Cash is the lifeline of a company, no matter how large or small the organization is. If this lifeline deteriorates so does the company's ability to fund operations, reinvest and meet capital requirements and payments. Understanding a company's cash flow health is essential to making investment decisions. A good way to judge a company's cash flow prospects is to look at its working capital Management.
Working capital management involves the relationship between a firm's current assets and its current liabilities. Current Assets are resources, which are in cash or will soon be converted into cash in "the ordinary course of business". Current Liabilities are commitments which will soon require cash settlement in "the ordinary course of business".
The goal of working capital management is to ensure that a firm is able to continue its operations and that it has sufficient ability to satisfy both maturing short-term debt and upcoming operational expenses. The management of working capital involves managing inventories, accounts receivable and payable, and cash to pay current liabilities as they fall due. This implies a clearly designed risk policy to determine the required liquidity level.
[...] The cost on the use of additional capital to support, credit sales, which apparently could be profitably employed else where, are therefore a part of the cost of extending credit or receivables DELINQUENCY COST This is the cost, which arises out of the failure of the customer to meet their obligations when payment on credit sales becomes due after the expiry of the period of credit DEFAULT COST Sometimes the firm may not be in a position to recover the dues because of the inability of the customers, such debts are treated as bad debts and are written off as they cannot be realized, and such costs are known as default costs associated with credit sales and accounts receivables. [...]
[...] The amount of raw materials to be kept by a firm expends on a number of factors, including the speed with which raw materials can be ordered and procured and uncertainly in the supply of these raw materials. Its purpose is to uncouple the production function from the purchasing function i.e., to make these two functions independent of each other so that delays and the firm can satisfy its need for raw materials out of the inventory lying in the stores. [...]
[...] This portion of the required working capital is needed to meet fluctuations in demand consequent upon changes in production and sales as a result of seasonal changes. Working Capital Cycle: Cash flows in a cycle into, around and out of a business. It is the business's life blood and every manager's primary task is to help keep it flowing and to use the cash flow to generate profits. If a business is operating profitably, then it should, in theory, generate cash surpluses. [...]
[...] Solvency of the business: Adequate working capital helps in maintaining solvency of the business by providing uninterrupted flow of production Goodwill: sufficient working capital enables a business concern to make prompt payments and hence helps in creating and maintaining goodwill Easy loans: A concern hacking adequate working capital, high solvency and good credit standing can arrange loans from banks and others on easy and favorable terms Cash Discounts: Adequate working capital also enables a concern to avail cash discounts on the purchases and hence it reduces costs Regular payment of salaries: wages and other day-to-day commitments company which has ample working capital can make regular payment of salaries, wages and other day-to-day commitments which raises the morale of its employees, increases their efficiency, reduces wastage's and costs and enhances production and profits Regular supply of raw materials: Sufficient working capital ensures regular supply of raw materials and continuous production Ability to face Crisis: Adequate working capital enables a concern to face business crisis in emergencies such as depression because during such periods, generally, there is much pressure on working capital Quick and Regular return on Investments: Every Investor wants a quick and regular return on investments. [...]
[...] Though Working capital management takes place on two levels, component level and analysis level, the approach to WCM depends upon: 1. Natures or Character of Business 2. Size of Business/Scale of Operations 3. Production Policy 4. Manufacturing Process 5. Working Capital Cycle 6. Rate of Stock turnover 7. Credit Policy 8. Rate of Growth of Business 9. Earning Capacity and Dividend Policy 10. Price Level Changes MANAGEMENT OF ACCOUNTS RECEIVABLES Accounts receivables represent an extension of credit to customers, allowing them a reasonable period of time, in which to pay for the goods / services which they have received. [...]
Online readingwith our online reader
Content validatedby our reading committee