Working Capital and Cash Management

 A company requires financing whether from creditors or from owners to acquire assets to generate
sales or revenues.
 Working capital usually define as the difference between current asserts and current liabilities.

Short-term financial management

- Primarily concerned with the commitments of funds to various activities within the business and with
best possible combination of types of financing.
- Mainly concerned with where to get cash and how such cash be used for the benefit of the
company.

Principles for effectively manage working capital

1. Hedging principle (rule of self-liquidating debt) – provides the basis for firm’s working capital decisions.
It involves that those assets needed by the firm not to be financed by spontaneous sources (payables
and accruals) should be financed. Permanent asset investments are finance with permanent sources
and temporary asset investments are financed with temporary sources of financing.
2. Permanent investment – one which the firm expects to hold for a period of more than a year. Involve
current or fixed assets.
3. Temporary investment – the firm’s investment in current assets that will be liquidated and not to be
replaced during the year.
4. Spontaneous sources – all those sources that are available upon demand (trade credits or accounts
payable) or those that arise naturally as a part of doing business.
5. Temporary sources – all of current of short-term financing not categorized as spontaneous (bank loans,
commercial papers and financing company loans).
6. Permanent sources – all long-term sources (debt having a maturity of more than one year such as
preferred stock and common stock).

Working capital management

- Or short-term financial management refers to the administraton and control of the more liquid
resources to make sure that they are sufficient to cover day to day business operations.
- Deals with managerial decisions regarding current assets

Current assets

Cash – enough to support firm’s operation

Accounts receivable – not be too lax nor too strict in granting credits

Inventories – enough to support market demand

Current Liabilities – to be prudent in making use of the time before it finally pays off its obligations.

Working capital – analyzed as the ability to meet current obligations as they come due using current ratio
analysis.

- The firm’s goal is to minimize the net working capital. This could be achieved by;
o Having faster collection of cash from sales or service revenues
 o Increasing inventory turnovers
o Slowing down the disbursements to suppliers or securing longer credit terms.

Uses and Importance of Working Capital Management

Working capital investments are made to support day to day operations and sales activities. These
includes;

1. Amount of cash on hand and in bank to be maintained

2. Amount of credit to be extended to customers
3. Number of days extended to credit customers
4. Amount and type of inventories on stock to be maintained
5. Amount of securities or temporary investment to be made.

Working capital is an important topic for several reasons;

1. Most financial manager’s time is devoted to the day to day internal operations of the firm, which fall
under the heading of working capital
2. Current assets represent a large portion of total assets in most companies. Managing current assets
is a dynamic process, and it requires the financial manager to:
a. Closely monitor sales
b. To anticipate changing levels of sales
c. To ensure that assets on hand is sufficient in quantities to meet sales and production
targets
3. Working capital is particular important for small firms.
4. The relationship between sales growth and the need to invest in current assets is close and direct.

Objectives of Working Capital Management

1. Generate additional income for the business

2. Reduce the amount of investment needed to support sales and production.
3. General nature of the business
4. Cost and length of the operating process
5. Product or service competitive conditions and seasonal variations
6. Government regulations
7. Self-imposed internal policies and commitments
8. Operational efficiencies

Advantages of adequate working capital

1. Solvency of the business.

2. Goodwill
3. Easy loans
4. Cash discounts
5. Regular supply of raw material
6. Regular payment of salaries, wages and other day to day commitments
7.