Management of
Working Capital
Module 4
Introduction
1. Working Capital is a part of the capital which is needed for meeting
day to day requirement of the business concern.
2. For example, payment to creditors, salary paid to workers, purchase
of raw materials etc., normally it consists of recurring in nature. It
can be easily converted into cash.
3. It is also known as short-term capital.
WC = CA - CL
Concepts of Working Capital
1. Working capital can be classified or understood with the help of the
following two important concepts.
2. Balance sheet
In Balance sheet concept, there are two interpretation of Working Capital
1. Gross W.C
2. Net W.C
Gross Working Capital Gross
1. Working Capital is the general concept which determines the
working capital concept.
2. Thus, the gross working capital is the capital invested in total current
assets of the business concern.
3. Gross Working Capital is simply called as the total current assets of
the concern.
4. GWC = CA
Net Working Capital
1. Net Working Capital is the specific concept, which, considers both current
assets and current liability of the concern.
2. Net Working Capital is the excess of current assets over the current liability
of the concern during a particular period.
3. If the current assets exceed the current liabilities it is said to be positive
working capital; it is reverse, it is said to be Negative working capital.
4. NWC = CA -CL
Operating Cycle Concept
NEEDS OF WORKING CAPITAL
Working Capital is an essential part of the business concern. Every business
concern must maintain certain amount of Working Capital for their day-to-
day requirements and meet the short-term obligations. Working Capital is
needed for the following purposes.
1. Purchase of raw materials and spares: The basic part of manufacturing
process is, raw materials. It should purchase frequently according to the
needs of the business concern. Hence, every business concern maintains
certain amount as Working Capital to purchase raw materials, components,
spares, etc.
2. Payment of wages and salary: The next part of Working Capital is payment
of wages and salaries to labour and employees. Periodical payment facilities
make employees perfect in their work. So a business concern maintains
adequate the amount of working capital to make the payment of wages and
salaries.
3. Day-to-day expenses: A business concern has to meet various
expenditures regarding the operations at daily basis like fuel, power,
office expenses, etc.
4. Provide credit obligations: A business concern responsible to provide
credit facilities to the customer and meet the short-term obligation.
So the concern must provide adequate Working Capital.
Classification on Working Capital
Working Capital Strategies/ Approaches
Aggressive Strategy
1. Under this approach current assets are maintained just to meet current
liability without keeping cushions for the variation in working capital needs.
2. The companies working capital is financed by long term source of capital
and seasonal variations are met through short term borrowings.
3. Adopting this strategy will minimize the investment in net working capital
and ultimately lowers the cost financing in working capital needs.
Conservative approach
1. It suggests carrying high level of current assets in relation to sales.
2. Surplus current assets enable the firm to absorb sudden variation in
sales, production plans & procurement time without destructing
production plans.
3. Higher liquidity level reduces the risk of insolvency, but lower risk
tends to lower returns.
4. So, large investment in current assets leads to higher interest and
carrying cost and better efficiency.
5. This policy enables the firm to absorb day to day risk and assures
continuous flow of operation.
6. Under this strategy, long term financing covers more than the total
requirements of capital.
Moderate Approach
1. This policy falls in the middle of conservative and aggressive policies.
This policy is known as average policy.
2. Under this policy the firm maintains equal amount of current assets and
fixed assets in terms of their total investments.
3. Working Capital of the firm is financed through Current assets as well
as fixed capital.