Working Capital Working capital refers to that part of the capital of the company which is continually circulating.

. It may be described in two ways: Gross Working capital total amount of the firms current assets Working capital total amount of current assets minus current liabilities Need for Working capital: 1. 2. 3. 4. Replenishment of Inventory Provision of Operating Expenses Support for Credit sales Provision of a Safety margin

LIQUIDITY MANAGEMENT activities geared towards achieving liquidity objectives of the firm Liquidity - refers to the ability of the firm to pay its bills on time or otherwise meet its current obligations Cash inflows of the firm come from various sources which are briefly described as follows: 1. 2. 3. 4. 5. 6. Cash Sales The percentages of cash derived from sales vary from company to company and from industry to industry Collection of accounts receivables The credit policies and the pattern of company sales determine the frequency and volume of collections from receivables Loans Loans from banks and other creditors may be availed of by management mostly on its own initiatives Sale of assets Assets are sometimes sold by the company for various reasons. Obsolescense is one of those Ownership contribution Additional contributions from the owners are sometimes tapped to improve the liquidity posture of the firm Advances from customers Manufacturers at times, require cash advances from customers as soon as an order is made before production is started

CASH MANAGEMENT Idle cash earns nothing and even if kept in the bank, interest it earns is minimal. If sufficient amounts of profits must be attained, cash should be invested. ACCOUNTS RECEIVABLE MANAGEMENT As sales on account cannot be avoided most of the time, management must face the difficulty squarely and make it work to the advantage of the firm Elements of cost of credit: 1. 2. 3. Bad debts cost Cost of invested funds Administrative costs

Sources of credit information: 1. 2. 3. 4. 5. Personal interviews References Credit bureaus Credit reporting agencies Banks

Evaluation of credit risk

1. 2. 3. 4.

Capacity Capital Character Conditions

INVENTORY MANAGEMENT Refers to the activity that keeps track of how many of the procured items needed to create a product or service are on hand, where each item is, and who has the responsibility for each item. Main objective is to strike a balance between three key elements: 1. 2. 3. Customer service Inventory investment Profit

Methods of achieving inventory goals: 1. 2. 3. 4. ABC method classifies inventory into three categories: A, B and C for management and control purposes EOQ method used to determine what quantity to order so as to minimize total inventory costs Safety stocks that part of inventory used to absorb random fluctuations in purchases, production and sales Anticipated stocks-refers to that portion of the inventory used for seasonal, cyclical and secular changes in inventory

Sources of Short Term Capital Short term financing deals with the demand for and supply of short term funds which may either be secured or unsecured. Advantages of Short term credits: 1. 2. 3. They are easier to obtain Short term financing is often less costly Short term financing offers flexibility to the borrower Disadvantages of Short term credits 1. 2. Short term credits mature more frequently Short term debts, may at times be more costly than long term debts

Suppliers of Short Term Funds: 1. Trade creditors suppliers extending credit to a buyer for use in manufacturing, processing or reselling goods for profits Trade credit form of credit extended by a firm to another firm Instruments used in trade credits: 1. 2. 3. Open book credit constitutes bulk of trade credit Trade acceptance a time draft drawn by a seller upon a purchaser, payable to the seller as payee, and accepted by the purchaser as evidence that the goods shipped are satisfactory and that the price is due and payable Promissory note an unconditional promise in writing made by one person to another, signed by the maker, engaging to pay on demand or at a fixed time, a sum certain in money to, or to the order of, a specified person, or to bearer.

4.

Commercial Banks institutions which individuals or firms may tap as source of short term financing. 4 Distinct Components:

1. 2. 3. 4.

Commercial banks Development banks Savings Bank Rural Bank

Short term loans those with maturity of one year or less Type of Short Term Loans: 1. 2. 3. Unsecured loans those which do not require collateral Secured loans those which require a collateral back up Commercial Paper Houses Commercial paper short term promissory note, generally unsecured and which is sold through commercial paper dealers or directly to investors Commercial paper houses firms that buy commercial papers 1. Finance Companies Finance companies those which are engaged in making short and intermediate term installment loans to consumers, factor or finance business receivables, and finance the sale of business and farm equipments Three major types of finance companies: 1. 2. Sales finance companies Firms specializing in the purchase from retailers of the installment receivables arising out of retail sales of automobiles, household appliances and other durable goods sold on the installment payment plan. Business or Commercial Finance companies short term loans are granted by this type of finance companies against the security of assigned accounts receivables, inventory and equipment.

When using accounts receivables as collateral, loan arrangement may be considered under the ff: 1. 2. 3. Non notification plan debtors of the borrowing firms are not aware that their accounts have been pledged as collateral for a loan from a finance company Notification plan when debtors are informed Personal Finance companies Finance companies which are engaged principally in personal loans

1.

Factors Factoring consists of the purchase of accounts receivable outright without recourse to the seller for credit losses

1.

Insurance companies

Insurance companies provide a stable source of short tem funds 1. Company accruals Accrual an expense that has been incurred but has not yet been paid Two major forms: 1. 2. Accrued Wages and Salaries Accrued Taxes

Corporate Stocks Two primary sources of long term financing: 1. 2. Sale of stocks Bonds

Stock financing When shares of stock are sold to raise funds for the long term financing requirements of the firm; objective is to increase equity capital Capital stock interest of the owners of a corporation Issued stock portion of the authorized stock which has been issued and sold Unissued stock Those which are not issued yet Retained earnings profits which are not declared as dividends and retained in the coffers of the company for use in some of it capital financing requirements Classes of Corporate stocks: 1. Common stock class of stock issued by all corporations and which represents the real equity capital Varieties of common stock 1. 2. 3. 4. 5. Classified common stock-common stock may be classified to suit various requirements of the issuing firm and investors Deferred stock minor type of issue which entitles the holder to receive dividends, and in the event of dissolution, assets, after the common stockholders have been paid Voting trust certificates those which are given to trustees of a corporation when the activities of the corporation are entrusted to them Guaranteed stocks refers to stocks of a corporation wherein the payment of dividends is guaranteed by another corporation Debenture stocks not a stock in real sense, but a debt issue similar to debenture bonds Fixed debentures-secured by specific assets Floating debentures-generally secured by a charge on the assets of the firm Convertible debenture-carries an option at a fixed future date to convert the stock into common shares at a fixed price

Preferred Stock class of stock which has a claim on assets before common stock, in the event that the firm is dissolved; and it also has a claim prior claim to dividends up to a specified amount or rate Provisions of Preferred Stock 1. Claim to dividends

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

Voting rights Subscription rights Callability Convertibility Participation Classes

Other Stock features and their characteristics: TREASURY STOCK Treasury stock-one issued by the corporation, fully paid for, reacquired by the corporation by purchase or other means, and not cancelled Stock Options-right given by the corporation to an individual allowing him, at his option to buy a certain number of shares of, usually common stock, from the company within a certain time period Acquisition-happens when a large firm takes control of a small firm Investments-refer to a purchase of any asset, or undertaking of commitment, which involves an initial sacrifice followed by subsequent benefits Stock split-refers to an issue of new shares to stockholders without increasing total capital Stock dividends-refers to dividends paid in the companys own stock, including treasury stock Convertible securities-refer to preferred stocks or bonds with an option to convert into common stock Warrants-an option or a right exercisable by its holder, to purchase stock at a stated price during a stipulated period of time PAR VALUE STOCK Par value stock-stock with stated value No Par value stocks-shares of stock without a face or nominal value Book value-refers to the stated value of a stock based on the accounting concepts of recorded value as reflected in the balance sheet Market value-value placed at any one time on a stock traded in a stock exchange or over the counter, or even between parties in an encumbered transaction without duress Economic value-refers to the value of a stock as reflected by its current and future earnings power, plus any potential recovery of all or part of the investment Corporate Bonds Bond-defined as a long term debt of a firm or the government set forth in writing and made under seal Kinds of Bonds: 1. 2. Government bonds-those issued by the government to finance its activities Corporate bonds-those issued by private corporations to finance their long term funding requirements Classes of Bonds: 1. 2. 3. Type of security Manner of participation in earnings Method of retirement or repayment

Debentures general credit bonds not secured by specific property Mortgage Bonds those which are secured by a lien on specifically named property such as land, buildings, and other assets Specific property pledged are of two general types:

1. 2.

Real estate consists of land and property attached to the land Chattels-consists of personal and movable property Real estate mortgage may be classified according to priority of claims:

1. 2.

Senior liens-those having prior claim to fixed assets pledged as security Junior liens-Bonds having subsequent liens to fixed assets pledged as security Real estate mortgage may also be classified according to type of issue:

1. 2. 3.

Closed end issue Open end issue Limited end issue Assumed Bond-there are times when a corporation buys another corporation, the liabilities of the deceased corporation are assumed by the surviving corporation Guaranteed Bonds A guaranteed bond is a type of bond in which payment of interest or principal is guaranteed by one or more individuals or corporation Joint Bonds-companies bind themselves jointly as debtors in this type of issue CLASSIFICATION OF BONDS BY METHOD OF PARTICIPATION IN EARNINGS:

1. 1. 2. 2. 3. 1. 2. 3.

Bonds with fixed contractual interest rates of which there are two types: Coupon Bond-bonds having attachment as a series of postdated certificates payable to the bearer for the interest over the life of a bond Registered Bonds-bonds wherein the names of thee owners are recorded on the transfer books of the company Bonds with fixed contractual rate with payment contingent upon earnings Bonds with fixed contractual rate with participating feature of which there are four types: Participating Bond-bonds which stipulate a fixed coupon rate but which also provide a method of receiving additional income over and above this minimum sum Convertible Bonds-generally debenture bonds or junior lien bonds wherein the owner has options to exchange his bonds for a specified number of shares of common stock, or other types of bonds Bonds with warrants-bonds may also have warrants attached to them. Warrant is an option or right to purchase stock at a stated price during a stipulated period Detachable warrant those which may be sold apart from the bond Non detachable warrant-cannot be sold or exercised separately from the bond

1.

Bonds with Junior Security Attached-these are bonds which are issued along with some shares of stock in a package or block sale

Bonds classified by method of retirement: Serial Bonds-one among a group of bonds a part of which mature semi annually or annually instead of all on a single date. Sinking Fund Bonds-bonds may also be gradually retired with the provision of a sinking fund Callable Bonds-bonds with the provision that the terms of the issue can be cancelled or called Convertible Bonds-bonds which may be exchanged for common stock of the issuing corporation at a fixed price, at a pre determined redemption date, and at the option of the bondholder Perpetual Bonds- bonds which cannot be redeemed by demanding repayment

Indenture contract between corporation and the trustee on behalf of the bond holders Trustee-person who handles monies or property on behalf of another in trust