A
PROJECT REPORT ON TOOLS & TECHNIQUES OF WORKING CAPITAL
SUBMITTED TO UNIVERSITY DEPARTMENT OF COMMERCE AND BUSINESS MANAGEMENT, RANCHI UNIVERSITY, RANCHI SUBMITTED BY, HARSHAWARDHAN ROLL NO. 27 , SECTION---(A) SEMESTER---2 SESSION -2010-12
UNDER THE GUIDANCE OF AMIT SHEKHAR TIRKEY (FINANCIAL MANAGEMENT)
DECLARATION 1.
I here by solemnly declare that all the statement made in the above report are and correct to the best of my knowledge in belief.
2.
I here to certify that information of report furnished above is true and accurate to the best of my knowledge and belief. I have not suppressed any material fact or factual information in the above statement , I am aware that in case , I have given wrong information or suppressed any material fact or factual information that my candidature will be rejected terminated for the without giving any notice or reasons thereof.
3.
I fully understand that in the event of any information being found false or incorrect action can be taken against me.
Place:-- Ranchi Date:-- 24/04/2011
signature
DECLARATION 1.
I here by solemnly declare that all the statement made in the above report are and correct to the best of my knowledge in belief.
2.
I here to certify that information of report furnished above is true and accurate to the best of my knowledge and belief. I have not suppressed any material fact or factual information in the above statement , I am aware that in case , I have given wrong information or suppressed any material fact or factual information that my candidature will be rejected terminated for the without giving any notice or reasons thereof.
3.
I fully understand that in the event of any information being found false or incorrect action can be taken against me.
Place:-- Ranchi Date:-- 24/04/2011
signature
ACKNOWLEDGEMENT I awe a debts of gratitude to many people , notably among them numerous scholars who have authored book and reports on tools and technique of working capital thanks are due to Dr. I. M pandey and his book financial management , I M pandey is one of the intelligent writer of finance without his help this book fm would not have been written . I am also grateful to my friend suryabali , kundan kumar jha and mrinal kumar they have helped me to make a report on tools and techniques of working capital . Finally , I express my sense of gratitude to Mr. Amit shekhar tirkey teacher of financial management who has encouraged me to complete this project .
PREFACE Working capital is used to run fixed capital so in thus we can say that working capital is the life line of any company , organizations, and institutions . if you want to make your company success so must give your point of notice to working capital . It is undiputable fact that working capital is necessary to run fixed capital or we can say that working capital genera public and leaders workers and executives governmental and nongovernmental organization all have to sensitive to working capital which is necessary to run fixed capital, This project is about the tools and technique of working capital it provide the comprehensive coverage of the various concepts and cardinal principle of working capital . I hope this project provide the motivation for further projects.
BIBLIOGRAPHY With reference:1. Book name:--- ACCOUNTANCY CLASS 11 DK GOEL 2. FINANCIAL MANAGEMENT :-- I.M PANDEY
Web site:_- www.google.com www.yahoo.com
INTRODUCTION WORKING CAPITAL :-The capital which is used for the operating the business activity or business operation. Working capital is very necessary to run fixed capital like you have established an industry so must need land, capital , machinery , labor , etc. to established the industry you need electricity , oil , lubricants , diesel, to run the fixed capital these all are the working capital which is use to run fixed capital . so working capital is necessary to run fixed capital . There are two concepts of working capital -----gross and net. 1) Gross working capital :- refers to the firm’ investment in current assets . current assets are those assets which can be converted into cash within an accounting year and include cash , short-term securities , debtors (accounts receivable or book debts) , bills receivable and stock (inventory) 2) Net working capital :-- it refers to the difference between current assets and current liabilities. Current liabilities are those claims of outsiders which are expected to mature for payment within an accounting year and include creditors (account payable) , bills payable , and outstanding expenses . net working capital can be positive or negative . A positive net working capital will arise when current assets exceeds currents liabilities. A negative net working
capital occurs when currents liabilities are in excess of currents assets.
NEED FOR WORKING CAPITAL The need for working capital to run the day-to-day business activities cannot be overemphasized. We will hardly find a business firm which does not require any amount of working capital . indeed firms differ in their requirements of the working capital . We know that a firm should aim at maximizing the wealth of its shareholders . In its endeavor to do so, a firm should earn sufficient return from its operations. Earning a steady amount of profit requires successful sales activity . The firm has to invest enough funds in current assets for generating sales . current assets are needed because sales do not convert into cash instantaneously There is always an operating cycle involved in the conversion of sales into cash. There is a difference between currents and fixed assets in term of their liquidity . A firm requires many year to recover the initial investment in fixed assets such as plant and machinery or land and buildings .on the contrary , investment in currents assets is turned over many times in a year . investment in current assets is turned over many times in a year . Investment in current assets such as investories and debtors (accounting receivable) is realized during the firm operating cycle that is usually less than a year.
TOOLS AND TECHNIQUES OF WORKING CAPITAL CURRENT ASSETS :--- current assets are those assets which are meant for sale or which the management would want to convert into cash within one year . as such these assets are also termed as ‘short-lived or active assets ‘ for examples ‘debtors’ are also
converted into cash within a reasonable short period , stock is continuously sold and bills receivables are also converted into cash within a reasonable short period stock is continuously sold and bills receivables are also converted into cash . According to the institute of certified public accounted , u.s.a current assets include cash current asset include cash and other assets or resources commonly identified as those which are reasonably expected to be realized in cash or sold or consumed during the non operating cycle of the business . Although the ‘prepaid expenses’ will never be realized in cash, there are also included in current assets. Since service or benefits will be available against these without further payment Current assets are also known as floating assets or circulating or circulating assets as the amount and nature of such assets keeps changing continuously .for example , a businessman purchases goods for cash and this goods are sold to X on credit , X becomes our debtors and it means that debtors has been converted into debtors . again if the bill receivable will be converted into cash it shows that all current assets are finally converted into cash . Current assets are usually shown in the balance sheet in the “liquidity order” liquidity is the facility with which the assets may be
converted into cash . those assets which are most difficult to be converted into cash Current assets are assets which are expected to be sold or otherwise used within one fiscal year. Typically, current assets include cash, cash equivalents, accounts receivable, inventory, prepaid accounts which will be used within a year, and short-term investments. Current liabilities are considered as liabilities of the business that are to be settled in cash within the fiscal year. Current liabilities include accounts payable for goods, services or supplies, short-term loans, long-term loans with maturity within one year, dividends and interest payable, or accrued liabilities such as accrued taxes. Working capital, on the one hand, can be seen as a metric for evaluating a company’s operating liquidity. A positive working capital position indicates that a company can meet its short-term obligations. On the other hand, a company’s working capital position signals its operating efficiency. Comparably high working capital levels may indicate that too much money is tied up in the business.
The most important positions for effective working capital management are inventory, accounts receivable, and accounts payable. Depending on the industry and business, prepayments received from customers and prepayments paid to suppliers may also play an important role in the company’s cash flow. Excess cash and nonoperational items may be excluded from the calculation for better comparison.
As a measure for effective working capital management, therefore, another more operational metric definition applies:
(Operative) net working capital = Inventories + Receivables – Payables – Advances received + Advances made where:
inventory is raw materials plus work in progress (WIP) plus finished goods; receivables are trade receivables; payables are non-interest-bearing trade payables; advances received are prepayments received from customers; advances made are prepayments paid to suppliers.
When measuring the effectiveness of working capital management, relative metrics (for example, coverage) are generally applied. They have the advantage of higher resistance to growth, seasonality, and deviations in (cost of) sales. In addition to better comparison over time, they also allow better benchmarking of operating efficiency with internal or external peers.
A frequently used measure for the effectiveness of working capital management is the so-called cash conversion cycle, or cash-to-cash cycle (CCC). It reflects the time (in days) it takes a company to get back one monetary unit spent in operations. The operative NWC positions are translated into ―days outstanding‖— the number of days during which cash is bound in inventory and receivables or financed by the suppliers in accounts payable. It is defined as follows: 1
CCC = DIO + DSO – DPO
inventories ÷ cumulative cost of sales) × 365 = average number of days that inventory is held; days sales outstanding (DSO) = (average receivables ÷ cumulative sales) × 365 = average number of days until a company is paid by its customers; days payables outstanding (DPO) = (average payables ÷ cumulative purchasing volume) × 365 = average number of days until a company pays its suppliers.
Optimizing the three components of operative NWC simultaneously not only accelerates the CCC, but also goes hand in hand with further improvements. Figure 1 illustrates how an NWC optimization impacts the value added and free cash flow of a company. However, applying the right measures will not only increase value
added by lowering capital employed. Improved processes will also lead to reduced costs and higher earnings before income and taxes (EBIT).
Figure 1. Holistic approach to working capital management
Holistic Approach to Working Capital Management By streamlining end-to-end processes, companies can, for example, reduce stock, decrease replenishment times from internal and external suppliers, and optimize cash-collection and payment cycles. The key is to uncover the underlying causes of excess operative working capital. In order to address the often hidden interdependencies among the different components and achieve maximum savings from a working capital program, companies must analyze the e ntire value chain, from product design to manufacturing, sales and after-sales support. They must also look for ways to simplify and streamline processes and eliminate waste, always keeping potential tradeoffs in mind.
. For
instance, cutting inventories of spare parts or reducing product customization could lead to a major reduction in inventory. But how would these measures affect service quality, market positioning, or other aspects of the business?
By definition, working capital management entails short term decisions generally, relating to the next one year period - which are "reversible". These decisions are therefore not taken on the same basis as Capital Investment Decisions (NPV or related, as above) rather they will be based on cash flows and / or profitability.
One measure of cash flow is provided by the cash conversion cycle - the net number of days from the outlay of cash for raw material to receiving payment from the customer. As a management tool, this metric makes explicit the inter-relatedness of decisions relating to inventories, accounts receivable and payable, and cash. Because this number effectively corresponds to the time that the firm's cash is tied up in operations and unavailable for other activities, management generally aims at a low net count. In this context, the most useful measure of profitability is Return on capital (ROC). The result is shown as a percentage, determined by dividing relevant income for the 12 months by capital employed; Return on equity (ROE) shows this result for the firm's shareholders. Firm value is enhanced when, and if, the return on capital, which results from working capital management, exceeds the cost of capital, which results from capital investment decisions as above. ROC measures are therefore useful as a management tool, in that they link short-term policy with long-term decision making. See Economic value added (EVA). Credit policy of the firm: Another factor affecting working capital management is credit policy of the firm. It includes buying of raw material
and selling of finished goods either in cash or on credit. This affects the cash conversion cycle.
Management of working capital Guided by the above criteria, management will use a combination of policies and techniques for the management of working capital. These policies aim at managing the current assets (generally cash and cash equivalents, inventories and debtors) and the short term financing, such that cash flows and returns are acceptable.
Cash management.Identify the cash balance which allows for the business to meet day to day expenses, but reduces cash holding costs.
Inventory management. Identify the level of inventory which allows for uninterrupted production but reduces the investment in raw materials and minimizes reordering costs - and hence increases cash flow. Besides this, the lead times in production should be lowered to reduce Work in Progress (WIP) and similarly, the Finished Goods should be kept on as low level as possible to avoid over production - see Supply chain management; Just In Time (JIT); Economic order quantity (EOQ); Economic quantity
Debtors management. Identify the appropriate credit policy, i.e. credit terms which will attract customers, such that any impact on cash flows and the cash conversion cycle will be offset by increased revenue and hence Return on Capital (or vice versa); see Discounts and allowances.
Short term financing . Identify the appropriate source of financing, given the cash conversion cycle: the inventory is ideally financed by credit granted by the supplier; however, it may be necessary to utilize a bank
loan (or overdraft), or to "convert debtors to cash" through "factoring".
METHODS OF WORKING CAPITAL ANALYSIS
There are so many methods for analysis of financial statements, some of the used techniques are:
Comparative size statements
Trend analysis
Cash flow statement
Ratio analysis
A detail description of these methods is as follows:-
COMPARATIVE SIZE STATEMENTS:-
When two or more than two years figures are compared to each other than we called comparative size statements in order to estimate the future progress of the business, it is necessary to look the past performance of the company. These statements show the absolute figures and also show the change from one year to another.
TREND ANALYSIS:- To analyze many years financial statements RIL LTD uses this method. This indicates the direction on movement over the long time and help in the financial statements.
Procedure for calculating trends:-
1. Previous year is taken as a base year. 2. Figures of the base year are taken 100.
3. Trend % are calculated in relation to base year.
CASH FLOW STATEMENT:-
Cash flow statements are the statements of changes in the financial position prepared on the basis of funds defined in cash or cash equivalents. In short cash flow statement summaries the cash inflows and outflows of the firm during a particular period of time.
Benefits:
To prepare the cash budget.
To compare the cash budgets .
To show the position of the cash and cash equivalents.
THE DISCOUNT CASH FLOW APPROACH
The true economic value of a firm or a business or a project or any strategy depends on the cash flows and the appropriate discount rate (commensurate with the risk of cash flow). There are several methods for calculating the present value of a firm or a business/division or a project. The first method uses the weighted average cost of debt and equity (WACC) to discount the net operating cash flows. When the value of a project with an estimated economic life or of a firm or business over a planning horizon is calculated, then an estimate of the terminal cash flows or value will also be made. Thus,
the
economic
value
of
a
project
or
business
is:
Economic Value=Present Value of net operating cash flows+ Present value of terminal value
ECONOMIC VALUE ADDED
Consulting firm Stern Steward has developed the concept of Economic Value Added. Companies across a broad spectrum of industries and a wide range of companies have joined the EVA badwagon. EVA is a useful tool to measure the wealth generated by a company for its equity shareholders. In other words, it is a measure of residual income after meeting the necessary requirements for funds.
Computation of EVA
EVA is essentially the surplus left after making an appropriate charge for capital employed in the business. It may be calculated by using following equation.
EVA= Net operating profit after tax- Cost charges for capital employed
EVA as tool for measuring the Shareholder’s wealth
study was empirical and descriptive in nature. The total population was The Indian banks which are listed in NSE-50.The sample frame were individual banks during the year 2005-06. The sample sizes were five Indian banks selected on the basis of the convenience sampling technique. The data was collected through secondary resources i.e. websites of NSE.
RATIO ANALYSIS:-
Ratio analysis is the process of the determining and presenting the relationship of the items and group of items in the statements.
Benefits of ratio analysis :-
1. Helpful in analysis of financial statements. 2. Helpful in comparative study. 3. Helpful in forecasting. 4. Estimate about the trend of the business. 5. Fixation of ideal standards. 6. Effective control. 7. Study of financial soundness.
Types of ratio:-
Liquidity ratio:They indicate the firms’ ability to meet its current obligation out of current resources.
Current ratio:-Current assets / Current liabilities
Quick ratio:-
Liquid assets / Current liabilities
Liquid assets =Current assets – Stock -Prepaid expenses
Leverage or Capital structure ratio: This ratio discloses the firms ability to meet the interest costs regularly and long term solvency of the firm.
Debt equity ratio:-Long term loans / Shareholders funds or net Worth
Debt to total fund ratio:-Long terms loans/ share holder funds +long term loan
Proprietary
ratio:-Shareholders
fund/
shareholders
fund+longterm loan
Activity
ratio or Turnover ratio:- They indicate the rapidity with
which the resources available to the concern are being used to produce sales.
Stock turnover ratio:-Cost of good sold/Average stock (Cost of good sold= Net sales/ Gross profit, Average stock=Opening stock+closing stock/2)
Debtors turnover ratio:-Net credit sales/ Average debtors +Average B/R
Average collection period:-Debtors+B/R /Credit sales per
(Credit sales per day=Net credit sales of the year/365)
.Creditors Turnover Ratio:-Net credit purchases/ Average Creditors + Average B/P
Average Payment Period: - Creditors + B/P/ Credit purchase per day.
Fixed Assets Turnover ratio:-Cost of goods sold/Net fixed Assets (Net Fixed Assets = Fixed Assets – depreciation)
Working Capital Turnover Ratio:- Cost of goods sold/ Working Capital (Working capital= current assets – current liability)
Profitability Ratios or Income ratios:-The main objective of every business concern is to earn profits. A business must be able to earn adequate profit in relation to the risk and capital invested in it.
Gross profit ratio:-Gross profit / Net Sales * 100 (Net sales= Sales – Sales return)
Net profit Ratio:-Net profit / Net sales * 100
(Operating Net Profit= operating net profit/ Net Sales *100 or operating Net profit= gross profit – operating expenses)
Operating
Ratio
:-Cost
of
goods
sold
+
Operating
expenses/Net Sales * 100 (Cost of goods sold = Net Sales – Gross profit, Operating expenses = office & administration expenses + Selling & distribution expenses + discount + bad debts + interest on short term loans)
Earning per share(E.P.S.) :-Net Profit – dividend on preference share / No. of equity shares
Dividend per share (D.P.S.):- Dividend paid to equity share Holders / No. of equity shares *100.
Dividend Payout ratio(D.P.) :-D.P.S. / E.P.S. *100
MANAGEMENT OF INVENTORY Inventories constitute the most significant part of current assets of a large majorityof companies. On an average, inventories are approximately 60% of current assets.Because of large size, it requires a considerable amount of fund.The inventory means and includes the goods and services being sold by the firmand the raw material or other components being used in the manufacturing of suchgoods and services.
Types of Inventory:
The common type of inventories for most of the business firms may be classifiedas raw-material, work-in-progress, finished goods.
Inventory of Raw material: it is basic inputs that are converted into finished products through the manufacturing process. Raw materials inventories are those units which have been purchased and stored for future productions.
Inventory of Work –in –process: Work-in-process is semi-manufactured products. Theyrepresent products that need more work before them become finished products for sale.
Inventory of Finished goods: These are completely manufactured products which areready for sale. Stocks of raw materials and work-in-process facilitate production, while
stock
of
finished
goods
is
required
for
smooth
marketingoperations.Thus inventories serve as a link between the production and consumption of goods.The levels of three kinds of inventories for a firm depend on the nature of business. A manufacturing firm will have substantially high levels of all the three kinds of inventories.
While retail or wholesale firm will have a very high level of finished goods inventories and no raw material and work-in-process inventories. So operating cycle can be known as following:-
Raw Material
Work in Progress
Cash Collection from
Sale Finished Goods
Credit Sales
Cash Sales
CASH
BOOK DEBTS
RAW MATERIALS
FINISHED GODS
WIP
FUND FLOW ANALYSIS:
This approach is based on non-current indicates as how management has used the long term sources of funds for working capital. The information relating to working capital changes (flows) may be presented in a statement form known as Fund flow statement. This statement presents a view of diverse sources and uses of funds.
FORMAT OF FUND FLOW STATEMENT:
Rs. Working capital in the beginning Add : sources of funds: i. Further issue of shares ii. Issue of debentures iii. Raising long term loans iv. Sale of fixed asset v. Profit from operations Less: uses of funds:
-
Rs. -
-
i. Purchase of fixed assets ii. Repayments of loans/ borrowings iii. Redemption of debentures iv. Dividends paid Working capital at the end
-
-
CASH MANAGEMENT: Efficient cash management processes are pre-requisites to execute payments, collect receivables and manage liquidity. Managing the channels of collections, payments and accounting information efficiently becomes imperative with growth in business transaction volumes. This includes enabling greater connectivity to internal corporate systems, expanding the scope of cash management services to include “full -cycle” processes (i.e., from purchase order
to reconciliation) via ecommerce, or cash management services targeted at the needs of specific customer segments. Cost optimization and value-add services are customer demands that necessitate the creation of a mechanism to service the
various
customer
groups.
In United Statesbanking, cash management, or treasury management, is a marketing term for certain services offered primarily to larger business customers. It may be used to describe all bank accounts (such as checking accounts) provided to businesses of a certain size, but it is more often used to describe specific services such as cash concentration, zero balance accounting, and automated clearing house facilities. Sometimes, private banking customers are given cash management services.
VARIOUS CASH MANAGEMENT TECHNIQUES:
Holding
One cash management technique is holding, which means that a company holds on to cash and keeps it on hand or in a local bank account. This is one of the preferred methods for smaller companies since there are often many short-term transactions necessary. These expenses may include inventory, paying employees and taxes.
Electronic Funds Transfer
Due to the convenience of the Internet, many businesses use electronic funds transfer for their cash management. Each sector of the business that receives cash can quickly move all of its excess cash to its main bank branch through these electronic transfers. One method of electronic funds transfer is called the automated clearinghouse, which immediately sends information from local accounts to the main account. Direct deposit for paying employees is one way that the automated clearinghouse works.
Third-Party Collection
In cash management the term for a delay of payment is known as a float. There are several different kinds including a mail float, processing float and a bank float. These terms correspond with the delay of payment when arriving through the mail. To avoid these delays, some companies use a third-party collection service that is set up at the post offices near local branches of the company. This third-party service collects the payments mailed to that post office and deposits them so that these float delays can be avoided.
Short-Term Investing
If a company has enough cash on hand to pay for upcoming expenses, it may invest the excess cash in a short-term fund. These investments are often made in money-market securities that are built for the liquidity of short-term investing. They can make the company a small amount of money on their cash even when only invested for a month or two. A company that is well-versed in this type of investing can improve its cash flow drastically over time.
Other techniques Capital Budgeting Techniques
Discounted cash flow techniques
Net Present Value Internal Rate of return Profitability Index
Non-discounted cash flow techniques
Pay Back Average Rate of Return Discounted pay back period
DISCOUNTED CASH FLOW TECHNIQUE:
This method is also called Excess Present Value (E.P.V) method or Investor’s
method. This method is used, when management has already determined a minimum rate of return as there policy.
This method is also called Time Adjusted Return on Investment or Discounted Rate of Return(D.R.R). This method measures the rate of return which earnings
are expected to yield on investments. This rate of return will be a rate of discount at which the net present value of the project is exactly equal to zero.
Since it is ratio, therefore, it happens to be relative measure and may be used in evaluating the proposals requiring different initial investment(cost). This ratio may be calculated as under:-
P.I(Per rupee)= P.V of cash inflows P.V of cash outflows(cost)
NON-DISCOUNTED CASH FLOW TECHNIQUES:
This method describes in terms of period of time the relationship between annual savings(cash inflow) and total amount of capital expenditure(investment).
When Pay-Back period is calculated by taking into account the discounting or interest factor, it is known as Discount Pay-Back period.
This method is also known as “Accounting Rate of Return (A.R.R)” or “Return on Investment(R.O.I)”. When initial investment is taken into account in the
calculation, it is called R.O.I and when average investment (capital) is being considered for the purpose of calculation, it is called A.R.R.
SIGNIFICANCE OF CAPITAL TECHNIQUES
WORKING
Working capital management techniques utilized bybusiness managers aids them in effectively managing working capital. Working capital management means managing current assets mainly. Techniques such as intersection of carrying cost and shortage cost, working capital finanicing policy, cash budgeting, EOQ and JIT are applied to manage different components of working capital like cash, inventories, debtors, financing of working capital etc.
tools in managing the working capital efficiently and effectively. Working capital is the difference current assets and current liabilities of a business. Major focus is on current assets because current liabilities arise due to current assets only. Therefore, controlling the current assets can automatically control the current liabilities. Now, current assets include Inventories, Sundry Debtors or Recievables, Loans and Advances, Cash and Bank Balance.
All working capital management techniques attempt to find optimum level of working capital because both excess or shortage of working capital involves cost to the business. Excess working capital carries the ‘carrying cost’ or ‘interest cost’ on the capital lying unutilized. Shortage of working capital carries ‘shortage cost’ which include disturbance in production plan, loss in revenue etc. Finding the optimum level of working capital is the main goal or winning situation for any business manager.
There are certain techniques used for finding the optimum level of working capital or management of different items of working capital. Intersection of Carrying Cost and Shortage Cost: One of the important method of finding the optimum level of working capital is the point of intersaction of carrying cost and shortage cost in a graphical representation. The total \ cost of carrying and shortage cost is minimum at this point.
Intersection of Carrying Costs and Shortage Costs
Here, the optimum level of current assets are at the point where the shortage and carrying costs are meeting or intersecting. At this point, the total cost, as we can see, is minimum and this is why that level of current assets are considered to be optimal.
Working Capital Financing Policy: Working capital can be divided into two viz. Permanent Working Capital and Temporary Working Capital. Permanent working capital is the level of working capital which is always required and maintained. Temporary working capital is the part of working capital which keeps on fluctuating. It is high in good seasons
and low in bad seasons. There are two types of financing available. They are long term financing and short term financing. Three strategies are possible with respect to financing of working capital. Efficient financing of working capital reduces carrying cost of capital.
1. Long term financing is used for both permanent and temporary WC. 2. Long term financing is used for permanent and some part of temporary WC. Remianing part of temporary WC is financed through short term financing as and when required. 3. Long term financing is used for permanent and short term financing for temporary WC.
These strategies should be choosen so as to match the maturity of source of finance with the maturity of the asset.
OTHER TOOLS AND TECHNIQUES OF WORKING CAPITAL Cash Budgeting: Cash budgeting is another important working capital management technique keep optimum level of cash in the business. Cash budgeting involves estimating the requirements of cash by estimating all the forecomingreciepts and payments. For effective management, a balance is needed between both excess and shortage of cash. It is because both ends are costly.
Speeding up of collection and getting relaxed credit terms from the creditors can reduce the cash requirements.
Inventory Management:
Inventory is an important component of working capital or current assets. Optimum level of inventory can save on costs heavily.
EOQ:
Economic Order Quantity (EOQ) model is a famous model for managing the inventories. It helps the inventory manager know what is the right quantity that should be ordered considering other factors like cost of ordering, carrying costs, purchase price and annual sales. The formula used for finding EOQ is as follows:
Economic Order Quantity (EOQ) A – Annual Sales O – Cost per Order P – Purchase price per unit C – Carrying Cost
Just-in-Time: Just-in-time is another very important technique which brough about paradigm shift in the
management of inventories. It did not reduce cost of inventory but it abolished it completely. Just-in-time means acquiring raw material or manufacturing product at the time when it is required by the customer. This strategy is very difficult to implement but if implemented can bring down inventory cost to minimum levels.
These are some important techniques discussed here. They are very effective in managing working capital. Managing working capital means managing current assets. Current assets like cash can be managed using cash budgeting, inventory can managed using invetory techniques like EOQ and JIT. Debtors and financing of working capital can be managed using appropriate sources of finance.
CONCLUSION:----from the above discussion it may be concluded that,
Best-in-class companies understand the company- and industry-specific drivers behind each component of operative working capital, and focus on optimizing the most promising ones. During this process, they consider the entire value chain to reveal the root causes of tied-up cash and take into account all interdependencies between the respective components. They apply a holistic approach in which they do not randomly reduce costs but consider all tradeoffs with costs and capital employed to optimize the company value. By applying the appropriate levers for each component, obstacles that slow cash flow can be removed and overall company processes can be improved.
