Question

1(a) What is meant by working capital management.

(b) What are the factors affecting working capital?

Answer 1

1. a. Management of working capital includes the connection between the short-term assets of a company and its short-term commitments. The objective of working capital management is to guarantee that a company is willing to continue its activities and is prepared to meet both maturing short-term debt and future operating expenses. Working capital management involves inventory management, accounts receivable and payable, and cash management.

Working capital management therefore relates to tracking your company's two parts or short-term liquidity.
Three basic parameters that assist you better manage the demands of working capital and specify your company's liquidity status are:

2. Collection Period Ratio: Also known as the turnover ratio of debtors or accounts receivable, this ratio reflects the capacity of a company to turn its debts into money. The less days it takes for its debtors to make their payments, the better.

3. Inventory Turnover Ratio: Also known as stock turnover ratio, this ratio controls the amount of time it takes a business to convert its products into money. The shorter the time taken, the greater the inventory effectiveness of the company.

1.b. 1. Operating Cycle Length: The quantity of working capital relies directly on the operating cycle length. The operating cycle relates to the manufacturing period. It begins right from raw material purchase and finishes until after sale payment is obtained. Working capital is very essential for the smooth operating cycle flow. If the operating cycle is long, more working capital is required, while the requirement for working capital is lower for companies with a short operating cycle.

2. Business nature: The sort of company in which the company is engaged is the next consideration when deciding on the working capital. The requirement of working capital is lower in the case of a trading concern or retail shop because the duration of the operating process is low. Compared to the retail store, wholesalers involve more working capital as they have to keep big stocks and usually sell loan products, which raises the duration of the operating cycle. The manufacturing business needs a great deal of working capital because they have to transform raw material into finished goods, sell on credit, keep the raw material inventory as well as finished goods.

3. Business cycle fluctuation: The industry is thriving during the boom era, requiring more demand, more manufacturing, more inventory, and more debtors, meaning more working capital. While low demand requires fewer inventories to be retained during the depression era, fewer debtors will be needed, so less working capital will be needed.

4. Seasonal Factors: For businesses that sell products throughout the season, the requirement for working capital is continuous, whereas businesses that sell seasonal products require enormous amounts during the season as more demand is required, more inventory must be retained and quick supply is required, while demand during off season or slack season is very small, so less working capital is required.

1. Working Capital Ratio: A ratio of current assets to current liabilities means an organization's present capacity to pay off its short-term economic commitments.