Question

Are there any significant difference between working capital management and working capital investment?

Answer 1

Working Capital Management

Working capital management’ includes working capital financing apart from managing the current assets and liabilities. That adds the responsibility for arranging the working capital at the lowest possible cost and utilizing the capital cost-effectively.Following are the objective of Working Capital Management:-

1. Smooth Operating Cycle

2. Keep the requirement of Working Capital at lowest

3. minimising the rate of interest or cost of capital.

4. Optimum return on current assets investment

• Importance of Effective Capital Management

Working capital management is a day to day activity, unlike capital budgeting decisions. Most importantly, inefficiencies at any levels of management have an impact on the working capital and its management. Following are the main points that signify why it is important to take the management of working capital seriously.

1. Ensures Higher Return on Capital
2. Improvement in Credit Profile & Solvency
3. Increased Profitability
4. Better Liquidity
5. Business Value Appreciation
6. Most Suitable Financing Terms
7. Interruption Free Production
8. Readiness for Shocks and Peak Demand
9. Advantage over Competitors

Working Capital Investment

Working capital is the amount of liquid assets which an organization has at hand. Working capital investments are required to pay for unexpected and planned expenses, to build a business and meet the business’s short-term duties and obligations. Working capital investment is the amount of money you require to expand your business, meet short-term business responsibilities and cover business expenses

Current Assets – Current Liabilities = Working Capital Investment

Net working capital investment requirement varies from one company to another. Within the same company, the requirement of net working capital investment could vary from one month to another. The requirement of net working capital investment is dependant upon two factors:

What are the earnings of the organization and the frequency of getting these earnings

• The expenses of the organization and how often the payments needed to be conciliated.

With respect to working capital investment, over capitalization shouldn’t exist in case the management is good but the warning since excessive working capital be poor accounting ratios. The ratios that can help in estimating if the working capital investment is reasonable or not, include:

• Working capital investment: The sales volume as a product of working capital investment ought to show weather, when compared with the former year or with similar kind of firms, the whole amount of working capital investment is very high.

• Liquidity Ratios : A quick ratio in surplus of 1:1 or a ratio in surplus of 2:1 might indicate a more than required working capital investment.

• Turnover periods : Inordinate periods of turnover for debtors and stocks or a credit taken for a short period from supplies could indicate that the debtors’ stocks volume is high unnecessarily or the creditors’ volume is very low.

• Capital Invest