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Working capital From Wikipedia, the free encyclopedia Working capital (abbreviated WC) (Karyasheel Poonji) is a financial metric

which represents operating liquidity available to a business, organization or other entity, including governmental entity. Along with fixed assets such as plant and equipment, working capital is considered a part of operating capital. Gross working capital equals to current assets. Net working capital (NWC) is calculated as current assets minus current liabilities.[1] It is a derivation of working capital, that is commonly used in valuation techniques such as DCFs (Discounted cash flows). If current assets are less than current liabilities, an entity has a working capital deficiency, also called a working capital deficit. A company can be endowed with assets and profitability but short of liquidity if its assets cannot readily be converted into cash. Positive working capital is required to ensure that a firm is able to continue its operations and that it has sufficient funds to satisfy both maturing short-term debt and upcoming operational expenses. The management of working capital involves managing inventories, accounts receivable and payable, and cash. Contents [hide]

1 Calculation o 1.1 Basic formulae o 1.2 Inputs 2 Working capital management o 2.1 Decision criteria o 2.2 Management of working capital 3 See also 4 References Calculation[edit] Basic formulae[edit]

working capital = Gross Current assets Net working capital = Current assets Current liabilities.

Inputs[edit] Current assets and current liabilities include three accounts which are of special importance. These accounts represent the areas of the business where managers have the most direct impact:

accounts receivable (current asset) inventory (current assets), and accounts payable (current liability)

The current portion of debt (payable within 12 months) is critical, because it represents a short-term claim to current assets and is often secured by long term assets. Common types of short-term debt are bank loans and lines of credit. An increase in net working capital indicates that the business has either increased current assets (that it has increased its receivables, or other current assets) or has decreased current liabilitiesfor example has paid off some shortterm creditors, or a combination of both. Working capital management[edit] Corporate finance

Working capital

Cash conversion cycle Return on capital Economic Value Added Just-in-time Economic order quantity Discounts and allowances Factoring

Sections Managerial finance Financial accounting Management accounting Mergers and acquisitions Balance sheet analysis Business plan Corporate action Societal components

Financial market Financial market participants Corporate finance Personal finance Public finance Banks and banking Financial regulation Clawback


Decisions relating to working capital and short term financing are referred to as working capital management. These involve managing the relationship between a firm's short-term assets and its short-term liabilities. The goal of working capital management is to ensure that the firm is able to continue its operations and that it has sufficient cash flow to satisfy both maturing short-term debt and upcoming operational expenses. A managerial accounting strategy focusing on maintaining efficient levels of both components of working capital, current assets and current liabilities, in respect to each other. Working capital management ensures a company has sufficient cash flow in order to meet its short-term debt obligations and operating expenses. Decision criteria[edit] By definition, working capital management entails short-term decisions generally, relating to the next one-year periodwhich 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, or profitability, or both.

One measure of cash flow is provided by the cash conversion cyclethe 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 interrelatedness 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[edit] Guided by the above criteria, management will use a combination of policies and techniques for the management of working capital. The 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 costsand hence increases cash flow. Besides this, the lead times in production should be lowered to reduce Work in Process (WIP) and similarly, the Finished Goodsshould be kept on as low level as possible to avoid over productionsee 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"

Capital required for a business can be classified under two main categories via, 1) 2) Fixed Capital Working Capital

Every business needs funds for two purposes for its establishment and to carry out its day- to-day operations. Long terms funds are required to create production facilities through purchase of fixed assets such as p&m, land, building, furniture, etc. Investments in these assets represent that part of firms capital which is blocked on permanent or fixed basis and is called fixed capital. Funds are also needed for short-term purposes for the purchase of raw material, payment of wages and other day to- day expenses etc.

These funds are known as working capital. In simple words, working capital refers to that part of the firms capital which is required for financing short- term or current assets such as cash, marketable securities, debtors & inventories. Funds, thus, invested in current assts keep revolving fast and are being constantly converted in to cash and this cash flows out again in exchange for other current assets. Hence, it is also known as revolving or circulating capital or short term capital. CONCEPT OF WORKING CAPITAL There are two concepts of working capital: 1. 2. Gross working capital Net working capital

The gross working capital is the capital invested in the total current assets of the enterprises current assets are those Assets which can convert in to cash within a short period normally one accounting year. CONSTITUENTS OF CURRENT ASSETS 1) 2) 3) 4) Cash in hand and cash at bank Bills receivables Sundry debtors Short term loans and advances.


Inventories of stock as: a. b. c. d. Raw material Work in process Stores and spares Finished goods

6. Temporary investment of surplus funds. 7. Prepaid expenses 8. Accrued incomes. 9. Marketable securities.

In a narrow sense, the term working capital refers to the net working. Net working capital is the excess of current assets over current liability, or, say: NET WORKING CAPITAL = CURRENT ASSETS CURRENT LIABILITIES. Net working capital can be positive or negative. When the current assets exceeds the current liabilities are more than the current assets. Current liabilities are those liabilities, which are intended to be paid in the ordinary course of business within a short period of normally one accounting year out of the current assts or the income business. CONSTITUENTS OF CURRENT LIABILITIES

1. 2. 3. 4. 5. 6. 7.

Accrued or outstanding expenses. Short term loans, advances and deposits. Dividends payable. Bank overdraft. Provision for taxation , if it does not amt. to app. Of profit. Bills payable. Sundry creditors.

The gross working capital concept is financial or going concern concept whereas net working capital is an accounting concept of working capital. Both the concepts have their own merits. The gross concept is sometimes preferred to the concept of working capital for the following reasons: 1. It enables the enterprise to provide correct amount of working capital at correct time. 2. Every management is more interested in total current assets with which it has to operate then the source from where it is made available. 3. It take into consideration of the fact every increase in the funds of the enterprise would increase its working capital. 4. This concept is also useful in determining the rate of return on investments in working capital. The net working capital concept, however, is also important for following reasons:

It is qualitative concept, which indicates the firms ability to meet to its operating expenses and short-term liabilities. IT indicates the margin of protection available to the short term creditors. It is an indicator of the financial soundness of enterprises. It suggests the need of financing a part of working capital requirement out of the permanent sources of funds.

CLASSIFICATION OF WORKING CAPITAL Working capital may be classified in to ways: o o On the basis of concept. On the basis of time.

On the basis of concept working capital can be classified as gross working capital and net working capital. On the basis of time, working capital may be classified as: Permanent or fixed working capital. Temporary or variable working capital PERMANENT OR FIXED WORKING CAPITAL Permanent or fixed working capital is minimum amount which is required to ensure effective utilization of fixed facilities and for maintaining the circulation of current assets. Every firm has to maintain a minimum level of raw material, workin-process, finished goods and cash balance. This minimum level of current assts is called permanent or fixed working capital as this part of working is permanently blocked in current assets. As the business grow the requirements of working capital also increases due to increase in current assets. TEMPORARY OR VARIABLE WORKING CAPITAL Temporary or variable working capital is the amount of working capital which is required to meet the seasonal demands and some special exigencies. Variable working capital can further be classified as seasonal working capital and special

working capital. The capital required to meet the seasonal need of the enterprise is called seasonal working capital. Special working capital is that part of working capital which is required to meet special exigencies such as launching of extensive marketing for conducting research, etc. Temporary working capital differs from permanent working capital in the sense that is required for short periods and cannot be permanently employed gainfully in the business. IMPORTANCE OR ADVANTAGE OF ADEQUATE WORKING CAPITAL SOLVENCY OF THE BUSINESS: Adequate working capital helps in maintaining the solvency of the business by providing uninterrupted of production. Goodwill: Sufficient amount of working capital enables a firm to make prompt payments and makes and maintain the goodwill. Easy loans: Adequate working capital leads to high solvency and credit standing can arrange loans from banks and other on easy and favorable terms. Cash Discounts: Adequate working capital also enables a concern to avail cash discounts on the purchases and hence reduces cost. Regular Supply of Raw Material: Sufficient working capital ensures regular supply of raw material and continuous production. Regular Payment Of Salaries, Wages And Other Day TO Day Commitments: It leads to the satisfaction of the employees and raises the

morale of its employees, increases their efficiency, reduces wastage and costs and enhances production and profits. Exploitation Of Favorable Market Conditions: If a firm is having adequate working capital then it can exploit the favorable market conditions such as purchasing its requirements in bulk when the prices are lower and holdings its inventories for higher prices. Ability To Face Crises: A concern can face the situation during the depression. Quick And Regular Return On Investments: Sufficient working capital enables a concern to pay quick and regular of dividends to its investors and gains confidence of the investors and can raise more funds in future. High Morale: Adequate working capital brings an environment of securities, confidence, high morale which results in overall efficiency in a business. EXCESS OR INADEQUATE WORKING CAPITAL Every business concern should have adequate amount of working capital to run its business operations. It should have neither redundant or excess working capital nor inadequate nor shortages of working capital. Both excess as well as short working capital positions are bad for any business. However, it is the inadequate working capital which is more dangerous from the point of view of the firm. DISADVANTAGES OF REDUNDANT OR EXCESSIVE WORKING CAPITAL


Excessive working capital means ideal funds which earn no profit for the firm and business cannot earn the required rate of return on its investments.


Redundant working capital leads to unnecessary purchasing and accumulation of inventories.


Excessive working capital implies excessive debtors and defective credit policy which causes higher incidence of bad debts.

4. 5.

It may reduce the overall efficiency of the business. If a firm is having excessive working capital then the relations with banks and other financial institution may not be maintained.


Due to lower rate of return n investments, the values of shares may also fall.


The redundant working capital gives rise to speculative transactions

DISADVANTAGES OF INADEQUATE WORKING CAPITAL Every business needs some amounts of working capital. The need for working capital arises due to the time gap between production and realization of cash from sales. There is an operating cycle involved in sales and realization of cash. There are time gaps in purchase of raw material and production; production and sales; and realization of cash. Thus working capital is needed for the following purposes: For the purpose of raw material, components and spares. To pay wages and salaries

To incur day-to-day expenses and overload costs such as office expenses. To meet the selling costs as packing, advertising, etc. To provide credit facilities to the customer. To maintain the inventories of the raw material, work-in-progress, stores and spares and finished stock. For studying the need of working capital in a business, one has to study the business under varying circumstances such as a new concern requires a lot of funds to meet its initial requirements such as promotion and formation etc. These expenses are called preliminary expenses and are capitalized. The amount needed for working capital depends upon the size of the company and ambitions of its promoters. Greater the size of the business unit, generally larger will be the requirements of the working capital. The requirement of the working capital goes on increasing with the growth and expensing of the business till it gains maturity. At maturity the amount of working capital required is called normal working capital. There are others factors also influence the need of working capital in a business. FACTORS DETERMINING THE WORKING CAPITAL REQUIREMENTS 1. NATURE OF BUSINESS: The requirements of working is very limited in public utility undertakings such as electricity, water supply and railways because they offer cash sale only and supply services not products, and no funds are tied up in inventories and receivables. On the other hand the trading and financial firms requires less investment in

fixed assets but have to invest large amt. of working capital along with fixed investments. 2. SIZE OF THE BUSINESS: Greater the size of the business, greater is the requirement of working capital. 3. PRODUCTION POLICY: If the policy is to keep production steady by accumulating inventories it will require higher working capital. 4. LENTH OF PRDUCTION CYCLE: The longer the manufacturing time the raw material and other supplies have to be carried for a longer in the process with progressive increment of labor and service costs before the final product is obtained. So working capital is directly proportional to the length of the manufacturing process. 5. SEASONALS VARIATIONS: Generally, during the busy season, a firm requires larger working capital than in slack season. 6. WORKING CAPITAL CYCLE: The speed with which the working cycle completes one cycle determines the requirements of working capital. Longer the cycle larger is the requirement of working capital.





RATE OF STOCK TURNOVER: There is an inverse co-relationship between the question of working capital and the velocity or speed with which the sales are affected. A firm having a high rate of stock turnover wuill needs lower amt. of working capital as compared to a firm having a low rate of turnover.


CREDIT POLICY: A concern that purchases its requirements on credit and sales its product / services on cash requires lesser amt. of working capital and vice-versa.


BUSINESS CYCLE: In period of boom, when the business is prosperous, there is need for larger amt. of working capital due to rise in sales, rise in prices, optimistic expansion of business, etc. On the contrary in time of depression, the business contracts, sales decline, difficulties are faced in collection from debtor and the firm may have a large amt. of working capital.

10. RATE OF GROWTH OF BUSINESS: In faster growing concern, we shall require large amt. of working capital. 11. EARNING CAPACITY AND DIVIDEND POLICY: Some firms have more earning capacity than other due to quality of their products, monopoly conditions, etc. Such firms may generate cash profits from operations and contribute to their working capital. The dividend policy also affects the requirement of working capital. A firm maintaining a steady high rate of cash dividend irrespective of its profits needs working capital than the firm that retains larger part of its profits and does not pay so high rate of cash dividend.

12. PRICE LEVEL CHANGES: Changes in the price level also affect the working capital requirements. Generally rise in prices leads to increase in working capital. Others FACTORS: These are: Operating efficiency. Management ability. Irregularities of supply. Import policy. Asset structure. Importance of labor. Banking facilities, etc.

MANAGEMENT OF WORKING CAPITAL Management of working capital is concerned with the problem that arises in attempting to manage the current assets, current liabilities. The basic goal of working capital management is to manage the current assets and current liabilities of a firm in such a way that a satisfactory level of working capital is maintained, i.e. it is neither adequate nor excessive as both the situations are bad for any firm. There should be no shortage of funds and also no working capital should be ideal. WORKING CAPITAL MANAGEMENT POLICES of a firm has a great on its probability, liquidity and structural

health of the organization. So working capital management is three dimensional in nature as 1. It concerned with the formulation of policies with regard to profitability, liquidity and risk. 2. It is concerned with the decision about the composition and level of current assets. 3. It is concerned with the decision about the composition and level of current liabilities.

WORKING CAPITAL ANALYSIS As we know working capital is the life blood and the centre of a business. Adequate amount of working capital is very much essential for the smooth running of the business. And the most important part is the efficient management of working capital in right time. The liquidity position of the firm is totally effected by the management of working capital. So, a study of changes in the uses and sources of working capital is necessary to evaluate the efficiency with which the working capital is employed in a business. This involves the need of working capital analysis. The analysis of working capital can be conducted through a number of devices, such as: 1. 2. Ratio analysis. Fund flow analysis.



1. RATIO ANALYSIS A ratio is a simple arithmetical expression one number to another. The technique of ratio analysis can be employed for measuring short-term liquidity or working capital position of a firm. The following ratios can be calculated for these purposes: 1. Current ratio. 2. Quick ratio 3. Absolute liquid ratio 4. Inventory turnover. 5. Receivables turnover. 6. Payable turnover ratio. 7. Working capital turnover ratio. 8. Working capital leverage 9. Ratio of current liabilities to tangible net worth.

2. FUND FLOW ANALYSIS Fund flow analysis is a technical device designated to the study the source from which additional funds were derived and the use to which these sources were put. The fund flow analysis consists of:

a. b.

Preparing schedule of changes of working capital Statement of sources and application of funds.

It is an effective management tool to study the changes in financial position (working capital) business enterprise between beginning and ending of the financial dates.

3. WORKING CAPITAL BUDGET A budget is a financial and / or quantitative expression of business plans and polices to be pursued in the future period time. Working capital budget as a part of the total budge ting process of a business is prepared estimating future long term and short term working capital needs and sources to finance them, and then comparing the budgeted figures with actual performance for calculating the variances, if any, so that corrective actions may be taken in future. He objective working capital budget is to ensure availability of funds as and needed, and to ensure effective utilization of these resources. The successful implementation of working capital budget involves the preparing of separate budget for each element of working capital, such as, cash, inventories and receivables etc.


The short term creditors of a company such as suppliers of goods of credit and commercial banks short-term loans are primarily interested to know the ability of a firm to meet its obligations in time. The short term obligations of a firm can be met in time only when it is having sufficient liquid assets. So to with the confidence of investors, creditors, the smooth functioning of the firm and the efficient use of fixed assets the liquid position of the firm must be strong. But a very high degree of liquidity of the firm being tied up in current assets. Therefore, it is important proper balance in regard to the liquidity of the firm. Two types of ratios can be calculated for measuring short-term financial position or short-term solvency position of the firm. 1. 2. Liquidity ratios. Current assets movements ratios.

A) LIQUIDITY RATIOS Liquidity refers to the ability of a firm to meet its current obligations as and when these become due. The short-term obligations are met by realizing amounts from current, floating or circulating assts. The current assets should either be liquid or near about liquidity. These should be convertible in cash for paying obligations of short-term nature. The sufficiency or insufficiency of current assets should be assessed by comparing them with short-term liabilities. If current assets can pay off the current liabilities then the liquidity position is satisfactory. On the other hand, if the current liabilities cannot be met out of the current assets then

the liquidity position is bad. To measure the liquidity of a firm, the following ratios can be calculated: 1. 2. 3. CURRENT RATIO QUICK RATIO ABSOLUTE LIQUID RATIO

1. CURRENT RATIO Current Ratio, also known as working capital ratio is a measure of general liquidity and its most widely used to make the analysis of short-term financial position or liquidity of a firm. It is defined as the relation between current assets and current liabilities. Thus, CURRENT RATIO = CURRENT ASSETS CURRENT LIABILITES The two components of this ratio are: 1) 2) CURRENT ASSETS CURRENT LIABILITES

Current assets include cash, marketable securities, bill receivables, sundry debtors, inventories and work-in-progresses. Current liabilities include outstanding expenses, bill payable, dividend payable etc.

A relatively high current ratio is an indication that the firm is liquid and has the ability to pay its current obligations in time. On the hand a low current ratio represents that the liquidity position of the firm is not good and the firm shall not be able to pay its current liabilities in time. A ratio equal or near to the rule of thumb of 2:1 i.e. current assets double the current liabilities is considered to be satisfactory. CALCULATION OF CURRENT RATIO (Rupees in crore) e.g. Year Current Assets Current Liabilities Current Ratio 2.96:1 4.03:1 4.08:1 2006 81.29 27.42 2007 83.12 20.58 2008 13,6.57 33.48

Interpretation:As we know that ideal current ratio for any firm is 2:1. If we see the current ratio of the company for last three years it has increased from 2006 to 2008. The current ratio of company is more than the ideal ratio. This depicts that companys liquidity position is sound. Its current assets are more than its current liabilities. 2. QUICK RATIO Quick ratio is a more rigorous test of liquidity than current ratio. Quick ratio may be defined as the relationship between quick/liquid assets and

current or liquid liabilities. An asset is said to be liquid if it can be converted into cash with a short period without loss of value. It measures the firms capacity to pay off current obligations immediately. QUICK RATIO = QUICK ASSETS CURRENT LIABILITES Where Quick Assets are: 1) 2) 3) Marketable Securities Cash in hand and Cash at bank. Debtors.

A high ratio is an indication that the firm is liquid and has the ability to meet its current liabilities in time and on the other hand a low quick ratio represents that the firms liquidity position is not good. As a rule of thumb ratio of 1:1 is considered satisfactory. It is generally thought that if quick assets are equal to the current liabilities then the concern may be able to meet its short-term obligations. However, a firm having high quick ratio may not have a satisfactory liquidity position if it has slow paying debtors. On the other hand, a firm having a low liquidity position if it has fast moving inventories. CALCULATION OF QUICK RATIO e.g. Year 2006 2007 (Rupees in Crore) 2008

Quick Assets Current Liabilities Quick Ratio Interpretation :

44.14 27.42 1.6 : 1

47.43 20.58 2.3 : 1

61.55 33.48 1.8 : 1

A quick ratio is an indication that the firm is liquid and has the ability to meet its current liabilities in time. The ideal quick ratio is no liquidity problem. 3. ABSOLUTE LIQUID RATIO Although receivables, debtors and bills receivable are generally more liquid than inventories, yet there may be doubts regarding their realization into cash immediately or in time. So absolute liquid ratio should be calculated together with current ratio and acid test ratio so as to exclude even receivables from the current assets and find out the absolute liquid assets. Absolute Liquid Assets includes : ABSOLUTE LIQUID RATIO = ABSOLUTE LIQUID ASSETS CURRENT LIABILITES 1:1. Companys quick ratio is more than ideal ratio. This shows company has

ABSOLUTE LIQUID ASSETS = CASH & BANK BALANCES. e.g. Year Absolute Liquid Assets Current Liabilities Absolute Liquid Ratio Interpretation : These ratio shows that company carries a small amount of cash. But there is nothing to be worried about the lack of cash because company has reserve, borrowing power & long term investment. In India, firms have credit limits sanctioned from banks and can easily draw cash. B) CURRENT ASSETS MOVEMENT RATIOS Funds are invested in various assets in business to make sales and earn profits. The efficiency with which assets are managed directly affects the volume of sales. The better the management of assets, large is the amount of sales and profits. Current assets movement ratios measure the efficiency with which a firm manages its resources. These ratios are called turnover ratios because they indicate the speed with which assets are converted or turned over into sales. Depending upon the purpose, a number of turnover ratios can be calculated. These are : 1. 2. Inventory Turnover Ratio Debtors Turnover Ratio 2006 4.69 27.42 .17 : 1 (Rupees in Crore) 2007 1.79 20.58 .09 : 1 2008 5.06 33.48 .15 : 1

3. 4.

Creditors Turnover Ratio Working Capital Turnover Ratio

The current ratio and quick ratio give misleading results if current assets include high amount of debtors due to slow credit collections and moreover if the assets include high amount of slow moving inventories. As both the ratios ignore the movement of current assets, it is important to calculate the turnover ratio. 1. INVENTORY TURNOVER OR STOCK TURNOVER RATIO : Every firm has to maintain a certain amount of inventory of finished goods so as to meet the requirements of the business. But the level of inventory should neither be too high nor too low. Because it is harmful to hold more inventory as some amount of capital is blocked in it and some cost is involved in it. It will therefore be advisable to dispose the inventory as soon as possible. INVENTORY TURNOVER RATIO = COST OF GOOD SOLD

AVERAGE INVENTORY Inventory turnover ratio measures the speed with which the stock is converted into sales. Usually a high inventory ratio indicates an efficient management of inventory because more frequently the stocks are sold ; the lesser amount of money is required to finance the inventory. Where as low inventory turnover ratio indicates the inefficient management of inventory. A low inventory turnover implies over investment in inventories, dull business, poor quality of

goods, stock accumulations and slow moving goods and low profits as compared to total investment. AVERAGE STOCK = OPENING STOCK + CLOSING STOCK 2 (Rupees in Crore) Year Cost of Goods sold Average Stock Inventory Turnover Ratio Interpretation : These ratio shows how rapidly the inventory is turning into receivable through sales. In 2007 the company has high inventory turnover ratio but in 2008 it has reduced to 1.75 times. This shows that the companys inventory management technique is less efficient as compare to last year. 2. INVENTORY CONVERSION PERIOD: 2006 110.6 73.59 1.5 times 2007 103.2 36.42 2.8 times 2008 96.8 55.35 1.75 times

INVENTORY CONVERSION PERIOD = 365 (net working days) INVENTORY TURNOVER RATIO e.g. Year Days Inventory Turnover Ratio 2006 365 1.5 2007 365 2.8 2008 365 1.8

Inventory Conversion Period Interpretation :

243 days

130 days

202 days

Inventory conversion period shows that how many days inventories takes to convert from raw material to finished goods. In the company inventory conversion period is decreasing. This shows the efficiency of management to convert the inventory into cash. 3. DEBTORS TURNOVER RATIO : A concern may sell its goods on cash as well as on credit to increase its sales and a liberal credit policy may result in tying up substantial funds of a firm in the form of trade debtors. Trade debtors are expected to be converted into cash within a short period and are included in current assets. So liquidity position of a concern also depends upon the quality of trade debtors. Two types of ratio can be calculated to evaluate the quality of debtors. a) b) Debtors Turnover Ratio Average Collection Period

DEBTORS TURNOVER RATIO = TOTAL SALES (CREDIT) AVERAGE DEBTORS Debtors velocity indicates the number of times the debtors are turned over during a year. Generally higher the value of debtors turnover ratio the more efficient is the management of debtors/sales or more liquid are the debtors. Whereas a low debtors turnover ratio indicates poor management of debtors/sales and less liquid debtors. This ratio should be

compared with ratios of other firms doing the same business and a trend may be found to make a better interpretation of the ratio. AVERAGE DEBTORS= OPENING DEBTOR+CLOSING DEBTOR 2

e.g. Year Sales Average Debtors Debtor Turnover Ratio Interpretation : This ratio indicates the speed with which debtors are being converted or turnover into sales. The higher the values or turnover into sales. The higher the values of debtors turnover, the more efficient is the management of credit. But in the company the debtor turnover ratio is decreasing year to year. This shows that company is not utilizing its debtors efficiency. Now their credit policy become liberal as compare to previous year. 4. AVERAGE COLLECTION PERIOD : Average Collection Period = No. of Working Days 2006 166.0 17.33 9.6 times 2007 151.5 18.19 8.3 times 2008 169.5 22.50 7.5 times

Debtors Turnover Ratio

The average collection period ratio represents the average number of days for which a firm has to wait before its receivables are converted into cash. It measures the quality of debtors. Generally, shorter the average collection period the better is the quality of debtors as a short collection period implies quick payment by debtors and vice-versa. Average Collection Period = 365 (Net Working Days)

Debtors Turnover Ratio Year Days Debtor Turnover Ratio Average Collection Period Interpretation : The average collection period measures the quality of debtors and it helps in analyzing the efficiency of collection efforts. It also helps to analysis the credit policy adopted by company. In the firm average collection period increasing year to year. It shows that the firm has Liberal Credit policy. These changes in policy are due to competitors credit policy. 5. WORKING CAPITAL TURNOVER RATIO : Working capital turnover ratio indicates the velocity of utilization of net working capital. This ratio indicates the number of times the working capital is turned over in the course of the year. This ratio measures the efficiency with which the working capital is used by the firm. A higher ratio indicates efficient utilization of working 2006 365 9.6 38 days 2007 365 8.3 44 days 2008 365 7.5 49 days

capital and a low ratio indicates otherwise. But a very high working capital turnover is not a good situation for any firm. Working Capital Turnover Ratio = Cost of Sales Net Working Capital

Working Capital Turnover

Sales Networking Capital

e.g. Year Sales Networking Capital Working Capital Turnover Interpretation : This ratio indicates low much net working capital requires for sales. In 2008, the reciprocal of this ratio (1/1.64 = .609) shows that for sales of Rs. 1 the company requires 60 paisa as working capital. Thus this ratio is helpful to forecast the working capital requirement on the basis of sale. INVENTORIES (Rs. in Crores) 2006 166.0 53.87 3.08 2007 151.5 62.52 2.4 2008 169.5 103.09 1.64

Year Inventories Interpretation :

2005-2006 37.15

2006-2007 35.69

2007-2008 75.01

Inventories is a major part of current assets. If any company wants to manage its working capital efficiency, it has to manage its inventories efficiently. The graph shows that inventory in 2005-2006 is 45%, in 20062007 is 43% and in 2007-2008 is 54% of their current assets. The company should try to reduce the inventory upto 10% or 20% of current assets. CASH BNAK BALANCE : (Rs. in Crores) Year Cash Bank Balance Interpretation : Cash is basic input or component of working capital. Cash is needed to keep the business running on a continuous basis. So the organization should have sufficient cash to meet various requirements. The above graph is indicate that in 2006 the cash is 4.69 crores but in 2007 it has decrease to 1.79. The result of that it disturb the firms manufacturing operations. In 2008, it is increased upto approx. 5.1% cash balance. So in 2008, the company has no problem for meeting its requirement as compare to 2007. DEBTORS : (Rs. in Crores) 2005-2006 4.69 2006-2007 1.79 2007-2008 5.05

Year Debtors Interpretation :

2005-2006 17.33

2006-2007 19.05

2007-2008 25.94

Debtors constitute a substantial portion of total current assets. In India it constitute one third of current assets. The above graph is depict that there is increase in debtors. It represents an extension of credit to customers. The reason for increasing credit is competition and company liberal credit policy.

CURRENT ASSETS : (Rs. in Crores) Year Current Assets Interpretation : This graph shows that there is 64% increase in current assets in 2008. This increase is arise because there is approx. 50% increase in inventories. Increase in current assets shows the liquidity soundness of company. 2005-2006 81.29 2006-2007 83.15 2007-2008 136.57

CURRENT LIABILITY : (Rs. in Crores) Year 2005-2006 2006-2007 2007-2008

Current Liability Interpretation :




Current liabilities shows company short term debts pay to outsiders. In 2008 the current liabilities of the company increased. But still increase in current assets are more than its current liabilities.

NET WOKRING CAPITAL : (Rs. in Crores) Year Net Working Capital Interpretation : Working capital is required to finance day to day operations of a firm. There should be an optimum level of working capital. It should not be too less or not too excess. In the company there is increase in working capital. The increase in working capital arises because the company has expanded its business. RESEARCH METHODOLOGY The methodology, I have adopted for my study is the various tools, which basically analyze critically financial position of to the organization: 2005-2006 53.87 2006-2007 62.53 2007-2008 103.09

I. II. III. IV. V. VI.


The above parameters are used for critical analysis of financial position. With the evaluation of each component, the financial position from different angles is tried to be presented in well and systematic manner. By critical analysis with the help of different tools, it becomes clear how the financial manager handles the finance matters in profitable manner in the critical challenging atmosphere, the recommendation are made which would suggest the organization in formulation of a healthy and strong position financially with proper management system. I sincerely hope, through the evaluation of various percentage, ratios and comparative analysis, the organization would be able to conquer its in efficiencies and makes the desired changes.


FINANCIAL STATEMENTS: Financial statement is a collection of data organized according to logical and consistent accounting procedure to convey an under-standing of some financial aspects of a business firm. It may show position at a moment in time, as in the case of balance sheet or may reveal a series of activities over a given period of time, as in the case of an income statement. Thus, the term financial statements generally refers to the two statements

(1) The position statement or Balance sheet. (2) The income statement or the profit and loss Account. OBJECTIVES OF FINANCIAL STATEMENTS: According to accounting Principal Board of America (APB) states The following objectives of financial statements: 1. To provide reliable financial information about economic resources and obligation of a business firm. 2. To provide other needed information about charges in such economic resources and obligation. 3. To provide reliable information about change in net resources (recourses less obligations) missing out of business activities. 4. To provide financial information that assets in estimating the learning potential of the business. LIMITATIONS OF FINANCIAL STATEMENTS: Though financial statements are relevant and useful for a concern, still they do not present a final picture a final picture of a concern. The utility of these statements is dependent upon a number of factors. The analysis and interpretation of these statements must be done carefully otherwise misleading conclusion may be drawn. Financial statements suffer from the following limitations: 1. Financial statements do not given a final picture of the concern. The data given in these statements is only approximate. The actual value can only be determined when the business is sold or liquidated. 2. Financial statements have been prepared for different accounting periods, generally one year, during the life of a concern. The costs and incomes are apportioned to different periods with a view to determine profits etc. The allocation of expenses and income depends upon the personal judgment of the accountant. The existence of contingent assets and liabilities also make the statements

imprecise. So financial statement are at the most interim reports rather than the final picture of the firm. 3. The financial statements are expressed in monetary value, so they appear to give final and accurate position. The value of fixed assets in the balance sheet neither represent the value for which fixed assets can be sold nor the amount which will be required to replace these assets. The balance sheet is prepared on the presumption of a going concern. The concern is expected to continue in future. So fixed assets are shown at cost less accumulated deprecation. Moreover, there are certain assets in the balance sheet which will realize nothing at the time of liquidation but they are shown in the balance sheets. 4. The financial statements are prepared on the basis of historical costs Or original costs. The value of assets decreases with the passage of time current price changes are not taken into account. The statement are not prepared with the keeping in view the economic conditions. the balance sheet loses the significance of being an index of current economics realities. Similarly, the profitability shown by the income statements may be represent the earning capacity of the concern. 5. There are certain factors which have a bearing on the financial position and operating result of the business but they do not become a part of these statements because they cannot be measured in monetary terms. The basic limitation of the traditional financial statements comprising the balance sheet, profit & loss A/c is that they do not give all the information regarding the financial operation of the firm. Nevertheless, they provide some extremely useful information to the extent the balance sheet mirrors the financial position on a particular data in lines of the structure of assets, liabilities etc. and the profit & loss A/c shows the result of operation during a certain period in terms revenue obtained and cost incurred during the year. Thus, the financial position and operation of the firm. Principle of working capital management policy The following are the 4 principles of working capital management policy: 1) Principle of equity position: as per this principle every investment in the current assets should contribute to the net worth of the firm. The position of current assets can be well judged by the two ratios; current assets to total asset and current asset to total sales.

2) Principle of cost of capital: different sources of working capital finance have different cost of capital. Generally there is ve relationship between the risk and cost of capital, which means more the risk less will be the cost and less the risk more will be the cost. So there should be balance between the two. 3) Principle of maturity of payment: as per this principle the firm should make an every effort regarding the maturity of payment. In case the period to pay back the liabilities is short than it becomes difficult for the firm to meet it obligations in time. 4) Principle of risk variation: there is direct relationship between risk and profitability. If the firm makes large investment in current asset increase liquidity reduce risk decrease the opportunity for gain for the firm. If the firm makes less investment in current asset decrease liquidity increase risk increase the opportunity for gain for the firm. The firm may have conservative management policy which means to minimize the risk or aggressive management policy which means to maximize the risk or moderate management policy which means the balance between the risk and profit.

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Title of the study:The study of working capital management As a part of curriculum, every student studying MBA has to undertake a project on a particular subject assigned to him/her. Accordingly I have been assigned the project work on the study of working capital management in Bahety Chemicals & Minerals pvt ltd Dandeli.Decisions relating to working capital (Current assets -Current liabilities) and short termfinancing are known as working capital management. It involves the relationship between afirms short-term assets and its short term liabilities.The goal of working capital management is to ensure that the firm is able to continue itsoperation and that it has sufficient cash flow to satisfy both maturing short term debt andupcoming operational expenses.Working capital is used in BCM private ltd., for the following purpose:-Raw material, work in progress, finished goods, inventories, sundry debtors, and day to dayc a s h r e q u i r e m e n t s . T h e B C M p r i v a t e l t d . , k e e p c e r t a i n f u n d s w h i c h i s a u t o m a t i c a l l y available to finance the current assets requirements.The various information regarding Working Capital Management such as classification,determinants, sources have been discussed relating to BCM private ltd.,Ratio Analysis has been Carried out using Financial Information for last five accountingyears i.e. from 2006 to 2010 Ratios like Working capital Turnover Ratio, Quick Ratio,Current Ratio, Inventory Turnover Ratio, Debtor Turnover Ratio, Creditors turnover rariohave also been analyzed. A Statement of Changes in Working Capital has also been analyzed.At BCM private ltd., the working capital management has shown increase in the period of study. This shows working capital is managed effectively and all the other departments areworking in perfect co-ordination to ensure the progress of BCM private ltd., but I havegiven some Suggestions & Conclusions on the basis of my Project Study. RESEARCH METHDOLOGY INTRODUCTION: Research methodology is a way to systematically solve the research problem. It May beunderstood as a science of studying now research is done systematically. In that varioussteps, those are generally adopted by a researcher in studying his problem along with thelogic behind them.The procedures by which researcher go about their work of describing, explaining and predicting phenomenon are called methodology. TYPEOFRESEARCH: This project

A Study on Working Capital Management of Bahety chemicals &minerals Private Ltd is considered as an analytical research.Analytical Research is defined as the research in which, researcher has to use facts or information already available, and analyze these to make a critical evaluation of the facts,figures, data or material. NFRASTRUCTURE FACILITIES PROVIDED BY BCM.CO.LTD: WELFARE FACILITIES: The workers in Bahety Chemicals and Minerals are given some facilities for their.Betterment and comfort. 1. WASHING RESTING FACILITIES: Facility for washing, storing, drying materials, resting first aid facilities have been provided inside the factory for the benefits of workers on duty. 2. DRINKING WATER: The company has made provision of clean, drinking water providing to theworkers during the working hours. There are drinking taps and coolers placed in everydepartment. 3.SHELTERANDLUNCHROOM: After the working hours to take rest rooms have been made by the company andto have food in lunchtime. 4. CANTEEN: Canteen is also provided to the workers. It runs on no profit and no loss basis. 5. PARKING FACILITIES: As the raw materials are brought in Lorries, there is a proper facility to park themand unload them. STRENTHS 1.Availability of manpower.2.High quality product.3.Low price high quality.4.Availability of raw materials.

WEAKNESS 1.Heavy transport charges.2.Major consumption in paper industries but limited paper industries inKarnataka.

OPPORTUNITIES 1.Technological up gradation.2.Foreign market expansion.3.Online ordering proces s.4.Product expansion.5.Market expansion.

THREATS 1.Entry of competitors.2.Product substitution


There are mainly two through which the data required for the research is collected. PRIMARY DATA: The primary data is that data which is collected fresh or first hand, and for first time whichis original in nature.In this study the Primary data has been collected from Personal Interaction with Financemanager i.e., Mr. Mahesh Nadkarni. and other staff members. SECONDARYDATA: The secondary data are those which have already collected and stored. Secondary dataeasily get those secondary data from records, annual reports of the company etc. It will savethe time, money and efforts to collect the data.The major source of data for this project was collected through annual reports, profit andloss account of 5 year period from 2006-2010 & some more information collected frominternet and text sources. SAMPLING DESIGN Sampling unit: Financial Statements.Sampling Size: Last five years financial statements Effective management of working capital is means of accomplishing the firms goal of adequate liquidity. It is concerned with the administration of current assets and currentliabilities. It has the main following objectives-1.To maximize profit of the firm.2.To help in timely payment of bills.3.To maintain sufficient current assets.4.To ensure adequate liquidity of the firms.5.It protects the solvency of

the firm.6.To discharge current liabilities.7.To increase the value of the firm.8.To minimize the risk of business. THE NEED FOR THE WORKING CAPITAL The need for working capital arises due to the time gap between production and realizationof cash from sales. Working capital is must for every business for purch asing raw-materials, semi finished goods, stores & spares etc and the following purposes. 1.To purchase raw materials, spare parts and other component. A manufacturing firm needs raw-materials and other components parts for the purpose of converting them in to final products, for this purpose it requires workingcapital. Trading concern requires less working capital. 2 . To meet over head expenses. Working capital is required to meet recurring over head expenses such as costof fuel, power, office expenses and other manufacturing expenses. Classification of Working Capital on the Basis of Concept From the conceptual point of view, Working Capital is classified into two parts. They are: (i) Gross Working Capital; and (ii) Net Working Capital. (i) Gross Working Capital: This is a wider concept of Working Capital. Under this concept, the capital invested in the total Current Assets alone is considered as the Working Capital. Therefore, Gross Working Capital refers to the capital invested in the total Current Assets of a business. This concept of Working Capital is called Balance Sheet approach of Working Capital. As the Gross Working Capital is represented by the sum of total Current Assets, it always becomes a positive value.

THE EFFECT OF WORKING CAPITAL MANAGEMENT POLICY ON PROFITABILITY OF FIRMS LISTED AT THE NAIROBI SECURITIES EXCHANGE Working Capital Management policy has its effect on liquidity as well as on profitability of the firm. To achieve this objective, the study used secondary data obtained from the annual reports and financial statements of selected sample of 32 Kenyan firms listed on Nairobi Securities Exchange for a period of 5 years from 2007 2011, was studied the effect of different variables of working capital management policy including the aggressiveness or conservativeness of the policy on the return on assets. The size of the firm as well as the leverage has been used as control variables. Pearsons correlation and regression analysis (general least square with cross section weight models) are used for analysis. The results show that there is a strong negative relationship between variables of the working capital management and profitability of the firm apart from the aggressiveness of the policy adopted. It was found out that that there is a significant negative relationship between working capital policy adopted and profitability. The results indicate that the model examined in this study is significant with an adjusted R2 of 57.8% and also that all the independent variables had a significant relationship individually with the ROA. The study concluded that working capital management policy affects profitability of the company and if the firm can effectively manage its working capital, it can lead to increasing profitability. Therefore, it will be important for a firms management to understand the relationship that exists between various working capital components and profitability and the direction that they affect the profit for effective management of the working capital. To the government and regulatory bodies, it is important to develop appropriate guidelines that will suggest the appropriate level of working capital that need to be held by a firm and even consider giving incentives in form of tax rebates those firms maintain an optimal working capital policy that leads to improved profits. To the academia, there is need to research on the appropriate working capital policy that will be suitable for particular sector industries.