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WORKING CAPITAL

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  $"rking %a!ita& (abbre'iate $) is a *inan%ia& +etri% ,hi%h

re!resents "!erating &iuiit. a'ai&ab&e t" a business/

"rgani0ati"n "r "ther entit./ in%&uing g"'ern+enta& entit.A&"ng ,ith *i2e assets su%h as !&ant an eui!+ent/ ,"rking

%a!ita& is %"nsiere a !art "* "!erating %a!ita& Gr"ss ,"rking

%a!ita& eua&s t" %urrent assets $"rking %a!ita& is %a&%u&ate

as %urrent assets +inus %urrent &iabi&ities 3* %urrent assets are&ess than %urrent &iabi&ities/ an entit. has a ,"rking %a!ita&

e*i%ien%./ a&s" %a&&e a ,"rking %a!ita& e*i%it

$43G A3TAL 8 UT ASSTS : UT

L3AB3L3T3S

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Top 13 Factors that

Determine theWorin! Capita"

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• The ,"rking %a!ita& reuire+ents "* a *ir+ basi%a&&. e!en u!"n the

nature "* its business ub&i% uti&it. unertakings &ike &e%tri%it./ $ater

Su!!&. an ai&,a.s nee 'er. &i+ite ,"rking %a!ita& be%ause the.

"**er %ash sa&es "n&. an su!!&. ser'i%es/ n"t !r"u%ts/ an as su%h n"

*uns are tie u! in in'ent"ries an re%ei'ab&es

• 4n the "ther han traing an *inan%ia& *ir+s reuire &ess in'est+ent in

*i2e assets but ha'e t" in'est &arge a+"unts in %urrent assets &ike

in'ent"ries/ re%ei'ab&es an %ash/ as su%h the. nee &arge a+"unt "*

,"rking %a!ita&

• Genera&&. s!eaking it +a. be sai that !ub&i% uti&it. unertakings reuire

s+a&& a+"unt "* ,"rking %a!ita&/ traing an *inan%ia& *ir+s reuire

re&ati'e&. 'er. &arge a+"unt/ ,hereas +anu*a%turing unertakings

reuire si0ab&e ,"rking %a!ita& bet,een these t," e2tre+es

1# Nat$re or Character o%

&$siness'

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• The ,"rking %a!ita& reuire+ents "* a %"n%ern are ire%t&.

in*&uen%e b. the si0e "* its business ,hi%h +a. be +easure

in ter+s "* s%a&e "* "!erati"ns Greater the si0e "* a business

unit/ genera&&. &arger ,i&& be the reuire+ents "* ,"rking

%a!ita&

• ;",e'er/ in s"+e %ases e'en a s+a&&er %"n%ern +a. nee

+"re ,"rking %a!ita& ue t" high "'erhea %harges/ ine**i%ient

use "* a'ai&ab&e res"ur%es an "ther e%"n"+i% isa'antages"* s+a&& si0e

(# )i*e o% &$siness+)ca"e o%

Operations'

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• 3n %ertain inustries the e+an is sub

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• 3n +anu*a%turing business/ the reuire+ents "* ,"rking

%a!ita& in%rease in ire%t !r"!"rti"n t" &ength "*

+anu*a%turing !r"%ess L"nger the !r"%ess !eri" "*

+anu*a%ture/ &arger is the a+"unt "* ,"rking %a!ita&reuire The &"nger the +anu*a%turing ti+e/ the ra,

+ateria&s an "ther su!!&ies ha'e t" be %arrie *"r a

&"nger !eri" in the !r"%ess ,ith !r"gressi'e in%re+ent

"* &ab"ur an ser'i%e %"sts be*"re the *inishe !r"u%t is*ina&&. "btaine There*"re/ i* there are a&ternati'e

 !r"%esses "* !r"u%ti"n/ the !r"%ess ,ith the sh"rtest

 !r"u%ti"n !eri" sh"u& be %h"sen

.# Man$%act$rin! Process+Len!th o%

Pro,$ction C-c"e'

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• 3n %ertain inustries ra, +ateria& is n"t a'ai&ab&e

thr"ugh"ut the .ear The. ha'e t" bu. ra,

+ateria&s in bu&k uring the seas"n t" ensure an

uninterru!te *&", an !r"%ess the+ uring theentire .ear A huge a+"unt is/ thus/ b&"%ke in the

*"r+ "* +ateria& in'ent"ries uring su%h seas"n/

,hi%h gi'es rise t" +"re ,"rking %a!ita&

reuire+ents Genera&&./ uring the bus. seas"n/ a*ir+ reuires &arger ,"rking %a!ita& than in the

s&a%k seas"n

/# )easona" 0ariations'

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• 3n a +anu*a%turing %"n%ern/ the ,"rking %a!ita& %.%&e starts ,ith the !ur%hase

"* ra, +ateria& an ens ,ith the rea&i0ati"n "* %ash *r"+ the sa&e "* *inishe

 !r"u%ts This %.%&e in'"&'es !ur%hase "* ra, +ateria&s an st"res/ its

%"n'ersi"n int" st"%ks "* *inishe g""s thr"ugh ,"rk-in- !r"gress ,ith

 !r"gressi'e in%re+ent "* &ab"ur an ser'i%e %"sts/ %"n'ersi"n "* *inishe st"%k

int" sa&es/ ebt"rs an re%ei'ab&es an u&ti+ate&. rea&i0ati"n "* %ash an this

%.%&e %"ntinues again *r"+ %ash t" !ur%hase "* ra, +ateria& an s" "n

# Worin! Capita" C-c"e'

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• There is a high egree "* in'erse %"-re&ati"nshi! bet,een the

uantu+ "* ,"rking %a!ita& an the 'e&"%it. "r s!ee ,ith

,hi%h the sa&es are a**e%te A *ir+ ha'ing a high rate "* st"%k

turn"'er ,i&& nee &",er a+"unt "* ,"rking %a!ita& as

%"+!are t" a *ir+ ha'ing a &", rate "* turn"'er

• ="r e2a+!&e/ in %ase "* !re%i"us st"ne ea&ers/ the turn"'er is

'er. s&", The. ha'e t" +aintain a &arge 'ariet. "* st"%ks an

the +"'e+ent "* st"%ks is 'er. s&", Thus/ the ,"rking %a!ita&reuire+ents "* su%h a ea&er sha&& be higher than that "* a

 !r"'isi"n st"re

2# Rate o% )toc T$rnoer'

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• The %reit !"&i%. "* a %"n%ern in its ea&ings ,ith ebt"rs an

%reit"rs in*&uen%e %"nsierab&. the reuire+ents "* ,"rking

%a!ita& A %"n%ern that !ur%hases its reuire+ents "n %reit

an se&&s its !r"u%ts>ser'i%es "n %ash reuires &esser a+"unt

"* ,"rking %a!ita&

• 4n the "ther han a %"n%ern bu.ing its reuire+ents *"r %ash

an a&&",ing %reit t" its %ust"+ers/ sha&& nee &arger a+"unt

"* ,"rking %a!ita& as 'er. huge a+"unt "* *uns are b"un t" be tie u! in ebt"rs "r bi&&s re%ei'ab&es

4# Cre,it Po"ic-'

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• Business %.%&e re*ers t" a&ternate e2!ansi"n an %"ntra%ti"n in

genera& business a%ti'it. 3n a !eri" "* b""+ ie/ ,hen the

 business is !r"s!er"us/ there is a nee *"r &arger a+"unt "*

,"rking %a!ita& ue t" in%rease in sa&es/ rise in !ri%es/

"!ti+isti% e2!ansi"n "* business/ et%

• 4n the %"ntrar. in the ti+es "* e!ressi"n ie/ ,hen there is a

",n s,ing "* the %.%&e/ the business %"ntra%ts/ sa&es e%&ine/

i**i%u&ties are *a%e in %"&&e%ti"ns *r"+ ebt"rs an *ir+s +a.ha'e a &arge a+"unt "* ,"rking %a!ita& &.ing i&e

5# &$siness C-c"es'

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•  The working capital requirements of a concernincrease with the growth and expansion of itsbusiness activities. Although, it is dicult todetermine the relationship between the growth inthe volume of business and the growth in theworking capital of a business, yet it may beconcluded that for normal rate of expansion in the

volume of business, we may have retained protsto provide for more working capital but in fastgrowing concerns, we shall require larger amountof working capital.

16# Rate o% Gro7th o% &$siness'

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• S"+e *ir+s ha'e +"re earning %a!a%it. than "thers ue t"

ua&it. "* their !r"u%ts/ +"n"!"&. %"niti"ns/ et% Su%h *ir+s

,ith high earning %a!a%it. +a. generate %ash !r"*its *r"+

"!erati"ns an %"ntribute t" their ,"rking %a!ita&

• The i'ien !"&i%. "* a %"n%ern a&s" in*&uen%es the

reuire+ents "* its ,"rking %a!ita& A *ir+ that +aintains a

stea. high rate "* %ash i'ien irres!e%ti'e "* its generati"n

"* !r"*its nees +"re ,"rking %a!ita& than the *ir+ that retains&arger !art "* its !r"*its an "es n"t !a. s" high rate "* %ash

i'ien

11# Earnin! Capacit- an, Dii,en, Po"ic-'

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1(# Price Lee" Chan!es'• hanges in the !ri%e &e'e& a&s" a**e%t the ,"rking %a!ita&

reuire+ents Genera&&./ the rising !ri%es ,i&& reuire the *ir+t" +aintain &arger a+"unt "* ,"rking %a!ita& as +"re *uns

,i&& be reuire t" +aintain the sa+e %urrent assets The e**e%t

"* rising !ri%es +a. be i**erent *"r i**erent *ir+s S"+e

*ir+s +a. be a**e%te +u%h ,hi&e s"+e "thers +a. n"t bea**e%te b. the rise in !ri%es

13# Other Factors'• ertain "ther *a%t"rs su%h as "!erating e**i%ien%./ +anage+ent

abi&it./ irregu&arities "* su!!&./ i+!"rt !"&i%./ asset stru%ture/

i+!"rtan%e "* &ab"ur/ banking *a%i&ities/ et%/ a&s" in*&uen%e the

reuire+ents "* ,"rking %a!ita&

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S"ur%es "* *inan%ing

,"rking %a!ita&

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Trade credit

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Trade credit refers to the credit that a customer gets fromsupplier of goods in the normal course of business.

This transaction is not formally acknowledged as debt as nolegal instrument is signed.

Trade credit appears as sundry creditor on the buyers balancesheet.

Trade credit may also take the form of bills payable.

Firm delays the payment of credit beyond due date , it is called

stretching account payable

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Credit Terms• redit terms refer to the conditions under which the

supplier sells on credit to the buyer, and the buyer isrequired to repay the credit.

  DUE DATE !t is the date by which thesupplier expects the payment. redit terms indicatethe length and beginning date of the credit period.

  CA!" D#!C$U%T !t is the concessiono"ered to the buyer by the supplier to encourage himto make prompt payments.

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&ene'ts and costs

 Trade credit expands with the increase in volume ofpurchase.

  #g.

 !nitial purchase $ %&,&&& per day'ew purchase $ (&,&&& per day

rm makes payment on )%th day i.e. *net )%+

  Average accounts payable outstanding will expand

from $ %&,&&& x )% $ s. --.%& lakh

  to $ (&,&&&x )% $ s. - lakh

/ 0 Ad t

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/a0or Advantages

 

!t is relatively easy to obtain, only in case of nancially unsoundrms. !t is almost automatic and does not require any

negotiation

As trade credit grows with the growth in rms sales where as ifsales will reduce , purchase will reduce and consequently trade

credit will also decline

!t is informal spontaneous source of nance . !t does not requireany negotiation and formal agreement.

 

#%F$()A*#T+  

EA!+

AA#*A*#T+

F*E-#*#T+ 

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ash discounts

#xample 1redit $ s.2,&&,&&& 3net )%45iscount $ -6 if payed with in 2% days

7ess amount $ 2,&&,&&& 8 .&- x 2,&&,&&& $ 9:,&&&

!mplicit !nterest rate $ 6 discount x;(&

2&&86 discount creditperiod8discount period

$-).% 6 3 annual opportunity cost of forgoing cash

!f buyer takes discount , he benets in terms of less cash out

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!n addition to trade credit, these are other spontaneous sources ofshort term nancing. Accrued expenses are more automatic source

since they permit the rm to receive services before paying forthem.

Accrued expenses represent a liability that a rm has to pay for theservices which it has already received. The most important

components of accruals are wages and salaries, taxes and interest.

Accrued wages and salaries are obligations payable by the rm to itsemployees. They are paid afterwards usually a xed interval like one

month.

Accrued taxes and interest are other source of nancing. orporatetaxes are paid after attaining prots. This is a deferred payment of

the rm=s obligation and thus, is a source of nance.

A>#5 #?@#'# A'5 5#B##5 !'C/#

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7ike taxes, interest is paid periodically during a year while the rmcontinuously uses the borrowed funds. Thus accrued interest on

borrowed funds can be used as a source of nancing.

 The most important component of deferred income is advance payments made by customers since these payments are notrecorded as revenue until goods and services are delivered.

5eferred income represents funds received by the rm for goods andservices which it has agreed to supply in future. These receipts

increase the rm=s liquidity in the form of cash so they are importantsource of nancing.

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C//#!A7 @A@# 3@4

!t is an important money market instrument to raise short termfunds. !n !'5!A, on the recommendation of DAEF>7 GCH!'E group,

the I! introduced this scheme in 29:9.

!t is a form of unsecured promissory note issued by rms to raiseshort term funds. The buyers of @ are banks, insurance companies,

unit trusts, etc.

># A'5 /AT>!TJ1 I! regulates the issue of @. ompanies which are having a net

worth of s. 2& crores are only allowed to issue @=s.

DAEF>7 GCH!'E EC>@ #C//#'5AT!C'1iKe of single issue should be atleast s. 2crore and the siKe of each

commercial paper should not be less than s. % lakh.

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/AT>!TJ CB @=1!n >A it runs from 2 to -& days. !n !'5!A, the maturity runs

between 92 to 2:& days.

CT !'DC7D#51 Though I! regulates issue of @, the market determines the interestrate.

!nterest rate on @=s is generally less than bank borrowing rate. Arm does not pay interest on @ rather sells it at a discount rate from

face value.

 The yield calculated on this basis is known as interest yield.

!nterest yield $ Lface valueM N Lsales priceM O sales price PL;(& O daysof maturityM

#xample1 A rm sells 2-& day @3 s. 2&& face value4 for s. 9( net,the interest yield will be1

!'T. J!#75$ L2&& N 9(M O 9( P L ;(&O2-&M$ 2-.%6

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#T!B!AT# CB 5#@C!T35s4

A 5 is a marketable receipt of funds deposited in a bank for a xedperiod at a specied rate of interest.

 They are attractive to both the bankers and the investors in the

sense that banker is not required to encash the deposit prematurelywhile the investors can sell the 5=s in the secondary market before

its maturity.

#7!E!I!7!TJ1

 The 5=s can be issued by commercial banks and all !ndia B!=s.

#Q>!#/#'T1 The minimum amount of a 5 should be s. 2 lakh.

 The maturity period of 5 issued by bank should be between 2%days and 2 year while in case of B!=s it is 28; years.

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  BC/AT1

 The 5=s should be issued only in demat form. !ssuance of 5=s inphysical form, if any, should be separately reported to the I!.

 TA'B#AI!7!TJ1 There is no lock in period for the 5=s. the physical 5=s can be

freely transferred by endorsement and delivery. The demated 5scan be transferred as per the applicable procedure.

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&ANK CREDIT

Bank %reit is the !ri+ar. instituti"na& s"ur%e "*

,"rking %a!ita& *inan%e in 3nia

3t re!resents the +"st i+!"rtant s"ur%e *"r *inan%ing "*

%urrent assets

• $"rking a!ita& 8 urrent Assets-urrent Liabi&ities

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FORM) OF CREDIT

$"rking %a!ita& *inan%e is !r"'ie b. banks in

5 ,a.s?-

ash reits

L"ans

ur%hase Bi&&s

Letter "* reit$"rking a!ita& Ter+ L"ans

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CA)8 CREDIT)

3n this/ &an speci%ies a !reeter+ine %reit &i+it

The b"rr",er %an ,ra7 $p to the stip$"ate, cre,it "imit

$ithin the "imit o% cre,it/ an. nu+ber "* ra,ings are

 !"ssib&e t" the e2tent "* his reuire+ents !eri"i%a&&.

Interest is eter+ine "n the basis "* the r$nnin!

9a"ance a%tua&&. uti&i0e b. the b"rr",er

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LOAN)ntire a+"unt "* b"rr",ing is %reite t" the

%urrent a%%"unt "* the b"rr",er "r re&ease in

%ash@

B"rr",er has t" !a. interest "n the t"ta& a+"unt

The &"ans are re!a.ab&e "n e+an "r in

 !eri"i% insta&&+ents

The. %an a&s" be rene,e *r"+ ti+e t" ti+e

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LETTER) OF CREDIT

3ts an in,irect *"r+ "* ,"rking %a!ita& *inan%ing

;ere/ banks ass$me on"- the ris 

reit is !r"'ie 9- s$pp"ier hi+se&*

Su!!&ier se&&s g""s "n %reit t" the !ur%haser/ the

9an !ies a !$arantee an 9ears ris "n&. in

%ase "* ,e%a$"t 9- the p$rchaser

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TERM LOAN) FOR WORKING

CAPITAL

Ianks advance loans for /0 years.

7oans are repayable in yearly or

half/yearly installments.

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MODE) OF )EC:RIT<

;.!"the%ati"n

&ege

Lien

M"rtgage

harge

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PLEDGE

;ere/ !oo,s "**ere as se%urit. are trans*erre

t" the ph-sica" possession o% the "en,er

G""s "**ere as se%urit. re+ain uner the

c$sto,- o% 9an 

reates "ia9i"ities %or the 9an 

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LIEN

3t is the right "* a !art. t" retain g""s

 be&"nging t" an"ther !art. $nti" a ,e9t ,$e to

him is pai,

3t is "* t.!es?

3 arti%u&ar- retain g""s unti& %&ai+ *u&&. !ai

33 Genera&- ti&& a&& ues are "* %&ai+ant are !ai

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MORTGAGE

3n'"&'es the trans*er "* i++"'ab&e !r"!ert.

*"r se%uring a !a.+ent "* ebt

The instru+ent "* trans*er is %a&&e mort!a!e

,ee,

The +"rtgage interest in !r"!ert. is ter+inate

as s""n as the ebt is !ai

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C8ARGE

3++"'ab&e !r"!ert. is +ae se%urit. b. the

a%t "* !arties "r "!erati"n "* &a, *"r the

 !a.+ent "* +"ne. t" an"ther

The transa%ti"n ,oes not amo$nt to

mort!a!e

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