Introduction

Working capital management

Working capital management is concerned with the problems arise in attempting to manage the current assets, the current liabilities and the inter relationship that exist between them. The term current assets refers to those assets which in ordinary course of business can be, or, will be, turned in to cash within one year without undergoing a diminution in value and without disrupting the operation of the firm. The major current assets are cash, marketable securities, account receivable and inventory. Current liabilities ware those liabilities which intended at there inception to be paid in ordinary course of business, within a year, out of the current assets or earnings of the concern. The basic current liabilities are account payable, bill payable, bank overdraft, and outstanding expenses. The goal of working capital management is to manage the firm s current assets and current liabilities in such way that the satisfactory level of working capital is mentioned. The current should be large enough to cover its current liabilities in order to ensure a reasonable margin of the safety.

Definition:According to Guttmann & Dougall- Excess of current assets over current liabilities . According to Park & Gladson- The excess of current assets of a business (i.e. cash, accounts receivables, inventories) over current items owned to employees and others (such as salaries & wages payable, accounts payable, taxes owned to government) .

Need of working capital management

The need for working capital gross or current assets cannot be over emphasized. As already observed, the objective of financial decision making is to maximize the shareholders wealth. To achieve this, it is necessary to generate sufficient profits can be earned will naturally depend upon the magnitude of the sales among other things but sales can not convert into cash. There is a need for working capital in the form of current assets to deal with the problem arising out of lack of immediate realization of cash against goods sold. Therefore sufficient working capital is necessary to sustain sales activity. Technically this is refers to operating or cash cycle. If the
company has certain amount of cash, it will be required for purchasing the raw material may be available on credit basis. Then the company has to spend some amount for labour and factory overhead to convert the raw material in work in progress, and ultimately finished goods. These finished goods convert in to sales on credit basis in the form of sundry debtors. Sundry debtors are converting into cash after expiry of credit period. Thus some amount of cash is blocked in raw materials, WIP, finished goods, and sundry debtors and day to day cash requirements. However some part of current assets may be financed by the current liabilities also. The amount required to be invested in this current assets is always higher than the funds available from current liabilities. This is the precise reason why the needs for working capital arise

Gross working capital and Net working Capital

There are two concepts of working capital management

1. Gross working capital

Gross working capital refers to the firm s investment I current assets. Current assets are the assets which can be convert in to cash within year includes cash, short term securities, debtors, bills receivable and inventory
.

2. Net working capital

Net working capital 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, bills payable and outstanding expenses. Net working capital can be positive or negative Efficient working capital management requires that firms should operate with some amount of net working capital, the exact amount varying from firm to firm and depending, among other things; on the nature of industries.net working capital is necessary because the cash outflows and inflows do not coincide. The cash outflows resulting from payment of current liabilities are relatively predictable. The cash inflow are however difficult to predict. The more predictable the cash inflows are, the less net working capital will be required. The concept of working capital was, first evolved by Karl Marx. Marx used the term variable capital means outlays for payrolls advanced to workers before the completion of work. He compared this with constant capital which according to him is nothing but dead labour . This variable capital is nothing wage fund which remains blocked in terms of financial management, in work- in-process along with other operating expenses until it is released through sale of finished goods. Although Marx did not mentioned that workers also gave credit to the firm by accepting periodical payment of wages which funded a portioned of W.I.P, the concept of working capital, as we understand today was embedded in his variable capital .

Type of working capital

The operating cycle creates the need for current assets (working capital). However the need does not come to an end after the cycle is completed to explain this continuing need of current assets a destination should be drawn between permanent and temporary working capital.

1) Permanent working capital

The need for current assets arises, as already observed, because of the cash cycle. To carry on business certain minimum level of working capital is necessary on continues and uninterrupted basis. For all practical purpose, this requirement will have to be met permanent as with other fixed assets. This requirement refers to as permanent or fixed working capital
2) Temporary working capital

Any amount over and above the permanent level of working capital is temporary, fluctuating or variable, working capital. This portion of the required working capital is needed to meet fluctuation in demand consequent upon changes in production and sales as result of seasonal changes

Determinants of working capital

The amount of working capital is depends upon a following factors There is no specific method to determine working capital requirement for a business. There are a number of factors affecting the working capital requirement. These factors have different importance in different businesses and at different times. So a thorough analysis of all these factors should be made before trying to estimate the amount of working capital needed. Some of the different factors are mentioned here below :Nature of business : Nature of business is an important factor in determining the working capital requirements. There are some businesses which require a very nominal amount to be invested in fixed assets but a large chunk of the total investment is in the form of working capital. There businesses, for example, are of the trading and financing type. There are businesses which require large investment in fixed assets and normal investment in the form of working capital. Size of business : It is another important factor in determining the working capital requirements of a business. Size is usually measured in terms of scale of operating cycle. The amount of working capital needed is directly proportional to the scale of operating cycle i.e. the larger the scale of operating cycle the large will be the amount working capital and vice versa. Manufacturing Cycle: As is evident from the very word, manufacturing cycle means the starting of the cycle with the purchase of raw material and ends when finished products are churned out. An extended manufacturing time span means larger tie up of funds hence more working capital. So the shortest manufacturing cycle should be chosen. Business Fluctuations: Most business experience cyclical and seasonal fluctuations in demand for their goods and services. These fluctuations affect the business with respect to working capital because during the time of boom, due to an increase in business activity the amount of working capital requirement increases and the reverse is true in the case of recession. Financial arrangement for seasonal working capital requirements are to be made in advance. Production Policy: As stated above, every business has to cope with different types of fluctuations. Hence it is but obvious that production policy has to be planned well in advance with respect to fluctuation. No two companies can have similar production policy in all respects because it depends upon the circumstances of an individual company.

Firms Credit Policy: The credit policy of a firm affects working capital by influencing the level of book debts. The credit term are fairly constant in an industry but individuals also have their role in framing their credit policy. A liberal credit policy will lead to more amount being committed to working capital requirements whereas a stern credit policy may decrease the amount of working capital requirement appreciably but the repercussions of the two are not simple. Hence a firm should always frame a rational credit policy based on the credit worthiness of the customer. Availability of Credit: The terms on which a company is able to avail credit from its suppliers of goods and devices credit/also affects the working capital requirement. If a company in a position to get credit on liberal terms and in a short span of time then it will be in a position to work with less amount of working capital. Hence the amount of working capital needed will depend upon the terms a firm is granted credit by its creditors. Growth and Expansion activities : The working capital needs of a firm increases as it grows in term of sale or fixed assets. There is no precise way to determine the relation between the amount of sales and working capital requirement but one thing is sure that an increase in sales never precedes, the increase in working capital but it is always the other way round. So in case of growth or expansion the aspect of working capital needs to be planned in advance. Price Level Changes: Generally increase in price level makes the commodities dearer. Hence with increase in price level the working capital requirements also increases. The companies which are in a position to alter the price of these commodities in accordance with the price level changes will face less problems as compared to others. The changes in price level may not affect all the firms in same way. The reactions of all firms with regards to price level changes will be different from one other.

SOURCES OF WORKING CAPITAL

The company can choose to finance its current assets by 1) Long term sources 2) Short term sources 3) A combination of them. Long term sources of permanent working capital include equity and Preference shares, retained earning, debentures and other long term debts from public deposits and financial institution. The long term working capital needs should meet through long term means of financing. Financing

through long term Means provides stability, reduces risk or payment. And increases liquidity of the business concern.

Various types of long term sources of working capital are summarized as follow; Issue of shares * Retained earnings Issue of debentures * Long term debt Other sources: sale of idle fixed assets, securities received from employees and Customers are examples of other sources of finance. SHORT TERM SOURCES OF TEMPORARY WORKING CAPITAL
Temporary working capital is required to meet the day to day business expenditures. The variable working capital would finance from short term sources of funds. And only the period needed. It has the benefits of, low cost and establishes closer relationships with banker.

SOURCES OF TEMPORARY WORKING CAPITAL

Commercial bank Public deposits Various credits Reserves and other funds

ADVANTAGES OF ADEQUATE WORKING CAPITAL

Increase in debt capacity and goodwill Increase in production inefficiency Exploitation of favorable opportunities Meeting contingencies adverse changes Available cash discount Solvency and efficiency fixed assets. Attractive dividend to shareholders

CIRCULATION SYSTEM OF WORKING CAPITAL

In the beginning the funds are obtained from the issue of shares, often supplemented by long term borrowings. Much of these collected funds are used in purchasing fixed assets and remaining funds are used for day to day operation as pay for raw material, wages overhead expenses. After this finished goods are ready for sale and by selling the finished goods either

account receivable are created and cash is received. In this process profit is earned. This account of profit is used for paying taxes, dividend and the balance is ploughed in the business. Working capital is considered to efficiently circulated when it turns over quickly. As circulation increases, the investment in current assets will decrease. Current assets turnover ratio speaks about the efficiency of YAMAHA in the utilization of current assets. Fast turnover current assets results in a better rate on investment. Table showing Current assets turnover ratio Year 2006 2007 2008 Average: 2.24 Ratio (in times) 1.78 2.98 1.98

The ratio average is 2.24 times in the study period of 3 years. In 2002 current assets turnover ratio is highest one i.e. 2.98 during the 3 year study. Reasons being during this year company has achieved sales growth 44.36% over the previous year and additional activity needs more funds.