Working Capital Management
Working capital (WC) also known as “Net working capital” or “Working Capital Ratio”. It is a financial metric term which represents the operating liquidity available to a business, any organization or any other entity like governmental organization. Working capital is a measure of both a company’s efficiency and its short term financial health. The working capital consists of the fixed assets such as plants, land and equipments along with the Operating capital. The Working Capital is being calculated as the Current Assets minus Current Liabilities. There are various valuation techniques being used in working capital such as Discounted Cash Flows (DCFs).
The decisions related to the working capital and short term financing are referred to as Working Capital Management (WCM). It involves managing the relationship between the working capital, firm’s short term assets and its liabilities. The main goal of the WCM is to ensure that the firm is able to continue its operations and that it has sufficient cash flow to satisfy both maturing short-term debt and upcoming operational expenses. An effective WCM system is an excellent way for many companies to improve their earnings. The two main aspects of the working capital management are the ratio analysis and management of individual components of the working capital. Some of the key performance ratios of the WCM system are the Working Capital Ratio.
A few key performance ratios of a working capital management system are the working capital ratio, the inventory turnover and the collection ratio. The company’s management uses a combination of policies and techniques for the management of the working capital.
Some of the techniques of the WCM are:
a) Cash Management: It identifies the cash balance which allows for the business to meet the day to day expenses.
b) Inventory Management: It identifies the level of inventory which allows for an uninterrupted production but reduces the investment in the raw materials and minimizes the reordering costs and hence helps to increase the cash flows.
c) Debtors Management: Helps to identify the appropriate credit policy, which means the credit policy which will attract more customers such that any impact on the cash flows and the cash conversion cycle will be offset by the increased revenue and hence return on the capital.
d) Short term financing: Helps to identify the appropriate source of financing. Working Capital management is about the commercial and financial aspects of Inventory, purchasing, credit, marketing and investment policy.
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