Description
It describes on working capital management.
Working Capital
Capital Net Working Capital
?
Current Assets - Current Liabilities.
Gross Working Capital
?
The firm’s investment in current assets.
Working Capital Management
The administration of the firm’s current assets and the financing needed to support current assets.
?
1
Inventory Management and Control
Inventories form a link between production and sale of a product. Inventory types:
Raw-materials inventory Work-in-process inventory In-transit inventory Finished-goods inventory
2
WHY WCM ?
Manufacturing firm - current assets exceed one-half of total assets. Excessive levels can result in a substandard Return on Investment (ROI). Current liabilities are the principal source of external financing for small firms. Day-to-day managerial supervision. WCM affects the company’s risk, return, and share price.
3
IMPACT ON LIQUIDITY
Optimal Amount (Level) of Current Assets Profitability Analysis
Policy
ASSET LEVEL (Rs.)
A Low B Average C High As current asset levels decline, total assets will decline and the ROI will rise.
Policy A Policy B Policy C
Profitability
Liquidity Analysis
Policy
A B C
Liquidity
High Average Low
Current Assets
Greater current asset levels generate more liquidity; all other factors held constant.
0
25,000 OUTPUT (units)
50,000
4
FACTORS INFLUENCING WC
Nature of Business Season / Manufacturing cycle Production Policy Market (demand) Conditions Sales growth Price level changes Operating efficiency Firm’s credit policy
5
FINANCING CURRENT ASSETS: SHORT-TERM AND LT MIX
Spontaneous Financing: Trade credit, and other payables and accruals, that arise spontaneously in the firm’s day-to-day operations.
? ?
Based on policies regarding payment for purchases, labor, taxes, and other expenses. We are concerned with managing non-spontaneous financing of assets.
6
Permanent and variable Working capital Operating cycle is a continuous process and the need for current assets is continuously felt. But the magnitude of current assets needed is not always the same. It increases and decreases over time. However, there is always a minimum level of current asset which are continuously required by the firm to carry business operations. This is the permanent or fixed working capital.
7
8
WC POLICY
The level of current assets and the method of financing those assets are interdependent. A conservative policy of “high” levels of current assets allows a more aggressive method of financing current assets.
A conservative method of financing (all-equity) allows an aggressive policy of “low” levels of current assets.
9
OPERATING & CASH CYCLE
The time that elapses between the purchase of raw material and collection of cash for sales is called “Operating Cycle”. The time length between the payment for raw material purchases and the collection of cash for sales is referred as “Cash Cycle”.
10
Operating Cycle – mainly has 3 phases 1. Acquisition of resources – like raw material, labour, power, fuel etc 2. Conversion of raw material into work-inprogress and finished goods 3. Sales of finished goods into cash or credit GOC = ICP + BDCP NOC = GOC – PDP Where GOC is Gross operating cycle ICP is inventory conversion period BDCP is book debt conversion period PDP is payables deferred period (time the payment is deferred on various resource purchases). NOC is the net operating cycle or cash cycle 11
CASH MANAGEMENT
Need for cash - cash is required to meet a firm’s transactions and precautionary needs. A firm needs cash to make payments for acquisition of resources and services for the normal conduct of business. It keeps additional funds to meet any emergency situation. Some firms may also maintain cash for taking advantages of speculative changes in prices of input and output.
12
CASH MANAGEMENT
Need for cash - cash is required to meet a firm’s transactions and precautionary needs. A firm needs cash to make payments for acquisition of resources and services for the normal conduct of business. It keeps additional funds to meet any emergency situation. Some firms may also maintain cash for taking advantages of speculative changes in prices of input and output.
13
WHAT IS CASH MANAGEMENT
Management of cash involves three things 1. Managing cash flows into and out of the firm, 2. Managing cash flows within the firm 3. Financing deficit or investing surplus cash and thus, controlling cash balance at a point of time. Cash management cycle
collections
Information andcontrol Information & control payments
borrow
14
Motives For Holding Cash
Transactions Motive -- to meet
payments arising in the ordinary course of business Speculative Motive -- to take advantage of temporary opportunities Precautionary Motive -- to maintain a cushion or buffer to meet unexpected cash needs
15
Speeding Up Cash Receipts
Collections
Expedite preparing and mailing the invoice Accelerate the mailing of payments from customers Reduce the time during which payments received by the firm remain uncollected
16
Control of Disbursements
Firms should be able to: 1. shift funds quickly to banks from which disbursements are made. 2. generate daily detailed information on balances, receipts, and disbursements.
Solution:
Centralize payables into a single (smaller number of) account(s). This provides better control of the disbursement process.
17
Managing cash flows
Concentration banking- decentralised collection of accounts receivables. Special collection centres in different geographical areas Lock –Box system – firm hires a post office lock box at important collection centres.
18
CASH BUDGET
OPENING CASH BALANCE
Add
CASH RECEIPTS
Less
CASH PAYMENTS
=
CLOSING CASH BALANCE
19
CASH RECEIPTS
Particulars
Cash Sales Collection for Credit Sales
JAN FEB
Interest & Dividend Received
Sale of Assets
Issue of Shares / Debentures / Loan from FI
20
CASH PAYMENTS
Particulars Cash Purchases JAN FEB
Payment for Credit Purchases
Interest & Dividend Paid
Purchases of Assets
Payment of Wages / Salaries / Expenses Redemption of Debentures / Loan from FI
21
Miller-Orr Model
22
OBJECTIVES OF CREDIT POLICY
To maximise sales/profits To have control over debtors To have control over cost of credit and collection
Granting credit is often an essential business practice and can enhance sales. (But also will increase costs.)
23
FACTORS EFFECTING CM
pattern of demand trade practices financial strength marketing strength special credit considerations such as new product or new markets or large buyer etc.
24
Accounts Receivable Management
The terms of sale are generally stated in the form X / Y, n Z This means that the customer can deduct X percentage if the account is paid within Y days; otherwise, the account must be paid within Z days. Example: 2/10 n 30 ? The company offers a 2% discount if account paid in 10 days. ? Balance due in 30 days. 25
How Firms Make Credit Decisions
The Five Cs of Credit:
Character is the borrower’s willingness to pay based on past payment patterns. Capacity is the borrower’s ability to pay based on forecasts of future cash flows. Capital is how much wealth the borrower has to fall back on. Collateral is what the lender gets if the borrower fails to pay. Conditions faced by the borrower in the business marketplace are also considered
26
Credit Standards
Quality of Trade Account
Credit Standards -- The minimum quality of credit worthiness of a credit applicant that is acceptable to the firm. Why lower the firm’s credit standards?
The financial manager should continually lower the firm’s credit standards as long as profitability from the change exceeds the extra costs generated by the additional receivables.
27
Inventory Management and Control
Inventories form a link between production and sale of a product. Inventory types:
Raw-materials inventory Work-in-process inventory In-transit inventory Finished-goods inventory
28
Appropriate Level of Inventories
How does a firm determine the appropriate level of inventories? Employ a cost-benefit analysis
Compare the benefits of economies of production, purchasing, and product marketing against the cost of the additional investment in inventories.
29
ABC Method of Inventory Control
Cumulative Percentage of Inventory Value
ABC method of inventory control
Method which controls expensive inventory items more closely than less expensive items.
?
100 90
C
70
B A
0 15 45 100 Cumulative Percentage of Items in Inventory
30
?
Review “A” items most frequently Review “B” and “C” items less rigorously and/or less frequently.
How Much to Order?
The optimal quantity to order depends on:
Forecast usage Ordering cost Carrying cost
Ordering can mean either the purchase or production of the item.
31
Total Inventory Costs
Total inventory costs (T) = C (Q / 2) + O (S / Q)
Q INVENTORY (in units) Average Inventory Q/2
TIME
C: Carrying costs per unit per period O: Ordering costs per order S: Total usage during the period
32
Total Inventory Costs
EOQ (Q*) represents the minimum point in total inventory costs.
Total Inventory Costs Costs
Total Carrying Costs
Total Ordering Costs Q* Order Size (Q)
33
Order Point with Safety Stock
2200 2000
UNITS
Order Point 400 200
Safety Stock
0 18 20 38
34
DAYS
Just-in-Time
Just-in-Time -- An approach to inventory management and control in which inventories are acquired and inserted in production at the exact times they are needed.
Requirements of applying this approach:
A very accurate production and inventory information system Highly efficient purchasing Reliable suppliers Efficient inventory-handling system
35
doc_694339270.ppt
It describes on working capital management.
Working Capital
Capital Net Working Capital
?
Current Assets - Current Liabilities.
Gross Working Capital
?
The firm’s investment in current assets.
Working Capital Management
The administration of the firm’s current assets and the financing needed to support current assets.
?
1
Inventory Management and Control
Inventories form a link between production and sale of a product. Inventory types:
Raw-materials inventory Work-in-process inventory In-transit inventory Finished-goods inventory
2
WHY WCM ?
Manufacturing firm - current assets exceed one-half of total assets. Excessive levels can result in a substandard Return on Investment (ROI). Current liabilities are the principal source of external financing for small firms. Day-to-day managerial supervision. WCM affects the company’s risk, return, and share price.
3
IMPACT ON LIQUIDITY
Optimal Amount (Level) of Current Assets Profitability Analysis
Policy
ASSET LEVEL (Rs.)
A Low B Average C High As current asset levels decline, total assets will decline and the ROI will rise.
Policy A Policy B Policy C
Profitability
Liquidity Analysis
Policy
A B C
Liquidity
High Average Low
Current Assets
Greater current asset levels generate more liquidity; all other factors held constant.
0
25,000 OUTPUT (units)
50,000
4
FACTORS INFLUENCING WC
Nature of Business Season / Manufacturing cycle Production Policy Market (demand) Conditions Sales growth Price level changes Operating efficiency Firm’s credit policy
5
FINANCING CURRENT ASSETS: SHORT-TERM AND LT MIX
Spontaneous Financing: Trade credit, and other payables and accruals, that arise spontaneously in the firm’s day-to-day operations.
? ?
Based on policies regarding payment for purchases, labor, taxes, and other expenses. We are concerned with managing non-spontaneous financing of assets.
6
Permanent and variable Working capital Operating cycle is a continuous process and the need for current assets is continuously felt. But the magnitude of current assets needed is not always the same. It increases and decreases over time. However, there is always a minimum level of current asset which are continuously required by the firm to carry business operations. This is the permanent or fixed working capital.
7
8
WC POLICY
The level of current assets and the method of financing those assets are interdependent. A conservative policy of “high” levels of current assets allows a more aggressive method of financing current assets.
A conservative method of financing (all-equity) allows an aggressive policy of “low” levels of current assets.
9
OPERATING & CASH CYCLE
The time that elapses between the purchase of raw material and collection of cash for sales is called “Operating Cycle”. The time length between the payment for raw material purchases and the collection of cash for sales is referred as “Cash Cycle”.
10
Operating Cycle – mainly has 3 phases 1. Acquisition of resources – like raw material, labour, power, fuel etc 2. Conversion of raw material into work-inprogress and finished goods 3. Sales of finished goods into cash or credit GOC = ICP + BDCP NOC = GOC – PDP Where GOC is Gross operating cycle ICP is inventory conversion period BDCP is book debt conversion period PDP is payables deferred period (time the payment is deferred on various resource purchases). NOC is the net operating cycle or cash cycle 11
CASH MANAGEMENT
Need for cash - cash is required to meet a firm’s transactions and precautionary needs. A firm needs cash to make payments for acquisition of resources and services for the normal conduct of business. It keeps additional funds to meet any emergency situation. Some firms may also maintain cash for taking advantages of speculative changes in prices of input and output.
12
CASH MANAGEMENT
Need for cash - cash is required to meet a firm’s transactions and precautionary needs. A firm needs cash to make payments for acquisition of resources and services for the normal conduct of business. It keeps additional funds to meet any emergency situation. Some firms may also maintain cash for taking advantages of speculative changes in prices of input and output.
13
WHAT IS CASH MANAGEMENT
Management of cash involves three things 1. Managing cash flows into and out of the firm, 2. Managing cash flows within the firm 3. Financing deficit or investing surplus cash and thus, controlling cash balance at a point of time. Cash management cycle
collections
Information andcontrol Information & control payments
borrow
14
Motives For Holding Cash
Transactions Motive -- to meet
payments arising in the ordinary course of business Speculative Motive -- to take advantage of temporary opportunities Precautionary Motive -- to maintain a cushion or buffer to meet unexpected cash needs
15
Speeding Up Cash Receipts
Collections
Expedite preparing and mailing the invoice Accelerate the mailing of payments from customers Reduce the time during which payments received by the firm remain uncollected
16
Control of Disbursements
Firms should be able to: 1. shift funds quickly to banks from which disbursements are made. 2. generate daily detailed information on balances, receipts, and disbursements.
Solution:
Centralize payables into a single (smaller number of) account(s). This provides better control of the disbursement process.
17
Managing cash flows
Concentration banking- decentralised collection of accounts receivables. Special collection centres in different geographical areas Lock –Box system – firm hires a post office lock box at important collection centres.
18
CASH BUDGET
OPENING CASH BALANCE
Add
CASH RECEIPTS
Less
CASH PAYMENTS
=
CLOSING CASH BALANCE
19
CASH RECEIPTS
Particulars
Cash Sales Collection for Credit Sales
JAN FEB
Interest & Dividend Received
Sale of Assets
Issue of Shares / Debentures / Loan from FI
20
CASH PAYMENTS
Particulars Cash Purchases JAN FEB
Payment for Credit Purchases
Interest & Dividend Paid
Purchases of Assets
Payment of Wages / Salaries / Expenses Redemption of Debentures / Loan from FI
21
Miller-Orr Model
22
OBJECTIVES OF CREDIT POLICY
To maximise sales/profits To have control over debtors To have control over cost of credit and collection
Granting credit is often an essential business practice and can enhance sales. (But also will increase costs.)
23
FACTORS EFFECTING CM
pattern of demand trade practices financial strength marketing strength special credit considerations such as new product or new markets or large buyer etc.
24
Accounts Receivable Management
The terms of sale are generally stated in the form X / Y, n Z This means that the customer can deduct X percentage if the account is paid within Y days; otherwise, the account must be paid within Z days. Example: 2/10 n 30 ? The company offers a 2% discount if account paid in 10 days. ? Balance due in 30 days. 25
How Firms Make Credit Decisions
The Five Cs of Credit:
Character is the borrower’s willingness to pay based on past payment patterns. Capacity is the borrower’s ability to pay based on forecasts of future cash flows. Capital is how much wealth the borrower has to fall back on. Collateral is what the lender gets if the borrower fails to pay. Conditions faced by the borrower in the business marketplace are also considered
26
Credit Standards
Quality of Trade Account
Credit Standards -- The minimum quality of credit worthiness of a credit applicant that is acceptable to the firm. Why lower the firm’s credit standards?
The financial manager should continually lower the firm’s credit standards as long as profitability from the change exceeds the extra costs generated by the additional receivables.
27
Inventory Management and Control
Inventories form a link between production and sale of a product. Inventory types:
Raw-materials inventory Work-in-process inventory In-transit inventory Finished-goods inventory
28
Appropriate Level of Inventories
How does a firm determine the appropriate level of inventories? Employ a cost-benefit analysis
Compare the benefits of economies of production, purchasing, and product marketing against the cost of the additional investment in inventories.
29
ABC Method of Inventory Control
Cumulative Percentage of Inventory Value
ABC method of inventory control
Method which controls expensive inventory items more closely than less expensive items.
?
100 90
C
70
B A
0 15 45 100 Cumulative Percentage of Items in Inventory
30
?
Review “A” items most frequently Review “B” and “C” items less rigorously and/or less frequently.
How Much to Order?
The optimal quantity to order depends on:
Forecast usage Ordering cost Carrying cost
Ordering can mean either the purchase or production of the item.
31
Total Inventory Costs
Total inventory costs (T) = C (Q / 2) + O (S / Q)
Q INVENTORY (in units) Average Inventory Q/2
TIME
C: Carrying costs per unit per period O: Ordering costs per order S: Total usage during the period
32
Total Inventory Costs
EOQ (Q*) represents the minimum point in total inventory costs.
Total Inventory Costs Costs
Total Carrying Costs
Total Ordering Costs Q* Order Size (Q)
33
Order Point with Safety Stock
2200 2000
UNITS
Order Point 400 200
Safety Stock
0 18 20 38
34
DAYS
Just-in-Time
Just-in-Time -- An approach to inventory management and control in which inventories are acquired and inserted in production at the exact times they are needed.
Requirements of applying this approach:
A very accurate production and inventory information system Highly efficient purchasing Reliable suppliers Efficient inventory-handling system
35
doc_694339270.ppt