Estimation of Working Capital

Determination of working capital requirement is one of the major

short-term planning which plays very vital role for operating the
business successfully. The determination of working capital is to
be done very effectively otherwise there may be over or under
estimation of working capital. The amount of working capital
should be sufficient. Following two methods can used to
determine the amount of working capital:
1. Projected Balance Sheet Method
It is the conventional method of calculating working capital. Total
current assets and current liabilities are taken into account to
calculating working capital. All the data given in balance sheet
regarding current assets and current liabilities are taken into
consideration for estimating the working capital. Total current
liabilities is deducted from total current assets to obtain the
amount of net working capital under this method.
Net Working Capital = Total Current Assets - Total Current
Liabilities
2. Percentage of Sales Method
It is the easiest of the methods for calculating the working capital
requirement of a company. This method is based on the principle
of history repeats itself. For estimating, relationship of sales and
working capital is worked out for say last 5 years. If it is
constantly coming near say 40% i.e. working capital level is 40%
of sales, the next year estimation is done based on this estimate.
If the expected sales is 500 million dollars, 200 million dollars
would be required as working capital.
3. Operating Cycle Method
Time which is needed to convert raw material into finished goods,
finished goods into sales and account receivable into cash is
called operating cycle. Under operating cycle method, time

needed for different types of current assets and time lag needed
for payment of purchase and expenses are considered to compute
requirement of working capital. The items of current assets and
current liabilities are calculated as follows: