion of w.c should be financed from fixed capital sources while the temporary w.c required may be met from short term source of w.c. Sources of working capital
Sources of fixed or longterm or permaent w.c Sources of temparary or short term or variable w.c

Shares

Indifenous bankers

Debentures

Trade creditors

Public deposits Ploughing back of profits Loans from financial institutions

Instalment credit

Advances

Accounts receivable credit Accured expenses

Commercial papers

Differed incomes

Commercial banks

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Sources of fixed w.c: Shares:Issue of shares is the most important source for raising the permanent or long term capital. a company can issue various types of shares according to companies act 1956, a public company cannot issue deferred shares. Preference shares carry preferential rights in respect of dividend at t fixed rate & in regard to the payment of capital at the time of winding up the company. Equity shares do not have any fixed amount of charge & dividend on these shares is to be paid subject to the availability of sufficient profits. As far as possible, a company should raise the maximum amount of permanent capital by the issue of shares. Debentures:It is an instrument issued by the company acknowledging its debt to its holder. The debenture holders are the creditors of the company. a fixed rate of interest is paid on debentures. The interest on debentures is a charge against P&L account. When the debentures are secured they are paid on priority to other creditors. The debentures are may be of various kinds. The debentures as a source of finance have a no. of advantages both to the investors & the company interest on debentures can be paid on predetermined intervals at the time of liquidation. They are well suited to cautious investors. The firm also enjoys no. of benefits like trading on equity, retention of control, tax benefits etc. Public deposits:These are the fixed deposits accepted by a company directly from the public. This source of raising short-term & medium-term finance was very popular in the absence of banking facilities. In the past public deposits were accepted by textile industries in Ahmadabad & Bombay for 6months/1year. But now long-term deposits for 5to7 years are accepted by the business houses.

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Advantages: Very simple & convenient source of finance. Taxation benefits. Trading on equity. No need of securities. In expensive source of finance. Disadvantages: Uncertain. Unreliable. Unsound & inelastic source of finance. RBI laid down certain limits on public deposits. Non banking concerns cannot borrow by way of public deposits more than 25% of its paid up capital & free reserves. Ploughing back of profits:This means reinvestments by concerns of its surplus earnings in its business. It is an internal source of finance & most suitable for an established firm for its expansion, modernization & replacement etc. Advantages: Cheapest rather cost free source of finance. No need to keep securities. No dilution of control. Ensures stable dividend policy. Gains confidence on the public. Disadvantages: Excessive resort to ploughing back of profits may lead to monopolies. Misuse of funds. Overcapitalization & speculation etc.

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WORKING CAPITAL
Loans from financial institutions:Financial institutions such as commercial banks, LIC, industrial finance corporation of India, state financial corporation (SFC), state industrial development corporation, industrial development bank of India provide short-term, medium term & long-term loans. This is more suitable to meet the medium term demands of W.C. interest is charged on such loans at a fixed rate & amount of loan is too repaid by way of installments in a no. of years. Sources of short-term w.c: Indigenous bankers:Private money lenders & other country bankers used to be the only source of finance prior to the establishment of commercial banks. They change high interest & exploited the customers now a days with the development of commercial banks they have lost their monopoly. Trade credit:This refers to the credit extended by the suppliers of goods in the normal source of business. The credit worthiness of a firm & the confidence of its suppliers are the main basis of securing trade credit. It may also take the form of bills payable where by the buyer signs a bill of exchange payable on a specified future date. If a firm delays its payment beyond the due date as per terms of sales invoice, it is called stretching accounts payable. A firm may generate additional short-term finances by stretching accounts charges as well as to forgo cash discount. If a firm delays the payment frequently if affects the credit worthiness of the firm & it may not be allowed such credit facilities in future. Advantages: Easy & convenient method finance. Flexible. Informal & spontaneous source of finance.

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Disadvantages: Charging of higher prices by suppliers. Loss of cash discount. Installment credit:Under this, the assets are purchased & the possession of goods in taken immediately but the payment is making in installments over a pre determined period of time. Generally, interest is charged on the unpaid price or it may be adjusted in the price. Advances:Some business houses get advances from their customers & agents against orders. It is a cheap source of finance & in order to minimize their investment in w.c. Ex: - some manufacturing firm prefers to take advances from their customers. Factoring/accounts receivable credit:Accounts receivable credit is offered by commercial banks or factors. A commercial bank may provide finance by discounting the bills or invoices of its customers. Thus a firm gets immediate payment for sales made on credit. A factor is a financial institution which offers services relating to management & financing of debts arising out of credit sales. Factors renders services varying from bill discounting facilities offered by commercial banks to a total takeover of administration of credit sales including maintenance of sales ledger, collection of accounts receivables credit control & protection from bad debts, provisions of finance & rendering of advisory services to their clients. At present factoring in India is rendered by only a few financial institutions. However, vaghul committee recommended that banks should be encouraged to setup factoring divisions to provide speedy finance to the corporate entities.

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Limitations of factoring: High cost of factoring as compared to other sources of short term finance. The perception of financial weakness about the firm availing factoring services. Adverse impact of tough stances taken by facto, against a defaulting buyer. Accrued expenses:These are the expenses which have been incurred but not yet due & hence not yet paid also. These represent a liability that a firm has to pay for the services already received by it. These are paid on monthly fortnightly or weekly basis for the services rendered by employees. The longer the payment period, the greater is the amount of liability towards employees. This is same in all cases of interest & tax etc. thus, all accrued expenses can be used as a source of finance. The amount of accruals various with the change in the level of activity of firm. Activity level expands accruals increases gives increase in finance. But it may not be desirable to postpone these expenses for a long period. Deferred incomes:These are the incomes received in advance before supplying goods or services. These funds increase the liquidity of a firm & constitute important sources of short-term finance. However, firms having great demand for its products & services & those having good reputation in the market can demand deferred incomes. Commercial paper:It represents unsecured promissory note issued by firms to raise short-tem funds. It is an important money market instrument in advanced countries. In India RBI introduced this by the recommendations of vaghul committee. Only large companies enjoyed high credit rating & sound financial health can issue this to raise short-term funds.

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RBI laid down no. of restrictions to issue this paper i.e. only a company which is listed on stock exchange has a net worth of at least 10crores & a maximum per missible bank finance of 25crores can issue commercial paper not exceeding 30% of its w.c limit. Disadvantages: It can be used only large companies enjoying high company rating & sound financial health. It cannot be redeemed before the maturity date even if the issuing firm has surplus funds to pay back. Commercial banks:Commercial banks are the most important source of short-term capital. the mahor portion of w.c provided bu commercial banks. they provide a wide variety of loans tailored to meet the specific requirements of a concern. Those are:

Cash credits

Overdrafts

Loans
COmmercial loans

Purchasing & discountin of bills

Loans:When a bank makes an advance in lump-sum against some security, it is called a loan. The entire amount of loan is paid to the borrower in cash or by credit to his account. The borrowers required to pay interest on the entire amount of loan from the date of sanction. A loan may be repayable in lump-sum or installments.

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WORKING CAPITAL
Cash credits:It is an arrangement by which a bank allows his customer to borrow money up to a certain limit against same tangible securities. The customer can withdraw from his credit limit according to his needs & he can also deposit any surplus amount with him. The interest is charged on the daily balance & not on the entire amount of account. RBI issued a directive to all scheduled commercial banks on 28th march 1970, prescribing a commitment charge which banks should levy on the utilized portion of credit limits. Overdrafts:That is agreement with a bank by its current account holder to with draw more than the balance to his credit up to a certain limit. The interest is charged on daily overdrawn balances. Main difference in between cash credit & O.D is allowed for a short period & is temporary accommodation where as the cash credit is allowed for a longer period. Purchasing & discounting of bills:It is most important in which a bank lands without any collateral security. The seller drew a bill of exchange on the buyer of goods on credit. The bank purchases the bills payable on demand & credits the customers account with the amount of bill less discount. At the maturity of the bills, bank presents the bill to its acceptor for payment. In case the bill discounted in dishonored by non-payment, the bank recovers the full amount of bill from the customer along with expenses in that connection. Norms of bank finance:It is also called as security required in bank finance. Banks do not provide finance without obtaining adequate security. The following are most important modes of security required by a bank.

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WORKING CAPITAL
Pledge

Hypothecation

Mortgage

Norms of bank finance

Hypothecation:Under this bank provides w.c finance against the security of movable property, usually inventories. The borrower does not give the possession of property to bank. It remains with the borrower & hypothecation in a charge against property for the amount of debt. If the borrower fails to pay hid due to the banker may file a case to realize his dues by sale of goods/property hypothecated. Pledge:Under this, the borrower is required to transfer the physical possession of property or goods to the bank as security. The bank will have the right of lien & can retain the possession goods unless the claim of bank is met. In case of default, the bank can even sell the goods after giving due notice. Mortgage:In addition to the hypothecation or pledge, banks usually ask for mortgages as collateral or additional security. Mortgage is the transfer of a legal or equitable interest in a specific immovable property for the payment of a debt. Although the possession of property remains with the borrower, the full legal title is transferred to the lender. In case of default, the bank can obtain decree from the court to sell the immovable property mortgage so as to realize its dues.
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Management of cash:Cash is one of important current assets of business. It is needed to all times to keep the business going any shortage of cash will hamper the operations of a concern & any excess of it will be unproductive. Nature of cash:For some persons cash means only currency. For some other persons cash means both cash in hand & cash at bank. Some even includes near cash assets to it. Cash is a medium to acquire other assets. The assets acquired by cash again help the business in producing cash. A financial manager tries to synchronize the cash inflows & outflows. Perfectly synchronization of receipts & payments of cash is only an ideal situation. Motives for holding cash: Cash forecast & budgeting:Cash budget is the most important device for the control of receipts & payments of cash. This is an estimate of cash receipts & disbursements during a future period of time. It is a forecast of expected cash in take & outlay. Short term fore cast can be made with the help of cash flow projections. The long-term forecast is also essential for proper cash pledge. These estimates may be for 3, 4,5or more years. Long-term forecast indicate companies future financial needs for w.c, capital projects. Both short-term & long-term cash forecast may be made with the help of following methods. Receipts & disbursements method. Adjusted net income method. Receipts & disbursement methods:In this the receipts & payments of cash are estimated. Receipts may be from cash sales, collection from debtors, sale of fixed assets, receipts of dividends & other. It is difficult to forecast sales because the sales may be either for cash or for credit.
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Adjusted net income method:This is also known as sources & uses approach. This helps in projecting the companies need for cash are some future date & to see whether the company will be able to generate sufficient cash. It has generally 3 sections: Sources of cash. Uses of cash. Adjusted. In preparing its statement, dividend, net income, depreciation, tax can easily be determined from companys annual operating budget. But the estimation of w.c movement becomes difficult because receivables, inventories are influenced by fluctuations in raw material cost, changing demand for companies products & delays in collections.

Managing cash flows Cash inflows (accelerating)

Prompt payment by customers Quick conversion of payment in cash
Decentralise d collection

Slowing cash outflow Lock box system Paying on last date Payment through drafts

Adjusting payroll funds

Centralisa tion of payment

Inter bank transfer

Making use of float

Cash inflows (accelerating): Quick conversion of payment in cash:Cash inflows can be accelerated by improving the cash collecting process. There is a time gap between the cheque sent by customer & the amount collected against it. This is due to many factors.

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1. Mailing time is taken by post office for transfer cheque from customer to firm Postal float. 2. Time taken in processing cheque within the organization & sending it bank for collections Lethargy. 3. Collection time taken within the bank Bank float. Postal float, lethargy & bank float are collectively referred as deposit float. Deposit float refers to the cheque written by customers but the amount not yet usable by the firm. Efficient management will be possible only if the time taken in deposit float is reduced & make the money available for use. This can be done by decentralizing collections. Decentralized collections:No. of collecting centers are opened in different areas instead of collecting receipts at one place. That reduces the mailing time from customers dispatch of cheque & its receipt in the firm & then reducing the time in collecting these cheques. On the receipt of cheque it is immediately sent for collection. Since the party may have issued the cheque on a local bank, it will not take much time in collecting it. The amount so collected will be sent in the central office at the earliest. Decentralized collection system mailing & processing time & reduces the financial requirements. Lock box system:This is another technique of reducing mailing, processing & collecting time. Under this the firm selects some collecting centers at different places. The places are selected on the basis of a no. of consumers & the remittances to be received form a particular place. The firm hires a post box in a post office & the parties are asked to send the cheques on the post box number. A local bank is authorized to operate the post box. The bank will collect the post a no. of times in a day & start the collection process of cheques. The amount so collected is credited to the firms account.

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The bank will prepare a detailed account of cheques received which will be used by the firm for processing purpose. This system of collecting cheques expedites the collection process & avoids delays due to mailing & processing time at the accounting department. By transferring clerical function to the bank, the firm may reduce it costs improve internal control & reduce the possibility of fraud. slowing cash outflows: Paying on last date:The disbursements can be delayed on making payments on the last due date only. If the credit is for 10days then payment should be made on 10th day only. It can help in using the money for short periods & the firm can make use of cash discount also. Payments through drafts:A company can make payments by issuing drafts to the suppliers instead of cheques will have to keep a balance in its account so the cheque is paid whenever it comes. On the other hand a draft is payable only on presentation to the issues. The receiver will give the draft to its bank for presenting it to the buyers bank. It takes a no. of days before it is actually paid. The company can economize large resources by using this method. The funds so saved can be invested in highly liquid low risk securities to earn income there on. Adjusting payroll funds:Some economy can be exercised on payroll funds. it can be done by reducing the frequency of payments. If the payments are made weekly then this period can be extended to a month. Secondly the financial manager can play the issuing of salary cheques &their disbursements. If the cheques are issued on Saturday then only a few cheques may be presented for payment, even on Monday all cheques may not be presented. On the basis of his post experience finance manager can clear to him about the average time taken by employees in encashing their pay cheques.
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Centralization of payments:The payments should be centralized make through drafts or cheques. When cheques are issued from the main office then it will take time for cheques to be cleared through post. The benefit of cheque collecting time in availed. Interbank transfer:An efficient use of cash also possible by interbank transfer. If the company has accounts with more than one bank then amounts can be transferred to the bank where disbursements are to be made. It will help in avoiding excess amount in one bank. Making use of float:Float is a difference between the balance shown in companies cash book & balance in passbook of bank. Whenever a cheque is issued the balance at bank in cash book is reduced. The party to whom the cheque is issue may not present it for payment immediately. If the party is at some other station then the cheque will come through post & it may take a no. of days before it is presented. Until the time, the cheques are not presented to bank for payment there will be a balance in the bank. The company can make use of this float if it is able to estimate it correctly. Receivables management:A sound managerial control requires proper management of liquid assets & inventory. These assets are a part of w.c of the business. An efficient use of financial resources is necessary to avoid financial distress. Receivables results from credit Saks. Meaning of receivables:Receivables represent amounts owed to the firm as a result of sale of goods or services in the ordinary course of business. These are claims of the firm against its customers & form part of its current assets. Receivables are also known as accounts receivables, trade receivable, customer receivables or book debts. The period of credit & extent of receivables depends upon the credit policy
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followed by the firm. The purpose of maintain in receivables is to meet competition & to increase the sales & profits. Costs of maintaining receivables:-

Cost of maintaining receivables Costs of financing receivables Costs of collection

Bad Debts

Cost of financing receivables:When goods & services are provided on credit then the concerns capital is allowed to be used by the customers. The receivables are financed from the funds supplied by shareholders for long-term financing & through retained earnings. The concern incurs some cost for collecting funds which finance receivables. Cost of collection:Proper collection of receivables is essential for receivables management. The firm may send reminders or persons for collecting the amounts. In some cases legal resource may have to be taken for collection. All these costs are known as collection costs which a concern is generally required to incur. Bad Debts:The amounts which the customers fail to pay are known as bad debts. Though a concern may be able to reduce bad debts through efficient collection machinery but one cannot altogether rule out this cost.
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Factors influencing the size of receivables: Size of credit sales:The volume of credit sales is the first factors which increases or decreases the size of receivables. Credit policies:A firm with conservative credit policy will have a low size of receivables while a firm with liberal credit policy will be increasing this figure. Terms of trade:The period of credit allowed & rates of discount given are linked with receivables. If credit period allowed is more than receivables will be more. Expansions of plans:When a firm entering into new markets to attract customers it will give incentives in the form of credit facilities. The periods of credit can be reduced when the firm is able to get permanent orders. In the early stages of expansion more credit becomes essential & size of receivables will be more. Relation with profits:More sales bring more profits. The increase in profits will be followed by an increase in the size of receivables. Credit collection efforts:The paying habits of customers also have a bearing on the size of receivables. If the customers delaying payments receivables will be more. Factors help in forecasting receivables: Credit period allowed:Longer the amount remains due the higher will be the size of receivables; the higher will be the size of receivables.

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Effect of cost of goods sold:Sometimes an increase in sales results in decrease in cost of goods sold. If this is so sales should be increased to that extent where costs are low. The increase in sales will also increase the amount of receivable. The estimate for sales will enables the estimation of receivables too. Forecasting expenses:Administrative expenses on collection amounts, costs of funds tied down in receivables, bad debts are associated with receivables. if the costs are more, further credit sales will not be allowed. On the other hand, revenue increased, sales should be expanded. Average size of receivables:The determination of average size of receivables will also be helpful in forecasting receivables. This is calculated as Average size of receivables = estimated annual sales X average collection period. Meaning of receivables management:Receivables management is the process of making decisions relating investment in trade debtors. Investment in receivables is necessary to increase the sales & the profits of a firm. But at the same time investment in this asset involves cost consideration also further there is a risk of bad debts too. The objective of receivables management is to take a sound decision as regards investment in debtors.

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Dimensions:Receivables management involves the following considerations.

Forming of credit policy Executing the credit policy Formulating & executing collection policy
A. Forming of credit policy:For efficiency management of receivables, a concern must adopt a credit policy. A credit policy is related to decisions such as credit standards. Length of credit period. Cash discount. Discount period. Credit standards:The volume of sales will be influenced by credit policy of concerns. Liberalized sales policy increases the sales volume resulting into increased profits. This is associated with certain risks like enhancing costs, risks of bad debts & delayed receipts. The increase in no. of customers will increase the clerical work in maintaining additional accounts & collecting information about credit worthiness of customers. There may be more bad debts due to extension of credit to less worthy creditors. On the other hand, extending credit to only credit worthy
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Dimensions

WORKING CAPITAL
customers will save costs like bad debt losses, collection costs, investigation costs etc. the restrictions of credit to such customers only will certainly reduce sales volume, thus resulting in reduced profits. A finance manager has to match the increased revenue with additional costs. Credit should be liberalized only to the level where incremental revenue matches the additional costs. The optimum level of investment in receivables should be where there is a tradeoff between the costs & profitability.

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