Working capital management strategy

Working Capital Management

Strategy PRESENTED BY:

Navaneeth k

Working Capital

Working capital Introduction Working capital typically means the firm’s

holding of current or short-term assets such as cash, receivables, inventory and marketable securities.

These items are also referred to as circulating capital

Corporate executives devote a considerable amount of attention to the management of working capital

Working capital refers to that part of the firm’s capital, which is required for financing short-term or current assets such as cash

marketable securities, debtors and inventories.

It is also known as revolving or circulating capital or short-term capital

Definition of Working Capital

• Current Assets These are those assets which change

their form within a short period of time, generally within one year.

It includes-: Debtors, B/R, Cash & Bank balance,

Prepaid expenses etc.

Components Of Working Capital

• Current Liabilities These are those liabilities which are

payable within a short period of time, generally within one year.

It includes- Creditors, B/P, Bank o/d, Short term loan,

Proposed dividend etc.

Cont.….

Net Working CapitalCurrent Assets - Current Liabilities.

Gross Working CapitalThe firm’s investment in current assets.

Working Capital Concepts

Strengthen The SolvencyWorking capital help to operate the business smoothly with out any financial problem for making the payment of short-term liabilities such as payment to supplier, payment of salary and wages...etc.Enhance GoodwillSufficient working capital enables a business concern to make prompt payment and hence help in creating and maintaining goodwill

Significance Of Working Capital

Easy Obtaining Loan A firm having adequate working capital,High solvency and good credit rating can arrange loans from banks and financial

institutions in a easy and favourable terms.Ability To Face CrisisAdequate working capital enables a firm to

face business crisis in emergenciesSuch as depression

Regular Supply Of Raw MaterialQuick payment of credit purchase of raw materials ensure the regular supply of raw material from suppliers.High MoraleAdequacy of working capital creates an environment of security, confidence, high morale and creates overall efficiency in business.

Smooth Business OperationAdequate working capital enable us to met any day to day financial requirement without shortage of fund, and all expenses and current liabilities are paid on timeCash discountsAdequate working capital also enable a concern to avail cash discounts on the purchase and hence it reduce costs

Significance Of Working Capital Strengthen The Solvency Enhance Goodwill Easy Obtaining Loan Ability To Face Crisis Regular Supply Of Raw Material High Morale Smooth Business Operation Cash discounts

Working capital management simply refers to management of working capital or it is the management of current asset and current liabilities .It involves the problem of decision making regarding investment in various current assets for maintaining the liquidity of fund

Working Capital Management

“working capital management is concerned with the problems that arise in attempting to manage the current asset, current liabilities and the interrelationship that exist between them” - SMITH

Definition of Working Capital Management

How the working capital should be financed ?

WORKING CAPITAL MANAGEMENT STRATEGY

Short term fundLess costly= there is a “favourable impact on profitability”Long term fund“It provide liquidity for a longer period of time”

Working Capital Management Strategy

Approaches to Financing Mix

The Hedging or Matching Approach

The Conservative Approach

The Aggressive Approach

Types of working capital needs Permanent working capital-Temporary working capital-Permanent working capital- There is always a minimum level of working capital which is continuously required by a firm in order to maintain its activities like cash, stock and other current assets in order to meet its business requirements irrespective of the level of operations.

Temporary working capital- Over and above the permanent working capital, the firm may also require additional working capital in order to meet the requirements arising out of fluctuations in sales volume. This extra working capital needed to support the increased volume of sales is known as temporary or fluctuating working capital

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Permanent Working Capital

The amount of current assets required to meet a firm’s long-term minimum needs.

Permanent current assets

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Temporary Working CapitalThe amount of current assets that varies

with seasonal requirements.

Permanent current assets

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HEDGING APPROACH

This approach is also known as matching approach.

The hedging approach suggests that the permanent working capital requirement should be financed with fund from long term sources while the temporary working capital requirement should be financed with short term funds

The Hedging approach

Hedging approach to asset financing

Fixed Assets

Permanent Current Assets

Total Assets

Fluctuating Current Assets

Time

Short-termDebt

Long-termDebt +EquityCapital

According to this approach, the expected life of an asset is matched with the period of source of finance by which the asset is financed Financing Strategy Of Hedging

ApproachLong term fund= Fixed asset+ Total permanent current asset

Short term fund= Total temporary current asset

This is an approach that emphasis on safety. This approach suggested that the entire

estimated investments in current asset should be finance from long term source and short term should be use only for emergency requirement

Availability of sufficient working capital will enable the smooth operation of business and reduce the risk of insolvency

CONSERVATIVE APPROACH

Conservative approach to asset financing

Fixed Assets

Permanent Current Assets

Total Assets

Fluctuating Current Assets

Time

Short-termDebt

Long-termDebt +Equity capital

Distinct features of this approach Liquidity is greater

Risk is minimized

The cost of financing is relatively more

Smooth operations with no stoppages

No insolvency riskDISADVANTAGESHigher interest cost

Idle fund

ADVANTAGES

Financing Strategy Of conservative Approach

Long term fund= fixed asset + total permanent asset + part of temporary current asset

Short term fund= part of temporary current asset

Risky approachThe aggressive approach suggests that the

entire estimated requirement of current asset should be financed from short-term sources and even a part of fixed asset investment be financed from short - term sources

This approach make the finance mix : More Risky Less costly More Profitable

AGGRESSIVE APPROACH

Aggressive approach to asset financing

Fixed Assets

Permanent Current Assets

Total Assets

Fluctuating Current Assets

Time

Short-termDebt

Long-termDebt +Equity capital

Financing Strategy Of Aggressive Approach

Long term fund= fixed asset + part of permanent current assetShort term fund= part of permanent current asset + total temporary current asset

Zero Working Capital ApproachThis is one of the latest trends in working

capital managementConcept was advocated by

“KAMPOURIS”(CEO OF AMERICAN STANDARD)

under this policy working capital tends to be zero

Excess investment in current asset is avoided and firm meets current liabilities out of matching current asset