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Introduction
Businesses require adequate capital to succeed in business environment. There are two types of
capital required by business; fixed capital and working capital. Businesses require investment in
asset, which has to be utilized over a longer period of times. These long-term investments are
considered as fixed capital, e.g. plant, machinery, etc.
Another type of finance required is short term in nature. This short term finance or capital is required
to undertake day to day operation. Such short capital is called current capital or working capital.
Working capital refers to company’s investment in short term asset such as cash, inventory,
short term marketable securities and account receivable.
Information technology is playing a big part in today’s working capital management. Several aspects
of working capital management like the cash management, inventory management, account
receivables/payable management, etc. are managed through enterprise resource planning modules.
The module tracks complete audit trails of all transactions and adjustment for controls.
It highlights current and future balances for all cash accounts.
The module has the capability for complete drill down to the source of all transactions.
The module provides full bank reconciliation.
It allows export of information for analysis, forecasting, presentation, reports, etc.
The main advantage of an inventory management tool is cost savings, increased efficiency,
warehouse management, etc.
Appropriate credit policy is essential to maintain the cash flow cycle and return on capital.
Working capital management decision directly affects day to day business operations. One of the
such factors is the cash conversion cycle which immediately affects the liquidity of the organization.
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Working Capital Financing
CASH BUDGETING
Cash budgeting is another important technique for working capital
management which helps to keep an optimum level of cash in the business. Cash
budgeting involves estimating the requirements of cash by estimating all the fore
coming receipts and payments. For effective management, a balance is needed
between both excess and shortage of cash. It is because both ends are costly.
Speeding up of collection and getting relaxed credit terms from the creditors can
reduce the cash requirements.
INVENTORY MANAGEMENT
Inventory is an important component of working capital or current assets. An
optimum level of inventory can save on costs heavily.
EOQ
Economic Order Quantity (EOQ) model is a famous model for managing the
inventories. It helps the inventory manager know how to find the right quantity that
should be ordered considering other factors like cost of ordering, carrying costs,
purchase price and annual sales. The formula used for finding EOQ is as follows:
EOQ = ?{ (2 * A * O) / (P * C)}
A – Annual Sales
O – Cost per Order
C – Carrying Cost
JUST-IN-TIME
Just-in-time is another very important technique which brought about the paradigm
shift in the management of inventories. It did not reduce the cost of inventory but it
abolished it completely. Just-in-time means acquiring raw material or manufacturing
product at the time when it is required by the customer. This strategy is very difficult
to implement but if implemented can bring down inventory cost to minimum levels.
These are some important techniques discussed here. They are very effective in
managing working capital. Managing working capital means managing current
assets. Current assets like cash can be managed using cash budgeting; inventory
can manage using inventory techniques like EOQ and JIT. Debtors and financing of
working capital can be managed using appropriate sources of finance.