1.The nature of working capital

Definition:

The amount tied up in working capital is equal to the value of raw materials,work in progress,finished goods inventories and account receivable less accounts payable. The size of this net figure has a direct effect on the liquidity of an organization.  

Net working capital = Current Assets — Current Liabilities

Current Assets                       Current Liabilities

Cash                                 Accounts payable

Inventory of raw materials           Taxation payable

Inventory of work in progress        Dividend payable

Inventory of finished goods          Short-term loans

Accounts receivable                  Long-term loans maturing within one year

Marketable securities                Lease rentals due within one year

2.Objectives and role of working capital management

Objectives:

-To ensure the company has sufficient liquid resources to continue in business
-To increase its profitability
This two objectives are often conflict as Liquidity asset give lowest returns, get balance between over financing and less financing in working capitals.

Roles:

-A business may need to have a clear policies for the management of each component of working capital.

-The management of cash, marketable securities, account receivable, account payables and other terms of short-term financing is the direct responsibility of the financial and it requires continuous day to day supervision

3.The cash operating cycle

It is the period of time which elapses between the point at which cash begins to be expended on the production of a product and the collection of cash from customer.

5.Managing inventories

-EOQ is the optimal ordering quantity for an item of inventory which will minimise costs.

THe following assumption shall be 

Demand and lead time are costant and known

purchase price is constant

no buffer inventory held 

-Reorder level=maximum usage*maximum lead time

Maximum invetory leal-re order level+re order quantity-(minimum usage*minimum lead time)

Buffer afety invenotry= re order lelve-(average usage*average lead time)

Average inventory=buffer safety inventory+(re order amount/2)

-Quantity discounts

step1: Ca;ci;ate EPQ.ignoring discounts

step2:if the EOQ is below the quantity qualifing for a discount,calculate the total annual inventory cost arising from using the EOQ

step3: Recalculate total annual inventory costs using the order size required to just obtain each discount

step4: compare the cost of step2 and 3 with the saving from the discount, and select the monimum cost alternative.

-Just in time

is a series of manufacturing and supply chain techniques that aim to minimize inventory levels and improve customer service by manufacturing not only at the exact time customers require, but also in the exact quantities they need and at competitive prices.

6.Managing accounts receivable

 Credit Control

Early settlement discount
Invoice discounting & Factoring

7.Managing accounts payable

Trade credit is the simplest and most important source of short term finance for many companies.
By delaying payment to suppliers companies face possible problems:
●Supplier may refuse to supply in future
●Supplier may only supply on a cash basis
●There may be loss of reputation
●Supplier may increase price in future.

Trade credit is the simplest and most important source of short term finance for many companies.
By delaying payment to suppliers companies face possible problems:
●Supplier may refuse to supply in future
●Supplier may only supply on a cash basis
●There may be loss of reputation
●Supplier may increase price in future.

8.Managing cash

Reason for holding cash

Cash Flow Problems

Cash Flow forecasts

Baumol noted that cash balances are very similar to inventory levels, and developed a model based on the economic order quantity

Drawbacks of the Baumol model
·In reality, it is unlikely to be possible to predict amounts required over future periods with much certainty.
·No buffer inventory of cash is allowed for. There may be costs associated with running out of cash.
·There may be other normal costs of holding cash which increase with the average amount held.

The Miller Orr model controls irregular movements of cash by the setting of upper and lower control limits on cash balances.

Return point = Lower limit + （1/3 x Spread）
Spread = 3[（3/4 x Transaction cost x Variance of cash flows）/Interest Rate]^1/3
Upper limits = Lower limit + Spread

Drawbacks
In practice, cash inflows and outflows are unlikely to be entirely unpredictable as the model assumes: for example, for a retailer, seasonal factors are likely to affect cash inflows.

9.Working capital investment policy

Sources of Surplus Funds
Investing Surplus Funds—Factors to Consider

10.Working capital funding policy

Traditionally current assets were seen as short term and fluctuating and best financed out of short term credit which could be paid off when not required. Long term finance was used for non current assets, since it involves committing for a number of years and is not easily reversed.