Financial management is an important activity with a vital role in organizing, planning, controlling, and monitoring of business resources.
It helps organizations to use their financial resources in a more efficient way to achieve their goals and objectives.
The branch of financial management which deals with the efficient management of current assets and current liabilities to ensure availability of financial assets for running of the company’s operations.
Working capital management deals with the availability of liquid assets especially cash to accommodate day to day operations of the business.
Concepts in Working Capital
There are mainly two concepts used for working capital
- Gross Working Capital
- Net Working Capital
Under the gross working capital, the total value of current assets is called gross working capital.
And the management of only current assets is referred to as gross working capital management. Following are the main components of assets comes under gross working capital
- Accounts Receivable
- Cash & Bank Balances
- Short term Investments
Net working capital management
Networking capital management is the net of the company’s current assets and current liabilities. It can be expressed in a simple mathematical formula.
Net Working Capital Management = Current Assets – Current Liabilities
In the networking capital management approach, companies try to manage their assets sides as well as the liabilities side.
The formula either gives you positive value or negative working capital, depending on the total value of current assets against the total value of current liabilities.
Following are the main components to manage under the net working capital management approach.
- Account Receivable
- Cash & Cash Equivalents
- Accounts Payable
Objectives of Working Capital Management:
Working capital management has a number of objectives, but some of its primary objectives are as follows
One of the primary and most important objectives of working capital is to facilitate and smoothen business operations. It means, to avoid any kind of problems which may arise due to the shortage of any current asset,
for example, purchasing of raw material, payment to workers, and payment to fulfill tax liability. This part is mainly concern with the availability of cash and cash equivalents.
Keep Working Capital Under Control:
Working capital is an important part of the company’s paid-up capital and if it goes out of control then there is a high risk of insolvency of business, or the company may sell out some of their long-term assets to fulfill the requirements of working capital.
Because it becomes very difficult for entities to operate with a shortage of working capital. So, for achieving a smooth operating cycle, it is important to keep the working capital requirement on the lowest side.
This objective can be achieved by managing the receivables turnover period and extend the payable period by dealing with creditors of the company along with effective inventory management.
Lowest Rate of Interest:
The current portion of interest payable is count under the head of current liabilities, so it should be managed properly to achieve a high level of profits.
If a business wants to take a loan from any bank or financial institution, it should be well negotiated and try to win the loan on a minimal interest rate.
Benefits of Working Capital Management:
If the working capital is managed in a well and professional way, there are a lot of benefits which can be achieved by entities. And if the management fails to manage working capital in a proper way then it will cost the business.
Following is the list of benefits of working capital management
- High profits than normal
- Increase the credit rating for the business
- A high amount of liquid assets
- Stable business condition
- Continues production
- Gives Competitive advantage in the market.