Beruflich Dokumente
Kultur Dokumente
Working Capital
and Current Asset
Management
Learning Goals
1. Understand short-term financial management,
net working capital, and the related trade-off
between profitability and risk.
2. Describe the cash conversion cycle, its funding
requirements, and the key strategies for
managing it.
3. Discuss inventory management: differing
views, common techniques, and international
concerns.
Copyright 2006 Pearson Addison-Wesley. All rights reserved.
14-2
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Current Liabilities:
Accounts Payable
Accruals
Short-Term Debt
Taxes Payable
Fixed Assets:
Investments
Plant & Machinery
Land and Buildings
Long-Term Financing:
Debt
Equity
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14-5
low
return
Current
Assets
Net Working
Capital > 0
Current
Liabilities
Long-Term
Debt
high
return
Fixed
Assets
Copyright 2006 Pearson Addison-Wesley. All rights reserved.
Equity
low
cost
high
cost
highest
cost
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Current
Assets
high
return
Fixed
Assets
Copyright 2006 Pearson Addison-Wesley. All rights reserved.
Current
Liabilities
Net Working
Capital < 0
low
cost
Long-Term
Debt
high
cost
Equity
highest
cost
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Funding Requirements
of the CCC (cont.)
Permanent vs. Seasonal Funding Needs
Nicholson Company holds, on average, $50,000 in cash and
marketable securities, $1,250,000 in inventory, and $750,000
in accounts receivable. Nicholsons business is very stable
over time, so its operating assets can be viewed as
permanent. In addition, Nicholsons accounts payable of
$425,000 are stable over time. Nicholson has a permanent
investment in operating assets of $1,625,000 ($50,000 +
$1,250,000 + $750,000 - $425,000). This amount would also
equal the companys permanent funding requirement.
Copyright 2006 Pearson Addison-Wesley. All rights reserved.
14-16
Funding Requirements
of the CCC (cont.)
Permanent vs. Seasonal Funding Needs
In contrast, Semper Pump Company, which produces bicycle pumps,
has seasonal funding needs. Semper has seasonal sales, with its peak
sales driven by purchases of bicycle pumps. Semper holds, at minimum,
$25,000 in cash and marketable securities, $100,000 in inventory, and
$60,000 in accounts receivable. At peak times, Sempers inventory
increases to $750,000 and its accounts receivable increase to $400,000.
To capture production efficiencies, Semper produces pumps at a
constant rate throughout the year. Thus, accounts payable remain at
14-17
Funding Requirements
of the CCC (cont.)
Permanent vs. Seasonal Funding Needs
$50,000 throughout the year. Accordingly, Semper has a permanent
funding requirement for its minimum level of operating assets of
$135,000 ($25,000 + $100,000 + $60,000 - $50,000) and peak
seasonal funding requirements of $900,000 [($125,000 + $750,000 +
$400,000 - $50,000) - $135,000]. Sempers total funding
requirements for operating assets vary from a minimum of $135,000
(permanent) to a a seasonal peak of $1,125,000 ($135,000 +
$900,000) as shown in Figure 14.2.
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Funding Requirements
of the CCC (cont.)
Permanent vs. Seasonal Funding Needs
14-19
Funding Requirements
of the CCC (cont.)
Aggressive vs. Conservative Funding Strategies
Semper Pump has a permanent funding requirement of $135,000 and
seasonal requirements that vary between $0 and $990,000 and
average $101,250. If Semper can borrow short-term funds at 6.25%
and long term funds at 8%, and can earn 5% on any invested surplus,
then the annual cost of the aggressive strategy would be:
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Funding Requirements
of the CCC (cont.)
Aggressive vs. Conservative Funding Strategies
Alternatively, Semper can choose a conservative strategy under which
surplus cash balances are fully invested. In Figure 13.2, this surplus would
be the difference between the peak need of $1,125,000 and the total need,
which varies between $135,000 and $1,125,000 during the year.
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Funding Requirements
of the CCC (cont.)
Aggressive vs. Conservative Funding Strategies
Clearly, the aggressive strategys heavy reliance on short-term
financing makes it riskier than the conservative strategy because of
interest rate swings and possible difficulties in obtaining needed
funds quickly when the seasonal peaks occur.
The conservative strategy avoids these risks through the locked-in
interest rate and long-term financing, but is more costly. Thus the
final decision is left to management.
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Inventory Management:
Inventory Fundamentals
Classification of inventories:
Raw materials: items purchased for use in
the manufacture of a finished product
Work-in-progress: all items that are currently
in production
Finished goods: items that have been
produced but not yet sold
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Inventory Management:
Differing Views About Inventory
The different departments within a firm (finance,
production, marketing, etc.) often have differing views
about what is an appropriate level of inventory.
Financial managers would like to keep inventory levels
low to ensure that funds are wisely invested.
Marketing managers would like to keep inventory levels
high to ensure orders could be quickly filled.
Manufacturing managers would like to keep raw
materials levels high to avoid production delays and to
make larger, more economical production runs.
Copyright 2006 Pearson Addison-Wesley. All rights reserved.
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EOQ = 2 x S x O
C
Where:
S =
O =
Q =
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Inventory Management:
International Inventory Management
International inventory management is
typically much more complicated for exporters
and MNCs.
The production and manufacturing economies of
scale that might be expected from selling
globally may prove elusive if products must be
tailored for local markets.
Transporting products over long distances often
results in delays, confusion, damage, theft, and
other difficulties.
Copyright 2006 Pearson Addison-Wesley. All rights reserved.
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Changing Credit
Standards Example (cont.)
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Changing Credit
Standards Example (cont.)
Additional Profit Contribution from Sales
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Changing Credit
Standards Example (cont.)
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Changing Credit
Standards Example (cont.)
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Changing Credit
Standards Example (cont.)
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Changing Credit
Terms Example (cont.)
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Credit Monitoring
Credit monitoring is the ongoing review of a firms
accounts receivable to determine whether
customers are paying according to the stated credit
terms.
Slow payments are costly to a firm because
they lengthen the average collection period
and increase the firms investment in
accounts receivable.
Two frequently used techniques for credit
monitoring are the average collection period and
aging of accounts receivable.
Copyright 2006 Pearson Addison-Wesley. All rights reserved.
14-51
Credit Monitoring:
Average Collection Period
The average collection period is the average
number of days that credit sales are outstanding
and has two parts:
The time from sale until the customer places the
payment in the mail, and
The time to receive, process, and collect payment.
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Credit Monitoring:
Aging of Accounts Receivable
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Credit Monitoring:
Collection Policy
The firms collection policy is its
procedures for collecting a firms accounts
receivable when they are due.
The effectiveness of this policy can be
partly evaluated by evaluating at the level
of bad expenses.
As seen in the previous examples, this
level depends not only on collection policy
but also on the firms credit policy.
Copyright 2006 Pearson Addison-Wesley. All rights reserved.
14-54
Collection Policy
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Management of Receipts
& Disbursements: Float
Collection float is the delay between the time
when a payer deducts a payment from its checking
account ledger and the time when
the payee actually receives the funds in spendable
form.
Disbursement float is the delay between the time
when a payer deducts a payment from its checking
account ledger and the time when the funds are
actually withdrawn from the account.
Both the collection and disbursement float have
three separate components.
Copyright 2006 Pearson Addison-Wesley. All rights reserved.
14-56
Management of Receipts
& Disbursements: Float (cont.)
Mail float is the delay between the time when a
payer places payment in the mail and the time
when it is received by the payee.
Processing float is the delay between the receipt
of a check by the payee and the deposit of it in the
firms account.
Clearing float is the delay between the deposit of
a check by the payee and the actual availability of
the funds which results from
the time required for a check to clear the banking
system.
Copyright 2006 Pearson Addison-Wesley. All rights reserved.
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Investing in Marketable
Securities (cont.)
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Investing in Marketable
Securities (cont.)
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