Introduction
The term working capital involves investment of a company in short-term assets , cash, short-term securities , accounts receivable and inventory accounts . Precisely , these assets are financed by short-term liabilities , so that the net working capital is current assets minus current liabilities .
Working capital management is the decision on the working capital and short term financing , and this includes the management of the relationship between short-term assets of the company and its short-term obligations . This allows the company to continue operating and to have sufficient cash flow available to meet maturing debt both short-term and future operating costs , which is the main objective of working capital management .
WORKING CAPITAL NATURE
The working capital management focuses on the problems that arise when trying to manage current assets , current liabilities and the interrelationship between them. As explained above, the term current assets refer to assets that companies will be converted into cash within one year without experiencing a decrease in the value and annoying business operations . Most of the main current assets are cash , temporary investments , accounts receivable and inventory.
Current liabilities refer to liabilities that are intended at first, to be paid in the normal course of its operations, within one year of current assets or earnings of the concern. Among the essential current liabilities are accounts payable , accounts payable , bank overdraft and outstanding expenses .
The main objective of working capital management is the management of assets and liabilities of the company , so as to maintain a satisfactory level of working capital. This is because of the fact that if the company can not maintain an acceptable level of working capital , it can certainly lead to what is called insolvency and may end up in bankruptcy .
Current assets should be large as necessary to cover its current liabilities to ensure a reasonable margin of safety. All current assets are managed efficiently in order to maintain the liquidity of the company, while maintaining a level not too high for any of them. Each of the short-term base funding must be continuously managed to ensure the best use pathway . Therefore, the interaction between current assets and current liabilities is the main premise of the theory of labor management .
The core elements of the theory of working capital management including its definition , the need , the optimal level of current assets, the trade-off between return and risk that is associated with the level of assets and liabilities . Besides funding mix strategies and so on.
Concepts and definitions of working capital
The two concepts of working capital are gross and net . The term gross working capital is also known as working capital , which is the total current assets. The term net working capital can be defined in two ways: The most common definition of net working capital (NWC ) is the difference between current assets and current liabilities .
NWC alternative definition is the part of current assets financed with long-term funds .
Most financial administrator tasks in the management of working capital with ease is to ensure adequate liquidity in the operation of the company. The liquidity of the trading company is determined by its ability to meet short-term obligations when due.
Three basic measures of overall liquidity of the company are:
The current relationship,
The acid test ratio , and
The net working capital .
Net working capital (NWC ) as a measure of liquidity is not very useful for comparing the performance of different companies, but liquidity is not really essential to compare the performance of different companies , but it is very useful for internal control . The NWC contributes greatly to compare the liquidity of the same company over time . For the main reason for working capital management , it is expected that both NWC to measure the liquidity of the company. Meanwhile, the focus of working capital management is the management of assets and liabilities , so that an acceptable level of NWC holds.
The common definition of the National Water Commission and its implications
NWC is commonly defined as the difference between current assets and current liabilities . The efficient management of working capital requires the company must operate with a certain amount of NWC , the exact amount varies from company to company and depending , among other things, the nature of the industry . The theoretical justification for the use of NWC liquidity measure is based on the premise that the greater the margin by which current assets cover current liabilities plus is the ability to pay its obligations when due to the payment. The NWC is necessary because the cash outflows and inflows do not match. In other words , is the synchronous nature of cash flows necessary NWC .
In general, cash outflows resulting from the payment of current liabilities are relatively predictable . Cash inflows are nevertheless difficult to predict. The more predictable are , will require cash inflows less NWC . A company like electricity generation company , with almost certain and predictable cash flows can operate with little or no NWC . But where cash inflows are uncertain , it will be necessary to maintain current assets at a level adequate to cover current liabilities , ie it must have NWC .
NWC alternative definition
NWC alternatively be defined as part of current assets are financed with long-term funds . Because current funding sources represent short-term , as long as the current assets exceed current liabilities , the excess should be financed with long-term funds . This alternative definition , as shown below, is useful for analysis of the compensation. Between profitability and risk.
WORKING CAPITAL POLICY
The working capital policy according to Weston et al dependent refers to two types of relationship between BSI . First, the issue of policy on the degree of total current assets to be held . Although current assets vary with sales, it should be noted that the proportion of sales current assets becomes a matter of policy. A company may have relatively small proportion of the balances of current assets if they choose to operate aggressively . This measure is to lower the required level of investment and improve the expected rate of return on investment . Therefore, due to the excessive difficult credit policy such aggressive policy can also extend the possibility of running out of cash and inventory or lost sales.
The connection / relationship between the types of goods and means those assets are financed is the second policy issue . One political demands to harmonize asset and liability maturities : finance short-term assets to short-term debt and long-term assets with debt or long-term capital . If this policy is implemented , the training maturity of the debt is solved taking into account fixed assets versus current . Meanwhile, short-term debt is often less expensive long-term debt . This implies that the expected rate of return may be more if you use short-term debt .
By offsetting the advantage of return shows that much of the short-term credit risks amplified as follows :
First, having to roll over its debt at interest rates much higher ® Secondly, not being able to roll over its debt at all when the company goes through difficult times. Both areas of working capital policies involve risks / rewards in return . Therefore, the need to exercise a form to establish the best possible levels of each type of current assets to maintain, and alternative methods for financing them is necessary. The process of meeting these optimal conditions is what can be termed as working capital management .
As noted by Shin and Soenen (1998 ) , Wal- Mart and K - Mart had comparable capital formation in 1994, but the mismanagement of K - Mart working capital contributed to its bankruptcy. This is because K - Mart had a cash conversion cycle of about 61 days, while Wal - Mart had a shorter conversion cycle of 40 days instead . K - Mart is facing an extra $ 193.3 million a year funding costs resulting from conversion cycle long term.
As noted in 2005 the U.S. survey report There is a positive correlation between the effectiveness of working capital policies of the corporation and its return on invested capital .
Therefore, Nunn ( 1981 ) uses the PIMS database to study the cause of some product lines that have small working capital needs , while some product lines are having large working capital requirements . Moreover, Nunn has much interest in permanent and temporary investments , working capital , since he used data on average over four years. By using factor analysis, is able to identify the factors related to the production , sales , competitive position and industry.
By highlighting the role of industry practices on firm practices , Hawawini , Viallet , and Vora ( 1986 ) observe the influence of the industry the company as working capital management . They decided that a major consequence of the industry in the company 's working capital management practices , which is stable over time , having used data from 1181 U.S. companies in 1960-1979 . His studies concluded that the sales growth and industry practices are key issues that influence the company's investment in working capital .
The above analysis shows that there are models to illustrate how working capital refers to a company investing in assets in cash, short-term securities , receivables and short-term inventories . However, these assets are financed by short-term liabilities . Therefore, net working capital is current assets minus current liabilities .
Van ( 1986) states that capital management is a misnomer , if not managed working capital of the company. The underlined term describes a set of administrative decisions affecting specific types of assets and liabilities . In turn, such decisions should be based on the overall valuation of the company.
This presentation does not disagree with the content of the applications of Weston et al. Therefore, their argument that reinforces the idea of working capital management should be done with management decisions that limit the compensation balance risk / return current holdings of assets and liabilities that such assets.
Weston et al advised then that working capital should be considered as an investment , it is equally important that the equipment and materials . Both argued that current assets incorporate more than half of the total assets of a business, and since the investment is relatively volatile , is worthy of careful consideration.
They argued that it is even more for small businesses . Small business can reduce its investment in fixed assets by renting or leasing of machinery and equipment , but there is no way you can avoid a cash investment , inventories and accounts receivable. Moreover, since small and medium enterprises have relatively limited access to capital markets in the long term , must necessarily rely heavily on trade credit and short-term bank loans , which affect net working capital , increasing liabilities.
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