dangers of too much working capital
TRANSCRIPT
DANGERS OF TOO MUCH WORKING CAPITAL
HIGH LEVEL OF INVENTORY AND RECEIVABLE DEMANDS MORE SUPERVISION AND GOOD AMOUNT OF CONTROL WHICH HAS ITS COST.
CHANCES OF WASTAGES IN INVENTORY AND BAD DEBT LOSES ARE MORE WHEN THE LEVEL OF WC IS VERY HIGH
IDLING AND ACCUMULATION OF FUNDS MAY BRING INEFFICIENCIES IN THE SYSTEM
HIGH LIQUIDITY MAY BRING LOW PROFITABILITY WHICH CAN SHAKE THE CONFIDENCE OF THE SHAREHOLDERS AND THE MARKET PRICE OF THE SHARE
HIGH INVESTMENT IN WC DENOTES IDLING OF FUNDS WHICH EARNS NO RETURN ON INVESTMENT
DANGERS OF TOO LITTLE WORKING CAPITAL
• ILLIQUIDITY IS THE BIGGEST DANGER OF INADEQUATE WC• INADEQUACY LEADS TO FREQUENT AND
REGULAR STOPPAGE IN PRODUCTION• A FIRM SHORT OF LIQUIDITY CANNOT UTILIZE
THE OPPORTUNITIES DUE TO LACK OF FUNDS• ADVANTAGES OF BULK PURCHASES FOREGONE• IN EMERGENCIES FIRMS RESORT TO EXTERNAL
BORROWINGS WHICH HAS A VERY HIGH COST
CHARACTERISTICS OF WC
• SHORT LIFE SPAN
• SWIFT TRANSFORMATION
• SHORT TERM FOCUS
• REPITIVE AND FREQUENT
• LIQUIDITY
• INTER RELATION AMONG ASSETS
OPERATING CYCLE
CASH IS PUT INTO BUSINESS :-
• TO PURCHASE RAW MATERIALS
• TO PAY SALARIES AND WAGES
• TO DELIVER GOODS/SERVICES
• TO ALLOW CREDIT PERIOD TO A CUSTOMER
• TO COLLECT DUES
• TO PAY SUPPLIERS/SHORT-TERM LOANS
COMPONENTS OF WC
• CASH
• INVENTORY
• ACCOUNTS RECEIVABLE
• ACCOUNTS PAYABLE
• ACCRUED EXPENSES
SIGNIFICANCE OF WORKING CAPITAL MANAGEMENT
• :SIGNIFICANCE OF WORKING CAPITAL MANAGEMENT IN A TYPICAL MANUFACTURING FIRM, CURRENT ASSETS EXCEED ONE-HALF OF TOTAL ASSETS. EXCESSIVE LEVELS CAN RESULT IN A SUBSTANDARD RETURN ON INVESTMENT (ROI).• CURRENT LIABILITIES ARE THE PRINCIPAL SOURCE OF EXTERNAL FINANCING FOR SMALL FIRMS. REQUIRES CONTINUOUS, DAY-TO-DAY MANAGERIAL SUPERVISION. WORKING CAPITAL MANAGEMENT AFFECTS THE COMPANY’S RISK, RETURN, AND SHARE PRICE.
CLASSIFICATIONS OF WORKING CAPITAL
• PERMANENT WORKING CAPITAL• TEMPORARY WORKING CAPITAL
CASH• MOST LIQUID FORM OF ASSETS• NEED EFFICIENT HANDLING STRATEGIES• INVENTORY SHOULD BE TURNED OVER AS QUICKLY AS POSSIBLE
WHILE AVOIDING STOCKOUTS WHICH MAY RESULT IN EXCESSIVE SALES LOSS
• ACCOUNTS RECEIVABLES SHOULD BE COLLED AS QUICKLY AS POSSIBLE WITHOUT LOSING THE CLIENTS
CONT….•ACCOUNTS PAYABLE SHOULD BE PAID AS LATE AS POSSIBLE WITHOUT DAMAGING THE FIRM’S CREDIT RATING CONSIDERING ANY CASH DISCOUNTS OFFERED