Q.1. What is meant by Working Capital ?
1. Working Capital = Current Assets less Current Liabilities.
2. Current Assets are those, which can be converted into cash within a short duration, i.e. generally less than one year. Hence Current Assets = Sum of Inventories,
Debtors, Cash and Bank Balances, Prepaid Expenses, Loans and Advances, Marketable Investments.
3. Current Liabilities are those which fall due for payment or settlement within a short duration, i.e. generally less than one year. Hence Current Liabilities = Sum of Creditors, Outstanding Expenses, Tax Provision, Proposed and Unclaimed Dividend, Short Term Loans, Bank Overdraft, Cash Credit.
Q.2. What are the various ways in which Working Capital can be classified?
Working Capital can be classified based on (a) Concept or (b) Time Factor.
(a) Based on Concept -Gross and Net Working Capital:
(i) Gross Working Capital = Current Assets only.
(ii) Net Working Capital = Current Assets less Current Liabilities
(b) Based on Time Factor -Permanent and Temporary Working Capital
(i) Permanent Working Capital: It is the minimum level of investment required in the business at all points of time. It is also called Fixed or Hard Core Working Capital.
(ii) Temporary Working Capital: It represents working capital requirements over and above permanent working capital and is dependent on factors like peak season, trade cycle boom, etc. It is also called as Fluctuating or Variable Working Capital.
Q.3. Write short note on the Long term financing for working capital requirements.
Though conceptually, working capital refers to short = term funds required to finance current assets in business, there is need to finance at least part of them by long-term funds. This is mainly because the current assets requirements of an enterprise never fall below a minimum level. This is often referred to as the permanent or core working capital. In order to ensure appropriate liquidity for the enterprise it would be wise to meet this permanent or core part of working capital through long-term sources. This would also made it possible to reduce the overall cost as cost of long-term funds is often lower
The main long-term sources that may be tapped for working capital are equity capital, debentures, term deposits, etc.
Q.6. Outline the importance of the Working Capital Cycle.
Meaning: Working Capital Cycle or Cash Cycle or Operating Cycle is the time duration for conversion of cash into cash equivalents like Raw Materials, Work-in-Progress, Finished Goods, Sundry debtors and thereafter back into cash. Represents of the Operating Cycle:
The operating cycle has the following phases or segments:
• Conversion of cash into Raw Material - Lead Time.
• Conversion of Raw Materials, into WIP and then into Finished Goods - Production / Process cycle.
• Conversion of Finished goods into Debtors through sales - Stockholding Period.
• Conversion of Receivables into Cash - Average Collection Period.
Operating Cycle is computed in terms of number of days (or sometimes in months). It is computed as under:
Operating Cycle = (Raw Material Storage Period + WIP holding Period + Finished Goods Storage Period + Debtors Collection Period) Less Creditors Payment Period The various components of working capital cycle are computed as under:
(1) Surplus Generation: It represents the activity cycle of the business, i.e. purchase, manufacture, sales and collection thereof. Hence the operating cycle stands for the process that creates surplus or profit for the business.
(2) Funds Rotation: Operating cycle indicates the total time required for rotation of funds. The faster the funds rotate, the better it is for the Company. Hence, Working Capital Cycle should be on par with the industry average. A long cycle indicates overstocking of inventories or delayed collection of receivables and is considered unsatisfactory.
Using the Operating Cycle, the Working Capital Turnover can also be computed as 365/Working Capital Cycle. A high turnover ratio indicates a better position.
Q.7. What are the approaches to estimation of Working Capital Requirements? Working Capital Requirements can be forecast in two ways:
• By reference to the operating Cycle
• By estimation of each component of current assets and current Liabilities. The second method is more popularly used in practice.
The two approaches to estimation of working capital requirements are:
(a) Total approach - All expenses and profit margin are included.
(b) Cash Cost approach - Only Cash expenses (excluding depreciation) are included
Q.8. What are the approaches of financing Working Capital Requirements ?
The approaches to financing working capital requirements are :
LTL = Long Term Liabilities viz. Share Capital, Long Tenn. Loans
STL = Short Term Liabilities viz. Sundry Creditors. Payable etc.
FA = Fixed Assets
PWC = Permanent Working Capital
TWC = Temporary Working Capital
Q.9. What are the matters to be considered in the context of working capital management in public sector undertaking?
In the context of working capital Management in public sector undertakings the following should be considered:
(1) Public sector undertakings are often blamed for over inventory resulting in blocking of capital and space or less often for under inventory upsetting production schedule. Both are signs of inefficient inventory management.
(2) There is generally no provision for working capital margin at the time. If estimating cost of project. Consequently there is no provision of long-term funds for working capital and the enterprise has to obtain financing from short -term sources.
(3) Most of the public sector units are capital intensive hence ratio of current assets to fixed assets is generally low.
(4) Most of the public sector undertakings lack application of working capital management techniques especially relating to receivables like discount rate, credit period and credit standard.