A thorough analysis of working capital management

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A DISSERTATION REPORT
On
WORKING CAPITAL MANAGEMENT
Banaras Hindu University
Varanasi, 221005.
Submitted By:- Supervised By:-
Rajeshwar Ojha Dr. Vikas Kumar Jaiswal
Roll No- 15415MFM040 Assistant Professor
Master of Business Administration Faculty of Commerce
(Financial Management) Banaras Hindu University
Batch (2015-2017)

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CERTIFICATION
This is to certify that Mr. Rajeshwar Ojha session (2015-2017) has
completed the dissertation work in partial fulfilment of degree of
“Master of Business Administration (Financial Management)” under
my supervision and guidance.
His dissertation work entitled “Working Capital
Management” embodies result of his findings. During this period, he
was found sincere and dedicated to his work. I wish him success in
future.
Supervised By,
_____________________
Dr. Vikas Kumar Jaiswal
Assistant Professor, Faculty of Commerce
Banaras Hindu University
Varanasi, 221005.

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ACKNOWLEDGEMENT
My project report is an accumulation of endeavour of many people. I
would like to express my sincere gratitude to everyone who contributed
in some way or the other towards preparation of this project report and
making this study successful.
First of all, I would express my sincere gratitude
towards my executive guide Dr. Vikas Kumar Jaiswal, Assistant
Professor (Faculty of Commerce) for his valuable guidance, keen
interest and encouragement at various stages of my project. I am deeply
indebted to his whole hearted supervision, guidance, suggestions and
very constructive criticism, which have contributed immensely to the
evolution of my ideas on the project.
I would also like to thank my faculty, Faculty of
Commerce for giving me an opportunity to do my project in this
eminent organization. The experience and knowledge gained in the
faculty helped me to understand different aspects of my study. I am
grateful to entire faculty for the support and friendly and helpful
environment during the course of this project.

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Index of contents
Page No. Contents
5) Introduction,
8) Working Capital & its types,
12) Management of Working Capital,
15) Sources of Working Capital & Approaches of
financing mix,
17) Management of components of Working Capital,
18) Management of Cash,
27) Cash Management Models,
30) Management of Inventories,
36) Management of Accounts Receivables,
41) Management of Accounts Payables,
46) Key Working Capital Ratios
49) Conclusion
50) Bibliography

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INTRODUCTION
Working capital (abbreviated WC) is a financial metric which
represents operating liquidity available to a business, organization or
other entity, including governmental entity. Along with fixed assets
such as plant and equipment, working capital is considered a part of
operating capital. Net working capital is calculated as current assets
minus current liabilities. It is a derivation of working capital that is
commonly used in valuation techniques such as DCFs (Discounted
cash flows). If current assets are less than current liabilities, an entity
has a working capital deficiency, also called a working capital deficit.
A company can be endowed with assets and
profitability but short of liquidity if its assets cannot readily be
converted into cash. Positive working capital is required to ensure that
a firm is able to continue its operations and that it has sufficient funds
to satisfy both maturing short-term debt and upcoming operational
expenses. The management of working capital involves managing
inventories, accounts receivable and payable, and cash.
Decisions relating to working capital and short term
financing are referred to as Working capital management. These
involve managing the relationship between a firm's short-term assets
and its short-term liabilities. The goal of working capital management
is to ensure that the firm is able to continue its operations and that it has
sufficient cash flow to satisfy both maturing short-term debt and
upcoming operational expenses.
A popular measure of working capital management is
the cash conversion cycle, that is, the time span between the
expenditure for the purchases of raw materials and the collection of
sales of finished goods for example, found that the longer the time lag,
the larger the investment in working capital. A long cash conversion
cycle might increase profitability because it leads to higher sales.
However, corporate profitability might decrease with the cash
conversion cycle, if the costs of higher investment in working capital

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rise faster than the benefits of holding more inventories and/or granting
more trade credit to customers.
For many manufacturing firms the current assets
account for over half of their total assets. The management of working
capital may have both negative and positive impact of the firm‟s
profitability, which in turn, has negative and positive impact on the
shareholders‟ wealth. The present study seeks to explore in detail these
effects. Firms may have an optimal level of working capital that
maximizes their value. Large inventory and generous trade credit
policy may lead to high sales. The larger inventory also reduces the risk
of a stock-out. Trade credit may stimulate sales because it allows a firm
to access product quality before paying.
Another component of working capital is accounts
payables. It is believed that delaying payment of accounts payable to
suppliers allows firms to access the quality of bough products and can
be expensive if a firm is offered a discount for the early payment. By
the same token, uncollected accounts receivables can lead to cash
inflow problems for the firm.
Management of working capital :
Guided by the above criteria, management will use a
combination of policies and techniques for the management of working
capital. The policies aim at managing the current assets (generally cash
and cash equivalents, inventories and debtors) and the short term
financing, such that cash flows and returns are acceptable.
• Cash management. Identify the cash balance which allows for the
business to meet day to day expenses, but reduces cash holding costs.
• Inventory management. Identify the level of inventory which allows
for uninterrupted production but reduces the investment in raw
materials - and minimizes reordering costs - and hence increases cash
flow. Besides this, the lead times in production should be lowered to

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reduce Work in Process (WIP) and similarly, the Finished Goods
should be kept on as low level as possible to avoid over production -
see Supply chain management; Just In Time (JIT); Economic order
quantity (EOQ); Economic quantity.
• Receivables management. Identify the appropriate credit policy, i.e.
credit terms which will attract customers, such that any impact on cash
flows and the cash conversion cycle will be offset by increased revenue
and hence Return on Capital (or vice versa); see Discounts and
allowances.
• Short term financing. Identify the appropriate source of financing,
given the cash conversion cycle: the inventory is ideally financed by
credit granted by the supplier; however, it may be necessary to utilize
a bank loan (or overdraft), or to "convert debtors to cash" through
"factoring".

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WORKING CAPITAL
The basic objective of financial management is to maximize
shareholder’s wealth. This is possible only when the company earns
sufficient profit. The amount of such profit largely depends upon the
magnitude of sales.
However, sales do not convert into cash
instantaneously. There is always time gap between the sale of goods
and receipt of cash. Working capital is required for this period in order
to sustain the sales activity. For one thing, the current assets of a typical
manufacturing firm account for half of its total assets. For a distribution
company, they account for even more. Working capital requires
continuous day to day supervision. Working capital has the effect on
company's risk, return and share prices.
There is an inevitable relationship between sales growth
and the level of current assets. The target sales level can be achieved
only if supported by adequate working capital Inefficient working
capital management may lead to insolvency of the firm if it is not in a
position to meet its liabilities and commitments.
OPERATING CYCLE :-
Cash
Raw materials
Accounts Receivables
Finished goods
Work in Progress

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TYPES OF WORKING CAPITAL :-
PERMANENT WORKING CAPITAL: -
This refers to that minimum amount of
investment in all current assets which is required at all times to carry
out minimum level of business activities. It represents the current assets
required on a continuing basis over the entire year.
KINDS OF WORKING
CAPITAL
ON THE
BASIS OF
CONCEPT
GROSS
WORKING
CAPITAL
NET
WORKING
CAPITAL
ON THE
BASIS OF
TIME
PERMANENT
/FIXED
WORKING
CAPITAL
REGULAR
WORKING
CAPITAL
RESERVE
WORKING
CAPITAL
TEMPORARY
/VARIABLE
WORKING
CAPITAL
SEASONAL
WORKING
CAPITAL
SPECIAL
WORKING
CAPITAL

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Tandon committee has referred to this type of working capital as “core
current assets”.
The following are the characteristics of this type of working capital:-
1. Amount of permanent working capital remains in the business in
one form or another. This is particularly important from the point
of view of financing. The suppliers of such working capital
should not expect its return during the lifetime of the firm.
2. It also grows with the size of the business.
Permanent working capital is permanently needed for the business and
therefore it should be financed out of long-term funds.
This is the reason why the current ratio has to be substantially more
than ‘1’.
TEMPORARY OR VARIABLE WORKING CAPITAL: -
The amount of such working capital keeps
on fluctuating from time to time on the basis of business activities.
In other words, it represents additional current assets required at
different times during the operating year.
REASONS FOR ADEQUATE WORKING CAPITAL: -
A firm must have adequate working capital, i.e., as much as
needed by the firm.
It should neither have excessive nor inadequate. Both situations
are dangerous. Excessive working capital means the firm has idle
funds, which earn no profit for the firm. Inadequate working capital
means the firm does not have sufficient funds for running its operations,

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which ultimately results in production interruptions, and lowering
down the profitability.
It will be interesting to understand the relation between
working capital, risk and return. In a manufacturing concern, it is
generally accepted that higher levels of working capital decrease the
risk and decrease the profitability too.
While lower levels of working capital increase the risk
but have the potentiality of increasing the profitability also.
This principle is based on the following assumptions: -
(i) There is direct relationship between risk and profitability --- higher
is the risk, higher is the profitability, while lower is the risk, lower is
the profitability.
(ii) Current assets are less profitable than fixed assets.
(iii) Short-term funds are less expensive than long-term funds.

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MANAGEMENT OF WORKING CAPITAL:-
Working capital refers to all aspects of the administration of both
current assets and current liabilities.
In other words, working capital management is concerned with the
problems that arise in attempting to manage the current assets, the
current liabilities and the interrelationships that exist between them.
Moreover, different components of working capital are to be
properly balanced in such a way that during one complete production
or trade cycle the cash should be available for purchase of fresh
material and for running the business including operating expenses,
after realization of sale proceeds of earlier cycle without any hurdles.
In the absence of such situation, the financial position in respect of the
firm’s liquidity may not be satisfactory in spite of satisfactory liquidity
ratio.
Working capital management policy have a great effect on
firm’s profitability, liquidity and its structural health.
A finance manager should therefore, chalk out appropriate
working capital management policies in respect of each of the
components of working capital so as to ensure higher profitability,
proper liquidity and sound structural health of the organization.
In order to achieve this objective the finance manager has to perform
basically following two functions: -
1) Estimating the amount of working capital.
2) Sources from which these funds have to be raised.
In order to determine the amount of working capital needed by a
firm, a number of factors viz. production policies, nature of business,
length of manufacturing process, rapidity of turnover, seasonal
fluctuations, etc. are to be considered by the finance manager.

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TECHNIQUES FOR ASSESSMENT OF WORKING CAPITAL
REQUIREMENTS: -
1. ESTIMATION OF COMPONENTS OF WORKING CAPITAL
METHOD: -
Since working capital is the excess of current assets over current
liabilities, an assessment of the working capital requirements can be
made by estimating the amounts of different constituents of working
capital e.g., inventories, accounts receivable, cash, accounts payable,
etc.
2. PERCENT OF SALES APPROACH:-
This is a traditional and simple method of estimating working
capital requirements.
According to this method, on the basis of past experience
between sales and working capital requirements, a ratio can be
determined for estimating the working capital requirements in future.
3. OPERATING CYCLE APPROACH: -
According to this approach, the requirements of working capital
depend upon the operating cycle of the business.
The operating cycle begins with the acquisition of raw materials
and ends with the collection of receivables
It may be broadly classified into the following four stages viz.
1. Raw materials and stores storage stage.
2. Work-in-progress stage.
3. Finished goods inventory stage.
4. Receivables collection stage.
The duration of the operating cycle for the purpose of estimating
working capital requirements is equivalent to the sum of the durations

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of each of these stages less the credit period allowed by the suppliers
of the firm.
Symbolically the duration of the working capital cycle can be put as
follows: -
O=R+W+F+D-C
Where,
O=Duration of operating cycle;
R=Raw materials and stores storage period;
W=Work-in-progress period;
F=Finished stock storage period;
D=Debtors collection period;
C=Creditors payment period.
Each of the components of the operating cycle can be calculated as
follows: -
R= Average stock of raw materials and stores
Average raw materials and stores consumptions per day
W=Average work-in-progress inventory
Average cost of production per day
D=Average book debts
Average credit sales per day
C=Average trade creditors
Average credit purchases per day
After computing the period of one operating cycle, the total
number of operating cycles that can be computed during a year can be
computed by dividing 365 days with number of operating days in a
cycle. The total expenditure in the year when year when divided by the
number of operating cycles in a year will give the average amount of
the working capital requirement.

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SOURCES OF WORKING CAPITAL :-
The working capital requirements should be met both from short-
term as well long-term sources of funds. Its will be appropriate to meet
at least 2/3rd
(if not the whole) of the permanent working capital
requirements from long-term sources and only for the period needed.
The financing of working capital through short-term sources of
funds has the benefits of lower cost and establishing close relationship
with the banks.
Financing of working capital from long-term resources provides
the following benefits:
(i) It reduces risk, since the need to repay loans at frequent
intervals is eliminated.
(ii) It increases liquidity since the firm has not to worry about the
payment of these funds in the near future.
APPROACHES FOR DETERMINING THE FINANCING
MIX:-
There are three basic approaches for determining the working capital
financing mix.
(i) THE HEDGING APPRAOCH:-
According to this approach, the maturity of source of funds
should match the nature of assets to be financed.
The approach is, therefore, termed as “Matching approach”.
It divides requirements of total working capital funds into two
categories.
a) Permanent working capital, i.e., funds required for purchase of
core current assets. Such funds do not vary over time.
b) Temporary or seasonal working capital, i.e., funds which
fluctuate over time.

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The permanent working capital requirements should be financed
by long-term funds while the seasonal working capital
requirements should be financed out of short-term funds.
(ii) THE CONSERVATIVE APPROACH: -
According to this approach all requirements of funds should be
met from long-term sources.
The short-term sources should be used only for emergency
requirements.
The conservative approach is less risky, but more costly as
compared to the hedging approach.
In other words conservative approach is “low profit-low risk” (or
high cost, high net working capital) while hedging approach results in
high profit-high risk (or low cost, low net working capital).
(iii) TRADE-OFF BETWEEN HEDGING AND
CONSERVATIVE APPROACH: -
The hedging and conservative approaches are both on two
extremes.
Neither of them can therefore help in efficient working capital
management. A trade-off between these two can give satisfactory
results. The level of such trade-off will differ from case to case
depending upon perception of the risk by the persons involved in
financial decision-making. However, one way of determining the level
of trade-off is by finding the average of the minimum and the maximum
requirements of working capital during a period. The average working
capital so obtained may be financed by long-term funds and the balance
by short-term funds.

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Management of different components of working capital:-
Working capital management involves management of different
components of working capital such as cash, inventories, accounts
receivable, creditors, etc.
MANAGEMENT OF CASH-
It is the duty of the finance manager to provide adequate cash to
all segments of the organization. He also has to ensure that no funds are
blocked in idle cash since this will involve cost in terms of interest to
the business. A sound cash management scheme, therefore, maintains
the balance between the twin objectives of liquidity and cost.
Meaning of cash
The term “cash” with reference to cash management is used in
two senses. In a narrower sense it includes coins, currency notes,
cheques, bank drafts held by a firm with it and the demand deposits
held by it in banks.
In a broader sense it also includes “near-cash assets”
such as, marketable securities and time deposits with banks.
Such securities or deposits can immediately be sold or converted into
cash if the circumstances require. The term cash management is
generally used for management of both cash and near-cash assets.
Motives for holding cash
A distinguishing feature of cash as an asset, irrespective of the
firm in which it is held, is that it does not earn any substantial return
for the business. In spite of this fact cash is held by the firm with
following motives.
1. Transaction motive
A firm enters into a variety of business transactions resulting in
both inflows and outflows. In order to meet the business obligation in
such a situation, it is necessary to maintain adequate cash balance.

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Thus, cash balance is kept by the firms with the motive of meeting
routine business payments.
2.Precautionary motive
A firm keeps cash balance to meet unexpected cash needs arising
out of unexpected contingencies such as floods, strikes, presentment of
bills for payment earlier than the expected date, unexpected slowing
down of collection of accounts receivable, sharp increase in prices of
raw materials, etc. The more is the possibility of such contingencies
more is the cash kept by the firm for meeting them.
3.Speculative motive
A firm also keeps cash balance to take advantage of unexpected
opportunities, typically outside the normal course of the business. Such
motive is, therefore, of purely a speculative nature.
For example,
A firm may like to take advantage of an opportunity of purchasing
raw materials at the reduced price on payment of immediate cash or
delay purchase of raw materials in anticipation of decline in prices.
4.Compensation motive
Banks provide certain services to their clients free of charge.
They, therefore, usually require clients to keep a minimum cash balance
with them, which help them to earn interest and thus compensate them
for the free services so provided.
Business firms normally do not enter into speculative activities and,
therefore, out of the four motives of holding cash balances, the two
most important motives are the compensation motive.
Objectives of cash management-
There are two basic objectives of cash management:
1. To meet the cash disbursement needs as per the payment
schedule;
2. To minimize the amount locked up as cash balances.

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1.Meeting cash disbursements:
The first basic objective of cash management is to meet the
payments Schedule. In other words, the firm should have sufficient
cash to meet the various requirements of the firm at different periods
of times. The business has to make payment for purchase of raw
materials, wages, taxes, purchases of plant, etc. The business activity
may come to a grinding halt if the payment schedule is not maintained.
Cash has, therefore, been aptly described as the “oil to lubricate the
ever-turning wheels of the business, without it the process grinds to a
stop.”
2.Minimizing funds locked up as cash balances:
The second basic objective of cash management is to minimize
the amount locked up as cash balances. In the process of minimizing
the cash balances, the finance manager is confronted with two
conflicting aspects. A higher cash balance ensures proper payment with
all its advantages. But this will result in a large balance of cash
remaining idle. Low level of cash balance may result in failure of the
firm to meet the payment schedule.
The finance manager should, therefore, try to have an optimum
amount of cash balance keeping the above facts in view.
Cash management ( basic problems):
Cash management involves the following four basic problems:
1. Controlling levels of cash;
2. Controlling inflows of cash;
3. Controlling outflows of cash;
4. Optimum investment of surplus cash.
1.Controlling levels of cash
One of the basic objectives of cash management is to minimize
the level of cash balance with the firm. This objective is sought to be
achieved by means of the following: -

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(i) Preparing cash budget:
Cash budget or cash forecasting is the most significant
device for planning and controlling the use of cash. It involves a
projection of future cash receipts and cash disbursements of the firm
over various intervals of time. It reveals to the finance manager the
timings and amount of expected cash inflows and outflows over a
period studied. With this information, he is better able to determine the
future cash needs of the firm, plan for the financing of these needs and
exercise control over the cash and liquidity of the firm.
Thus in case a cash budget is properly prepared it
correctly reveals the timings and size of net cash flows as well as the
periods during which the excess cash may be available for temporary
investment. In a small company, the preparation of cash budget or a
cash forecast does not involve much of complications and, therefore,
relatively a minor job. However, in case of big companies, it is almost
a full time job handled by a senior person, namely, the budget controller
or the treasurer.
(ii) Providing for unpredictable discrepancies:
Cash budget predicts discrepancies between cash inflows and
outflows on the basis of normal business activities. It does not take into
account discrepancies between cash inflows and cash outflows on
account of unforeseen circumstances such as strikes, short-term
recession, floods, etc. a certain minimum amount of cash balance has,
therefore, to be kept for meeting such unforeseen contingencies. Such
amount is fixed on the basis of past experience and some intuition
regarding the future.
(iii) Consideration of short costs:
The term short cost refers to the cost incurred as a result of
shortage of cash. Such costs may take any of the following forms:

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(a) The failure of the firm to meet its obligations in time may result
in legal action by the firm’s creditors against the firm. This
cost is in terms of fall in the firm’s reputation besides financial
costs incurred in defending the suit;
(b) Borrowing may have to be resorted to at high rate of interest.
The firm may also be required to pay penalties, etc., to banks
for not meeting the obligations in time.
(iv) Availability of other sources of funds:
A firm can avoid holding unnecessary large balance of cash for
contingencies in case it has adequate arrangements with its bankers for
borrowing money in times of emergencies. For such arrangements the
firm has to pay a slightly higher rate of interest than that on a long-term
debt. But considerable saving in interest costs will be effected because
such interest will have to be paid only for shorter period.
2. Controlling inflows of cash
Having prepared the cash budget, the finance manager
should also ensure that there is no significant deviation between the
projected cash inflows and the projected cash outflows. This requires
controlling of both inflows as well as outflows of cash.
Speedier collection of cash can be made possible by
adoption of the following techniques, which have been found to be
quite useful and effective.
(i) Concentration Banking:
Concentration banking is a system of decentralizing
collections of accounts receivables in case of large firms having their
business spread over a large area. According to this system, a large
number of collection centers are established by the firm in different
areas selected on geographical basis. The firm opens its bank accounts
in local banks of different areas where it has its collection centers. The

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collection centers are required to collect cheques from their customers
and deposits them in the local bank account. Instructions are given to
the local collection centers to transfer funds over a certain limit daily
telegraphically to the bank at the head office. This facilitates fast
movements of funds.
The company’s treasurer on the basis of the daily report received
from the head office bank about the collected funds can use them for
disbursement according to needs.
This system of concentration banking results in the following
advantages:
(a) The mailing time is reduced since the collection centers themselves
collect cheques from the customers and immediately deposit them
in local bank accounts. Moreover, when the local collection centres
are also used to prepare and send bills to the customers in their
areas, the mailing time in sending bills to the customer is also
reduced;
(b) The time required to collect cheques is also reduced since the
cheques deposited in the local bank accounts are usually drawn on
banks in that area.
This helps in quicker collection of cash.
(ii) Lock-box system:
Lock-box system is a further step in speeding up collection of
cash. In case of concentration banking cheques are received by
collection centres who, after processing, deposit them in the local bank
accounts. Thus, there is time gap between actual receipt of cheques by
a collection centre and its actual depositing in the local bank account.
Lock-box system has been devised to eliminate delay on account
of this time gap.
According to this system, the firm hires a post-office box and
instructs its customers to mail their remittances to the box. The firm’s
local bank is given the authority to pick the remittances directly from
the post-office box. The bank picks up the mail several times a day and
deposits the cheques in the firm’s account. Standing instructions are

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given to the local bank to transfer funds to the head office bank when
they exceed a particular limit.
The Lock-Box system offers the following advantages:
(a) All remittances are handled by the banks even prior to their
deposits with them at a very low cost;
(b) The cheques are deposited immediately upon receipt of
remittances and the collecting process starts much earlier than
that under the system of concentration banking.
3.Control over cash flows:
An effective control over cash outflows or disbursements also
helps a firm in conserving cash and reducing financial requirements.
However, there is a basic difference between the underlying objective
of exercising control over cash inflows and cash outflows.
In case of the former, the objective is the maximum acceleration
of collections while in the case of latter, it is to slow down the
disbursements as much as possible. The combination of fast collections
and slow disbursements will result in maximum availability of funds.
A firm can advantageously control outflows of cash if the
following considerations are kept in view:
(i) Centralized system of disbursement should be followed as
compared to decentralized system in case of collections.
All payments should be made from a single control
account. This will result in delay in presentment of
cheques for payment by parties who are away from the
place of control account.
(ii) Payments should be made on the due dates, neither before
nor after. The firm should neither lose cash discount nor
its prestige on account of delay in payments. In other
words, the firm should pay within the terms offered by the
suppliers.
(iii) The firm may use the technique of “playing float” for
maximizing the availability of funds. The term float refers

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to the period taken from one stage to another in the cash
collection process.
It can be of the following types: -
(i) Billing float:
It refers to the time interval between the making
of a formal invoice by the seller for the goods sold and
mailing the invoice to the purchaser;
(ii) Capital float:
It refers to the time, which elapses between
receiving of the cheque by the post office or other messenger
from the buyer till it is actually delivered to the seller.
(iii) Cheque processing float:
It refers to the time required for the seller to sort,
record and deposit the cheque after it has been received by
him.
(iv) Bank processing float:
This refers to the time period which elapses
between deposit of the cheque with the banker and final credit
of funds by the banker to the seller’s account.
4.Investing surplus cash:
(i) Determination of the amount of surplus cash;
(ii) Determination of the channels of investments.
(i) Determining of surplus cash
Surplus cash is the cash in excess of the firm’s normal cash
requirements. While determining the amount of surplus cash, the

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finance manager has to take into account the minimum cash balance
that the firm must keep to avoid risk or cost of running out of funds.
Such minimum level may be termed a “safety level of cash”.
Determining safety level for cash
The finance manager determines the safety level of cash
separately both for normal periods and peak periods.
In both the cases, he has to decide about the following two basic factors:
(a) Desired days of cash:
It means the number of days for which cash balance should be
sufficient to cover payments.
(b) Average daily cash outflows:
This means the average amount of disbursements, which will
have to be made daily.
The “desired days of cash” and “ average daily cash outflows” are
separately determined for normal and peak periods. Having determined
them, safety level of cash can be calculated as follows:
During normal periods:
Safety level of cash = Desired days of cash x average daily cash
outflows.
During peak periods:
Safety level of cash = Desired days of cash at the busiest period x
Average of highest daily cash outflows.
(ii) Determining of channels of investments:
The finance manager can determine the amount of surplus cash,
by comparing the actual amount of cash available with the safety or
minimum level of cash. Such surplus may be either of a temporary or a
permanent nature.
Temporary cash surplus consists of funds, which are available for
investment on a short-term basis (maximum 6 months), since they

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are required to meet regular obligations such as those of taxes,
dividends, etc.
Permanent cash surplus consists of funds, which are kept by the firm to
avail of some unforeseen profitable opportunity of expansion or
acquisition of some asset. Such funds are, therefore, available for
investment for a period ranging from six months to a year.
Criteria for investment
In most of the companies there are usually no written instructions
for investing the surplus cash. It is left to the discretion and judgement;
he usually takes into consideration the following factors:
(i) Security:
This can be ensured by investing money in securities whose
price remain more or less stable.
(ii) Liquidity:
This can be ensured by investing money in short-term
securities including short-term fixed deposits with bank.
(iii) Yield:
Most corporate managers give less emphasis to yield as
compared to security and liquidity of investment. They, therefore,
prefer short-term government securities for investing surplus cash.
However, some corporate managers follow aggressive investment
policies, which maximize the yield on their investments.
(iv) Maturity:
Surplus cash is available not for an indefinite period. Hence, it
will be advisable to select securities according to their maturities
keeping in view the period for which surplus cash is available. If such
selection is done carefully, the finance manager can maximize the yield
as well as maintain the liquidity of investments.

27. 27 | P a g e
Cash management models:
Several types of cash management models have been recently designed
to help in determining optimum cash balance. These models are
interesting and are beginning to be used in practice.
Two of such models are given below:
1.Baumol model: -
This model was suggested by William J Baumol. It is similar to
one used for determination of economic order quantity.
According to this model, optimum cash level is that level of cash where
the carrying costs and transactions costs are the minimum.
Carrying costs
This refers to the cost of holding cash, namely, the interest
foregone on marketable securities. They may also be termed as
opportunity cost of keeping cash balance.
Transaction costs
This refers to the cost involved in getting the marketable
securities converted into cash. This happens when the firm falls short
of cash and to sell the securities resulting in clerical, brokerage,
registration and other costs.
There is an inverse relationship between the two costs. When one
increases, the other decreases, the other decreases. Hence, optimum
cash level will be at that point where these two costs are equal.

28. 28 | P a g e
The formula for determining optimum cash balance can be put as
follows:
C= 2U x P
S
Where,
C = Optimum cash balance
U = Annual (or monthly) cash disbursements
P = Fixed costs per transaction
S = Opportunity cost of one rupee p.a. (p.m)
2. Miller-Orr Model :-
Baumol model is not suitable in those circumstances when the
demand for cash is not steady and cannot be known in advance.
Miller-Orr model helps in determining the optimum level of cash
in such circumstances. It deals with cash management problem under
the assumption of stochastic or random cash flows by laying down
control limits for cash balances. These limits consist of an upper limit
(h), lower limit (o) and return point (z). When cash balance reaches the
upper limit, a transfer of cash equal to “h-z” is effected to marketable
securities. When it touches the lower limit, a transfer equal to “z-o”
from marketable securities to cash is made. No transaction between
cash to marketable securities and marketable securities to cash is made
during the period when the cash balance stays between the high and
low limits.

29. 29 | P a g e
The model is illustrated in the form of the following chart:
upper control limit
h
Cash balance
z Return point
O lower control limit
Time
The above chart shows that when cash balances reaches the upper
limit, an account equal to “h-z” is invested in the marketable securities
and cash balance comes down to “z” level. When cash balance touches
the lower limit marketable securities of the value of “z-o” are sold and
the cash balance again goes up to ‘z’ level.
The upper limit and lower limit are set on the basis of opportunity
cost of holding cash; degree of likely fluctuation in cash balances and
the fixed costs associated with securities transactions.

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MANAGEMENT OF INVENTORIES:
Inventories are good held for eventual sale by a firm. Inventories
are thus one of the major elements, which help the firm in obtaining the
desired level of sales.
Kinds of inventories
Inventories can be classified into three categories.
(i) Raw materials:
These are goods, which have not yet been committed to
production in a manufacturing firm. They may consist of basic raw
materials or finished components.
(ii) Work-in-progress:
This includes those materials, which have been committed to
production process but have not yet been completed.
(iii) Finished goods:
These are completed products awaiting sale. They are the final
output of the production process in a manufacturing firm. In case of
wholesalers and retailers, they are generally referred to as merchandise
inventory.
The levels of the above three kinds of inventories differ depending
upon the nature of the business.
Benefits of holding inventories:
Holding of inventories helps a firm in separating the process of
purchasing, producing and selling. In case a firm does not hold
sufficient stock of raw materials, finished goods, etc., the purchasing
would take place only when the firm receives the order from a
customer. It may result in delay in executing the order because of
difficulties in obtaining/ procuring raw materials, finished goods, etc.
thus inventories provide cushion so that the purchasing, production and
sales functions can proceed at optimum speed.

31. 31 | P a g e
The specific benefits of holding inventories can be put as follows:
(i) Avoiding losses of sales
If a firm maintains adequate inventories it can avoid losses on
account of losing the customers for non-supply of goods in time.
(ii) Reducing ordering cost
The variable cost associated with individual orders, e.g., typing,
checking, approving and mailing the order, etc., can be reduced if a
firm places a few large orders than numerous small orders.
(iii) Achieving efficient production runs
Maintenance of large inventories helps a firm in reducing the set-
up cost associated with each production run.
Risks and costs associated with inventories:
Holding of inventories exposes the firm to a number of risks and
costs. Risk of holding inventories can be put as follows:
(i) Price decline
This may be due to increase in the market supply of the product,
introduction of a new competitive product, price cutting by the
competitors, etc.
(ii) Product deterioration
This may due to holding a product for too long a period or
improper storage conditions.
(iii) Obsolescence
This may be due to change in customers taste, new production
technique, improvements in the product design, specifications, etc.

32. 32 | P a g e
The costs of holding inventories are as follows:
(i) Materials cost
This includes the cost of purchasing the goods, transportation and
handling charges less any discount allowed by the supplier of the
goods.
(ii) Ordering cost
This includes the variable cost associated with placing an order
for the goods. The fewer the orders, the lower will be the ordering costs
for the firm.
(iii) Carrying cost
This includes the expenses for storing the goods. It comprises
storage costs, insurance costs, spoilage costs, cost of funds tied up in
inventories, etc.
Management of inventory:
Inventories often constitute a major element of the total working
capital and hence it has been correctly observed, “good inventory
management is good financial management”.
Inventory management covers a large number of issues including
fixation of minimum and maximum levels; determining the size of the
inventory to be carried ; deciding about the issue price policy; setting
up receipt and inspection procedure; determining the economic order
quantity; providing proper storage facilities, keeping check on
obsolescence and setting up effective information system with regard
to the inventories.
However, management inventories involves two basic problems:
(i) Maintaining a sufficiently large size of inventory for
efficient and smooth production and sales operations;
(ii) Maintaining a minimum investment in inventories to
minimize the direct-indirect costs associated with
holding inventories to maximize the profitability.

33. 33 | P a g e
Inventories should neither be excessive nor inadequate. If
inventories are kept at a high level, higher interest and storage costs
would be incurred. On the other hand, a low level of inventories may
result in frequent interruption in the production schedule resulting in
underutilization of capacity and lower sales.
The objective of inventory management is, therefore, to
determine and maintain the optimum level of investment in inventories,
which help in achieving the following objectives:
(i) Ensuring a continuous supply of materials to
production department facilitating uninterrupted
production.
(ii) Maintaining sufficient stock of raw material in periods
of short supply.
(iii) Maintaining sufficient stock of finished goods for
smooth sales operations.
(iv) Minimizing the carrying costs.
(v) Keeping investment in inventories at the optimum
level.
Techniques of inventory management:
Effective inventory requires an effective control over inventories.
Inventory control refers to a system which ensures supply of required
quantity and quality of inventories at the required time and the same
time prevent unnecessary investment in inventories.
The techniques of inventory control/ management are as follows:
1. Determination of Economic Order Quantity (EOQ)
Determination of the quantity for which the order should be
placed is one of the important problems concerned with efficient
inventory management. Economic Order Quantity refers to the size of
the order, which gives maximum economy in purchasing any item of

34. 34 | P a g e
raw material or finished product. It is fixed mainly taking into account
the following costs.
(i) Ordering costs:
It is the cost of placing an order and securing the
supplies. It varies from time to time depending upon the number
of orders placed and the number of items ordered. The more
frequently the orders are placed, and fewer the quantities
purchased on each order, the greater will be the ordering costs and
vice versa.
(ii) Inventory carrying cost:
It is the cost of keeping items in stock. It includes
interest on investment, obsolescence losses, store-keeping cost,
insurance premium, etc. The larger the value of inventory, the
higher will be the inventory carrying cost and vice versa.
The former cost may be referred as the “cost of acquiring” while
the latter as the “ cost of holding” inventory. The cost of acquiring
decreases while the cost of holding increases with every increase in the
quantity of purchase lot. A balance is, therefore, struck between the two
opposing factors and the economic ordering quantity is determined at a
level for which aggregate of two costs is the minimum.
Formula:
Q = 2U x P
S
Where,
Q = Economic Ordering Quantity
U = Quantity (units) purchased in a year (month)
P = Cost of placing an order
S = Annual (monthly) cost of storage of one unit.

35. 35 | P a g e
2. Determination of optimum production quantity
The EOQ model can be extended to production runs to determine
the optimum production quantity.
The two costs involved in this process are:
(i) Set up costs;
(ii) Inventory carrying cost.
The set up cost is of the nature of fixed cost and is to be incurred at
the time of commencement of each production run. Larger the size
of the production run, lower will be the set-up cost per unit.
However, the carrying cost will increase with increase in the size of
the production run.
Thus, there is an inverse relationship between the set-up cost and
inventory carrying cost. The optimum production size is at that level
where the total of the set-up cost and the inventory carrying cost is the
minimum.
In other words, at this level the two costs will be equal.
The formula for EOQ can also be used for determining the
optimum production quantity as given below:
E = 2U x P
S
Where
E = Optimum production quantity
U = Annual (monthly) output
P = Set-up cost for each production run
S = Cost of carrying inventory per annum (per month).

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MANAGEMENT OF ACCOUNTS RECEIVABLES:
Accounts receivables (also properly termed as
receivables) constitute a significant portion of the total currents assets
of the business next after inventories. They are a direct consequences
of “trade credit” which has become an essential marketing tool in
modern business.
When a firm sells goods for cash, payments are received
immediately and, therefore, no receivables are credited. However,
when a firm sells goods or services on credit, the payments are
postponed to future dates and receivables are created. Usually, the
credit sales are made on open account, which means that, no, formal
acknowledgements of debt obligations are taken from the buyers. The
only documents evidencing the same are a purchase order, shipping
invoice or even a billing statement. The policy of open account sales
facilities business transactions and reduces to a great extent the paper
work required in connection with credit sales.
Meaning of receivables
Receivables are assets accounts representing amounts owed to the
firm as a result of sale of goods / services in the ordinary course of
business.
They, therefore, represent the claims of a firm against its
customers and are carried to the “assets side” of the balance sheet under
titles such as accounts receivables, customer receivables or book debts.
They are, as stated earlier, the result of extension of credit facility to
then customers a reasonable period of time in which they can pay for
the goods purchased by them.

37. 37 | P a g e
Purpose of receivables
Accounts receivables are created because of credited sales. Hence
the purpose of receivables is directly connected with the objectives of
making credited sales.
The objectives of credited sales are as follows:
(i) Achieving growth in sales:
If a firm sells goods on credit, it will generally be in a position to
sell more goods than if it insisted on immediate cash payments. This is
because many customers are either not prepared or not in a position to
pay cash when they purchase the goods. The firm can sell goods to such
customers, in case it resorts to credit sales.
(ii) Increasing profits:
Increase in sales results in higher profits for the firm not only
because of increase in the volume of sales but also because of the firm
charging a higher margin of profit on credit sales as compared to cash
sales.
(iii) Meeting competition:
A firm may have to resort to granting of credit facilities to its
customers because of similar facilities being granted by the competing
firms to avoid the loss of sales from customers who would buy
elsewhere if they did not receive the expected output.
The overall objective of committing funds to accounts receivables
is to generate a large flow of operating revenue and hence profit than
what would be achieved in the absence of no such commitment.
Costs of maintaining receivables
The costs with respect to maintenance of receivables can be
identified as follows:
1. Capital costs:
Maintenance of accounts receivables results in blocking of the
firm’s financial resources in them. This is because there is a time lag

38. 38 | P a g e
between the sale of goods to customers and the payments by them. The
firm has, therefore, to arrange for additional funds top meet its own
obligations, such as payment to employees, suppliers of raw materials,
etc., while awaiting for payments from its customers. Additional funds
may either be raised from outside or out of profits retained in the
business. In both the cases, the firm incurs a cost. In the former case,
the firm has to pay interest to the outsider while in the latter case, there
is an opportunity cost to the firm, i.e., the money which the firm could
have earned otherwise by investing the funds elsewhere.
2. Administrative costs:
The firm has to incur additional administrative costs for
maintaining accounts receivable in the form of salaries to the staff kept
for maintaining accounting records relating to customers, cost of
conducting investigation regarding potential credit customers to
determine their creditworthiness, etc.
3. Collection costs:
The firm has to incur costs for collecting the payments from its
credit customers. Sometimes, additional steps may have to be taken to
recover money from defaulting customers.
4. Defaulting costs:
Sometimes after making all serious efforts to collect money from
defaulting customers, the firm may not be able to recover the overdues
because of the of the inability of the customers. Such debts are treated
as bad debts and have to be written off since they cannot be realized.
Factors affecting the size of receivables
The size of the receivable is determined by a number of factors.
Some of the important factors are as follows:
(1) Level of sales:
This is the most important factor in determining the size of
accounts receivable. Generally in the same industry, a firm having a

39. 39 | P a g e
large volume of sales will be having a larger level of receivables as
compared to a firm with a small volume of sales.
Sales level can also be used for forecasting change in accounts
receivable.
(2) Credited policies:
The term credit policy refers to those decision variables that
influence the amount of trade credit, i.e., the investment in receivables.
These variables include the quantity of trade accounts to be accepted,
the length of the credit period to be extended, the cash discount to be
given and any special terms to be offered depending upon particular
circumstances of the firm and the customer. A firm’s credit policy, as
a matter of fact, determines the amount of risk the firm is willing to
undertake in its sales activities. If a firm has a lenient or a relatively
liberal credit policy, it will experience a higher level of receivables as
compared to a firm with a more rigid or stringent credit policy.
This is because of two reasons:
(i) A lenient credit policy encourages even the
financially strong customers to make delays in
payments resulting in increasing the size of the
accounts receivables;
(ii) Lenient credit policy will result in greater defaults
in payments by financially weak customers thus
resulting in increasing the size of receivables.
(3) Terms of trade:
The size of the receivables is also affected by terms of trade (or
credit terms) offered by the firm.
The two important components of the credit terms are:
(i) Credit period;
(ii) Cash discount.

40. 40 | P a g e
(i) Credit period:
The term credit period refers to the time duration for which credit
is extended to the customers. It is generally expressed in terms of “net
days”.
For example,
If a firm’s credit terms are “net 15”, it means the customers are
expected to pay within 15 days from the date of credit sale.
(ii) Cash discount:
Most firms offer cash discount to their customers for encouraging
them to pay their dues before the expiry of the credit period. The terms
of the cash discounts indicate the rate of discount as well as the period
for which the discount has been offered.

41. 41 | P a g e
MANAGEMENT OF ACCOUNTS PAYABLES:
Management of accounts payable is as much important as
management of accounts receivable. There is a basic difference
between the approach to be adopted by the finance manager in the two
cases. Whereas the underlying objective in case of accounts receivable
is to maximize the acceleration of the collection process, the objective
in case of accounts payable is to slow down the payments process as
much as possible. But it should be noted that the delay in payment of
accounts payable may result in saving of some interest costs but it can
prove very costly to the firm in the form of loss credit in the market.
The finance manager has, therefore, to ensure that the payments
after obtaining the best credit terms possible.
Overtrading and undertrading:
The concepts of overtrading and undertrading are intimately
connected with the net working capital position of the business. To be
more precise they are connected with the cash position of the business.
OVERTRADING:
Overtrading means an attempt to maintain or expand scale of
operations of the business with insufficient cash resources. Normally,
concerns having overtrading have a high turnover ratio and a low
current ratio. In a situation like this, the company is not in a position to
maintain proper stocks of materials, finished goods, etc., and has to
depend on the mercy of the suppliers to supply them goods at the right
time. It may also not be able to extend credit to its customers, besides
making delay in payment to the creditors.
Overtrading has been amply described as “overblowing the
balloon”. This may, therefore, prove to be dangerous to the business
since disproportionate increase in the operations of the business
without adequate resources may bring its sudden collapse.

42. 42 | P a g e
Causes of overtrading-
The following may be the causes of over-trading:
(i) Depletion of working capital:
Depletion of working capital ultimately results in depletion of
cash resources. Cash resources of the company may get depleted by
premature repayment of long-term loans, excessive drawings, dividend
payments, purchase of fixed assets and excessive net trading losses, etc.
(ii) Faulty financial policy:
Faulty financial policy can result in shortage of cash and
overtrading in several ways:
(a)Using working capital for purchase of fixed assets.
(b) Attempting to expand the volume of the business without
raising the necessary resources, etc.
(iii) Over-expansion:
In national emergencies like war, natural calamities, etc., a firm
may be required to produce goods on a larger scale. Government may
pressurize the manufacturers to increase the volume of production
without providing for adequate finances. Such pressure results in over-
expansion of the business ignoring the elementary rules of sound
finance.
(iv) Inflation and rising prices:
Inflation and rising prices make renewals and replacements of
assets costlier. The wages and material costs also rise. The
manufacturer, therefore, needs more money even to maintain the
existing level of activity.
(v) Excessive taxation:
Heavy taxes result in depletion of cash resources at a scale higher
than what is justified.
The cash position is further strained on account of efforts of the
company to maintain reasonable dividend rates for their shareholders.

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Consequences of overtrading
The consequences of over-trading can be summarized as follows:
(i) Difficulty in paying wages and taxes:
This is one of the most dangerous consequences of overtrading.
Non-payments of wages in time create a feeling of uncertainty,
insecurity and dissatisfaction in all ranks of the labour. Non-payments
of taxes in time may result in bringing down the reputation of the
company considerably in the business and government circles.
(ii) Costly purchases:
The company has to pay more for its purchases on account of its
inability to have proper bargaining, bulk buying and selecting proper
source of supplying quality materials.
(iii) Reduction in sales:
The company may have to suffer in terms of sales because the
pressure for cash requirements may force it to offer liberal cash
discounts to debtors for prompt payments, as well as selling goods at
throwaway prices.
(iv) Difficulties in making payments:
The shortage of cash will force the company to persuade its
creditors to extend credit facilities to it. Worry, anxiety and fear will be
the management’s constant companions.
(v) Obsolete plant and machinery:
Shortage of cash will force the company to delay even the
necessary repairs and renewals. Inefficient working, unavoidable
breakdowns will have an adverse effect both on volume of production
and rate of profit.

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Symptoms and remedies for overtrading
The situation of overtrading should be remedied at the earliest
possible opportunity, i.e., as soon as its first symptoms are visible.
The symptoms can be put as follows:
(a)A higher increase in the amount of creditors as compared to
debtors. This is because of firms inability to pay its creditors in
time and exercising of undue pressure on debtors for payments;
(b) Increased bank borrowing with corresponding increase in
inventories;
(c)Purchase of fixed assets out of short-term funds;
(d) A fall in the working capital turnover (working capital/sales)
ratio.
(e)A low current ratio and high turnover ratio.
The cure for overtrading is easier to prescribe but difficult to follow.
The cure is simple-reduce the business or increase finance. Both are
difficult. However, arrangement of more finance is better. If this is not
possible, the only advisable course left will be to sell the business as a
going concern.
UNDERTRADING:
It is the reverse of overtrading. It means improper and
underutilization of funds lying at the disposal of the undertaking. In
such a situation the level of trading is low as compared to the capital
employed in the business. It results in increase in the size of inventories,
book debts and cash balances. Undertrading is a matter of fact an aspect
of overcapitalization. The basic cause of undertrading is, therefore,
underutilization of the firm’s resources. Such underutilization may be
due any one or more of the following causes:
✓ Conservative policies followed by the management;
✓ Non-availability or shortage of basic facilities necessary
for production such as, raw materials, power, labour, etc;
✓ General depression in the market resulting in fall in the
demand of company’s products;

45. 45 | P a g e
The symptoms of undertrading are the following:
(i) A very high current ratio;
(ii) Low turnover ratios;
(iii) An increase in working capital turnover (working
capital/ sales) ratio.
Consequences of undertrading-
The following are the consequences of undertrading:
(i) The profits of the firm show a declining trend resulting in a
lower return on capital employed (ROI) in the business.
(ii) The value of the shares of the company on the stock exchange
starts falling on account of lower profitability;
(iii) There is loss to the reputation of the firm on account of lower
profitability and creation of impression in the minds of investors
that the management is inefficient.
Remedies for undertrading
The condition of undertrading is set in because of underutilization
of the firm’s resources. The situation can, therefore, be remedied by the
management by adopting a more dynamic and result-oriented
approach. The firm may go for diversification and undertaking new
profitable jobs, projects, etc., resulting in a better and efficient
utilization of the firm’s resources.

46. 46 | P a g e
Key Working Capital Ratios:
The following, easily calculated, ratios are important measures of
working capital utilization.
Ratio Formulae Result Interpretation
Stock
Turnover
(in days)
Average
Stock * 365/
Cost of
Goods Sold
= x
days
On an average, your stock turnover
is in x days.
Obsolete stock, slow moving lines will
extend
overall stock turnover days.
Receivables
Ratio
(in days)
Debtors *
365/
Sales
= x
days
It takes your average x days to
collect receivables due to you.
Effective debtor management will
minimize the days
Payables
Ratio
(in days)
Creditors *
365/
Cost of Sales
(or
Purchases)
= x
days
On an average, you pay your
suppliers every x days. If you
negotiate better credit terms this will
increase. If you pay earlier, say, to
get a discount this will decline.
Current
Ratio
Total Current
Assets/
Total Current
Liabilities
= x
times
Current Assets are assets that you
can readily turn in to cash or will do
so within 12 months in the course of
business. Current Liabilities are
amount you are due to pay within
the coming 12 months.

47. 47 | P a g e
Quick Ratio (Total
Current
Assets -
Inventory)/
Total Current
Liabilities
= x
times
Similar to the Current Ratio but
takes account of the fact that it may
take time to convert inventory into
cash
FACTORS INFLUENCING WORKING CAPITAL
REQUIREMENTS:
The working capital needs of affirm are influenced by numerous factors.
The important ones are:
Nature of business
The working capital requirement of a firm is closely related to
the nature of its business. A service firm, like an electricity
undertaking which has a short operating cycle, which sells
predominantly on cash basis, has a modest working capital
requirement. On the other hand, a manufacturing concern like a
machine tools unit, which has a long operating cycle and which sells
largely on credit, has a very substantial working capital requirement.
Seasonality of operations
Firms which have marked seasonality in their operations usually
have highly fluctuating working capital requirements. To illustrate,
consider a firm manufacturing ceiling fans. The sale of ceiling fans
reaches a peak during the summer months and drops sharply during
the winter period.

48. 48 | P a g e
Production policy
A firm marked by pronounced seasonal fluctuation in its sales
pursue a production policy, which may reduce the sharp variations in
working capital requirements.
Market conditions
The degree of competition prevailing in the market place has an
important bearing on working capital needs. When competition is
keen, a larger inventory of finished goods is required to promptly
serve customers who may not be inclined to wait because other
manufacturers are ready to meet there needs.
Conditions of supply
The inventory of raw materials, spares, and stores depends on
the conditions of supply. If the supply is prompt and adequate, the
firm can manage with small inventory.

49. 49 | P a g e
Conclusion
Working capital is the fund invested in current assets and is needed
for meeting day to day expenses. It is defined as a organization’s
current assets minus current liabilities on the date a balance sheet is
drawn up. Working capital is said to be the life-blood of an enterprise.
Working capital, therefore, needs to be maintained at an adequate
level. Working capital financing is a specialized area and is designed
to meet the working requirements of a business. The main sources of
working capital financing are trade credit, bank credit, factoring and
commercial paper.
Cash Credit (CC) is the most useful and appropriate type
of working capital financing extensively used by all small and big
businesses. It is a facility offered by banks whereby the borrower is
sanctioned a particular amount which can be utilized for making his
business payments. The borrower has to make sure that he does not
cross the sanctioned limit. Best part is that the interest is charged to the
extend the money is used and not on the sanctioned amount which
motivates him to keep depositing the amount as soon as possible to save
on interest cost. Without a doubt, this is a cost effective working capital
financing.
Cash is the lifeline of an organization. A sustained growth
of an organization depends on the cash ability of the profit, not the
profit per se as reflected in the income statement. The rising profit
curve of an organization may mislead managers into high rates of
growth, which are unsustainable due to the actual cash position of the
company. This leads to continuous erosion of liquidity and may even
make a company sick.
The basic responsibility of the finance manager is to make
sure the firm‟s cash flows are managed efficiently. Efficient
management of inventory should ultimately result in the maximization
of the owner‟s wealth. In order to minimize cash requirements,
inventory should be turned over as quickly as possible, avoiding stock-
outs that might result in closing down the production line or lead to loss
of sales.

50. 50 | P a g e
Bibliography
1. www.wikipedia.com
2. Financial Management by I M Pandey
3. Working Capital Management by D R Mehta
4. Liquidity Management by S P Parashar
5. www.investopedia.com
6. www.slideshare.com
7. www.edupristine.com