What is meant by Working capital? How is it calculated? Explain the determinants of working capital requirements.
4 years ago
Financial Management
Working capital is the capital required for meeting day to day requirements/operations of the business.
Net working capital= current assets – current liabilities.
Following factors are to be considered before determining the requirement of working capital.
- Scale of operations: There is a direct link between the scale of business and working capital. Larger business needs more working capital as compared to the small organizations.
- Nature of Business: The manufacturing organizations are required to purchase raw materials, convert them into finished goods, maintain the stock of raw materials, semi finished goods and finished goods before they are offered for They have to block their capital for labour cost, material cost etc, so they need more working capital. In the trading firm processing is not performed. Sales are affected immediately after receiving goods for sale. Thus they do not block their capital and so needs less working capital.
- Credit allowed: If the inventory is sold only for cash, it requires less working capital as money is not blocked in debtors and bills receivable. But due to increased competition, credit is usually allowed. A liberal credit policy results in higher amount of debtors, so needs more working
- Credit availed: If goods are purchased only for cash, it requires more working Similarly if credit is received from the creditors, the requirement of working capital decreases.
- Availability of Raw materials: If the raw materials are easily available in the market and there is no shortage, huge amount need not be blocked in inventories, so it needs less working But if there is shortage of materials, huge inventory is to be maintained leading to larger amount of working capital. Similarly if the lead time is higher, higher amount of working capital is required.
Sanisha Maharjan
Jan 16, 2022