Working capital management is also one of the important parts of the financial management. It is concerned with short-term finance of the business concern which is a closely related trade between profitability and liquidity.
Working capital management leads to improve the operating performance of the business concern and it helps to meet the short-term liquidity.
What is working capital management
Capital of the concern may be divided into two major headings.:
- Fixed capital
- Working capital
Fixed capital means that capital, which is used for long-term investment of the business concern. Normally, it consists of non-recurring in nature. For example – Purchase of permanent assets.
Working capital is another part of the capital which is needed for meeting day-to-day requirement of the business concern. Normally, it consists of recurring in nature. It can be easily converted into cash. Hence it is also known as short-term capital. For example – payment to creditors, salary paid to workers, purchase of raw materials etc.
Definition of working capital
Working capital means current assets. The sum of the current asset is the working capital of a business.
According to the Weston and Brigham, “Working capital refers to a firm’s investment in short-term assets, cash, short-term securities accounts receivables and inventors.”
Bonneville defined that, “Any acquisition of funds which increases the current assets, increase working capital also for they are one and the same.”
According to the definition of Genestenberg, “Circulating capital means current assets of a company that are changed in the ordinary course of business from one to another.”
“Working capital is the amount of funds necessary of funds necessary to cover the cost of operating the enterprises.”
Nature and Scope of working capital
Working capital can be classified or understood with the help of the following two important concepts.
- Gross Working capital
- Net Working Capital
1. Gross Working capital
Gross working capital is the general concept determines the working capital concept. Thus, the gross working capital is the capital invested in total current assets of the business concern.
Gross working capital is simply called as the total current assets of the concern.
GWC (Gross Working Capital) = CA (Current Assets)
2. Net Working capital
Net Working capital is the specific concept, which, considers both current assets and current liability of the concern. Net working capital is the excess of current assets over the current liability of the concern during a particular period.
If the current assets exceed the current liabilities it is said to be positive working capital; it is reverse, it is said to be Negative working capital.
NWC (Net Working Capital) = CA (Current Assets) – CL (Current Liabilities)
Types of Working capital
Working capital may be classified into three important types on the basis of time.
- Permanent Working Capital
- Temporary Working Capital
- Semi Variable Working Capital
1. Permanent working capital
It is also known as Fixed working capital. It is the capital; the business concern must maintain certain amount of capital of minimum level at all times. The level of permanent capital depends upon the nature of the business.
Permanent or fixed working capital will not change irrespective of time or volume of sales.
2. Temporary working capital
It is also known as variable working capital. It is the amount of capital which is required to meet the seasonal demands and some special purposes. It can be further classified into seasonal working capital and special working capital.
The capital required to meet the special exigencies such as launching of extensive marketing campaigns for conducting research etc.
3. Semi Variable working capital
Certain amount of working capital is in the field level up to a certain stage and after that it will increase depending upon the change of sales or time.
Component of working capital
Working capital constitutes various current assets and current liabilities.
Current assets may be :-
- Cash in hand
- Cash in bank
- Bills Receivable
- Sundry Debtors
- Short-term Loans Advances
- Prepaid Expenses
- Accrued Income
Current Liability may be :-
- Bills Payable
- Sundry Creditors
- Outstanding Expenses
- Short-term Loans and Advances
- Dividend payable
- Bank overdraft
- Provision for taxation
Needs of working capital
Working capital is an essential part of the business concern. Every business concern must maintain certain amount of working capital for their day-to-day requirements and meet the short-term obligations.
Working capital is needed for the following purposes.
1. Purchase of raw materials and spares
The basic part of manufacturing process is raw materials. It should purchase frequently according to the needs of the business concern. Hence, every business concern maintains certain amount as working capital to purchase raw materials, components, spares etc.
2. Payment of wages and salary
The next part of working capital is payment of wages and salaries to labour and employees. Periodical payment facilities make employees perfect in their work. So a business concern maintains adequate the amount of working capital to make the payment of wages and salaries.
3. Day-to-day expenses
A business concern has to meet various expenditures regarding the operations at daily basis like fuel, power, office expenses etc.
4. Provide credit obligations
A business concern responsible to provide credit facilities to the customer and meet the short-term obligations. So the concern must provide adequate working capital.
At last words, Study of working capital management is not only an important part of financial management but also are overall management of the business concern and working capital management leads to improve the operating performance of the business concern and its helps to meet the short-term liquidity.
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