eras Working capital management is a critical functional area in the study of Financial Management. ‘Working capital management refers to the management of company’s current assets and current lables. It is basically concerned with short term financial decisions. In most of the cases, the management of current assets and current lablities requires more attention of finance managers ‘than managing long-term assets. Shortage of funds for working capital affects the profitability and tulimate survival of afirm.With inadequate level of working capta.a firm will not be in a position ‘0 optimally tlie its foced assets/capacities. Failure to meet its current obligations in need of unde will certainly affect the goodwill or reputation of a company. These factors will affect the value of a firm. On the other hand, excess working capital will resutin higher interest cost. higher inventory ost which will also have an adverse impact on company’s profitability. Thus, determining the appropriate level of current assets and current labltes ie. working capital assumes significance in ‘overall nancial decision making process of a company:This will help the firm to maintain adequate level of liquidity while maximizing earnings for shareholders. ee ee LE 9.1 WORKING CAPITAL: MEANING AND CONCEPT We have learnt from preceding chapters that capital of a company is invested in its long-term Tats and short-term or current assets. The portion of capital invested in current assets i. raw jaterials, work-in-progress, finished stock, debtors etc. is called the “Working Capital’. Hence, Working Capital is the investment of funds of a company in its short-term assets. Each and every GiBémization has to invest in working capital in one form or other. "Working, Capital’ can also be defined as the excess of Work Copia og eee, invest, : Of asthe excessefinestnentineurent qr csiment in current assets over current liabilities. Component cae ‘Working capital can be listed as follows: ee Ose CuO Assets: Current assets are those asses which are available ether inthe ch or whi i sh and ban, 1. onVerted into cash within a short span of period, usually a year. These ee fg belances, short-term investments or advances, investment in raw material, Wo Stock, receivables, prepaid expenses etere those Habits ofthe firm which are likely tobe pig i to creditors, outstanding expenses, short-term borrowing, within a yee "* Current Liabilities a 3 year. ee iy indie pevebl dividend payable or any other liabilities payable within eceived against sales, ! escribed in two ways: term ‘Working Capital” can be descr ; | ap aii Capital Concepts “Gross working capital refers tothe firm’s investnen Gross Works Hence, as pet this concept working capital is regarded as investment in current cath Curent labilties are not deducted from current assets to determine gross working capita, i i ¢ “Net working capital’ ref rt Working Capital Concept: According to this concept Ne 1 capital refers yy Net Won Cots overcurrent liabilities. Hence its the difference between curren Re ea ‘current liabilities ie. Net Working Capital = Current Assets - Current Liabilities, s 9.2. NEED FOR WORKING CAPITAL ‘The need for working capital can be assessed by operating cycle approach. ting Cycle roach The Opezating Cycle App! oo EG aig ion SO “fo achieve the objective of Wealth maximization) an guration etn btves conan organisation has to generate siifficient earnings for its investmentinrawmateals smi ‘shareholders. These earnings wilfdepend upon the sales aclivity _ on wages and other expenses af ofthe firm, In manufacturing companies, the sales will depend | reateation of cash fom sad ‘upon production. A company has to invest in raw materials and work-in-progress to produce. Desirable stock of finished goods is to be kept to sustain future sales, To create more demand, the company has to sell on credit basis thus investment debtors is needed. Debtors in turn will take some time to pay their dues in cash. From this discussion we can conclude that a firm will take some time to reconvert cash into cash age starting from the purchase of raw materials, conversion of raw materials into work-in-progres work-in-progress (WIP) to finished goods, finished goods to debtors and from debtors to again. This process is technically known as operating cycle or cash cycle as shown in Fig 9.1. Thus, operating cycle process consists of duration of time between company’s investment in raw ‘materials, Spending on wages and other expenses and — [Account Receivable realisation of n sales of goods. Completion of Dees! operating cycle will ake some time known as operating cycle period. For this period company wil require sufficient funds forinvataent in a sralens materials, work-in-progress, finished goods, debtors etc. Without investment in these assets, a firm cannot achieve required sales @CHvity and hence cannot earn nig desired profit. Longer ts the-operating, cycle peri : cycle period, Neher ae need of working capital Hence, need a i is upon the duratic see of operating cycle In case of a manufacturing firm ce steps in operating cycle can be summarized below: "+91 Operating Cyce ola Man 4 een of cash into raw materials, ‘onversion of raw materials into work-in- ; eei Conversion of finished goods into debtors, {f) Conversion of debtors into cash, qriscycleis repeated again and again and hence Tytrading concern, the operating cycle will incl entries into debtors and (c) Debtors nto cash, continuous requirement of working capital. In lude the steps such as (a) Cash into inventories, (b) Incase of service concerns, the operating cycle includes the length of time taken for conversion of qshinto debtors and from debtors to cash again, ting Cycle Period: Operating cycle period can be defined as elength of time duration of the operating cycle of a firm. It is ‘pfined as the time required between cash outlay in current assets nd cash inflow from debtors and sales activity. Operating cycle jod will decide the quantum of investment needed in working capital of a firm. A shorter period will require less working capital investment and vice versa. The duration of the operating cycle period depends upon the following factors: ‘Nature of industry Purchase policy and efficiency in purchase management Inventory policy Production planning and control ‘Maintenance and upkeep of plants and machinery Use of outdated or modern machinery and technology Efficiency level of workers and their morale Credit policy and debtors collection management Ability to get credit from suppliers ‘The operating cycle period can be ascertained with the help of the following formula: O=R+W+F+D-C ‘Where, O = Operating cycle period R = Raw material holding period W = Work-in-progress period F = Finished goods holding period D = Receivables collection period C = Credit payment period The above periods in days can be calculated as follows: Raw material holding period: Gverag) raw material stock held Average raw material stock held ot “Average consumption of raw material fer day) - Annual consumption of raw material /365 Work-in-progress period: Average work in progress stock held Annual cost of production of goods /365 Finished goods holding period: ‘Average inished goods stock held =, Annual cost of goods sold /365 iit Average work in progress stock held ‘Average cost of production of goods per day Average finished goods stock held ‘Average cos t of goods sold per dayRevcoulescllecton period: yes. Average account receivables ‘Average. accou a ‘Average credit sales per day iam Creditors ce cei Average trade creditors cre oo * 365 Average credit purcheses per day anual credit purcheses/ ae ce pa y sod of one operating cyele can be calculated in the following formatasshowminays Table 9.1 2a) Rew material holding period rs Work-in-progress holding period be | Finished goods holding period ~~ | Receivables collection period >- —= Gross operating cycle =a Less Creditor's payment period — ‘Net operating cycle (Cash cycle) * ee Bost 1. Calculate the operating cycle of a company which gives the following details rey 6 its operations: : ‘Annual raw material consumption 842000 Annual cost of production 14,25,000 ‘Annual cost of sales 153000 | Annual sales 19,50,000 | ‘Average value of current assets held: Raw materials: 1,24,000 Work-in-progress 72900 Finished goods “ 12,000 Debtors + 2.60000 The company gets 30 days credit from its suppliers. All sales made by firm are on credit ‘You may take one year as equal to 365 days. Solution: Computation of Operating Cycle (a) Raw Material Holding Period (R): Average raw material stock held 1,24,000 ‘Annual raw material consumpti = 2:24,000 365 = 54 days (6) Work-in-progress Period (Wh, ion/365 8, 42,000 Average work-in-progress held > oh Annual cost of production of goods/365. = jqxs pu * 365= 18 days (©) Finished Goods Holding Period (Fy, 7365 © 14,25,000 Average finished goods stock held bo 55 4/365 = ERO 35 29 days P|Collection Period (D): @ pebtors "average debtors held _Average debtors held__ Fnnual credit sales /365 — 19,50,000 itors Payment Period (C): co creditor’ " xverage creditors 60 __Average creditors —___ 5 anual trade purchases /365 flays (given) (Operating cycle period (R+ W +P +D)-C = (64 + 18 +29 + 49) ~ 30 =120 days x 365 = 49days Hence y, From the following information taken from the books of a manufacturing concern, Exam’ the operating cycle in days: 4 peiodcovered 365 days erage period ofreitallowed by suppliers 16 days (© 000) “average debtors outstanding, 480 aw material consumption, 4,400 ‘Total production cost 10,000 Total cost of sales 10,500, Sales for the year 16,000 Value of the average stock maintained: Raw materials 320 Work-in-progress 350 Finished goods 260 Solution: Computation of Operating Cycle a . 3,20,000 Raw material holding period (R) [235 x 25] 27 days 3 3,50,000 Work-in-progress (W) [ E006 7365 13 days Paes a te 60,000 goods holding period (F) | 32am 750000072 9 days " 4,80,000 Debtors collection period [etre z a5] 1 days Gross operating cycle 60 days Creditors payment period (given) 16 days ae | AG ANS Sean La er. . ‘ote: Entire sales for the year has been assumed on credit basis. \._ TYPES OF WORKING CAPITAL : 9: ent of | working again and results in a continuous requirem ts. - will always remain invested i” current aseis king capital may fluctuate from time to time on the bas, a ae ig capital can be divided inte f time of its investment, workin} Asn Cae However, m factors. On the basis o 1. Permanent working capital 2. Temporary working capital Perm: ing Capital: This is the minimum level of mapecpn eee to carry out average level | § ing capital required at all times to carry out ; wer oP vies Th other words, certain minimum amount of investment in current assets is required on a continuous and Gninterrupted basis. This investment is referred as permanent or fixed working capital. As we now know that permanent working capital is required 3 time in business, hence it should be financed through long-term fuhds. Permanent working ont requirement may change with the passage of time due to increase in the level of business un. (ie. Production, sales etc.) ts ‘Temporary Working Capital: The amount of working capital needed may keep on fluctuating from time to time on temporary basis because of seasonal changes in production and sales activities of a business. This temporary increase in working capital for a short duration of time is known as temporary or fluctuating working capital. In other words, working capital needed over and above the permanent level working capital at a particular point of time is called temporary or fluctuating working cit Temporary and permanent working capital can be illustrated as shown in Fig. 9.2 below: i — oes i Permanent working capital Fig. 9.2 esisasennuny ULNA Lapisar tee properly, It should decide different sources of financing it. “6 METHODS OF ESTIMATION OF WORKING CAPITAL REQUIREMENT Following are different methods for estimating the working capital requirement of a firm: 1. Percentage of Sales Method: Its traditional and simple method of calculating working capital requirement of afirm. According to this method, we determine a ratio of working capital to sales on the basis of past figures. This ratio can be used to estimate future requirement of working capital. For cample iheoast ‘Past experience shows that working capital has been 25% of sales and sales for future petiod has been estimated as ® 5,00,000, then the amount of working capital needed during this period will be 25% of & 5,00,000 ie. & 1,25,000. However, this method is generally not used to calculate Working capital needs of a firm because of wrong assumption of linear relationship between working pital and sales during all periods. 2 Percentage of Total Assets or Fixed Assets Method: According to this approach, a certain percentage of total assets ( Fixed assets and current assets) or fixed assets is required as working capital of the firm. This certain percentage can be calculated on the basis of past records. Here, on the basis of past figures, a relationship ets coPWOFEInG CapMaL Wether tab ascts oF fixed assets is arrived in the ™m ofa percentage. The percentage can be applied on the estimated total assets or fixed assets to be ‘Sed in future period. For example, if from the past experience we have calculated that 20% of total Sed assets is required as working capital and fixed assets to be used in future is given at 25,00,000. Then working capital needed during this period will be 20% of ® 25,00,000 i. 5,00,000, However, method is also criticized on the same ground as percentage of sales method. Ve 3-Operating {tof working capital depends ig Cycle Method: According to this method, the requirement of working capi t Operating cycle of a firm. The longer is the operating cycle period of a firm, hiees sail of, eduitement of working capital and vice-versa. For calculating working capital requite afim as per this methoe the e following formula can be used. SN Estimated cost of goods Sold 1rd cash balance No. of operating cycles ina year ~ No. of operating cycles in a year can be calculated as follows:12 months/365 days © Operating cycle in months/days 4. Estimation of Components of Working ' Capital Method: This Be Peper ane more Frequent, nethod of estimating the requirement of working capital needs of a firm. As we know, theres) Components of working capital, ie. current assets and current liabilities, Current assets." investments in cash and bank balance, raw materials, wotialne cake sais Boods, a ri tc. Current liabilities may include creditors for trade purchases, eri, prepaid J Rcconding to this method, frst investment required in each component of current nt calculated, then different items of current liabilities are calculated. Net working capitalise by deducting current liabilities from current assets. Different components. of curentassetsa ett liabilities can be estimated as: a Estimation of Investment in Different Components of Current Assets: Raw Material Stok Investment in raw material depends upon many factors tke bug \pioaicntdw munca tomediipdie perand AW baialcaee evens costs involved inventory decision like inventory carrying cost and ordering cost, economic order quest” different stock levels, lead time for material supplies etc. The level of investment in ran ea, stock can be determined as follows: Budgeted production p.a. (units) x Raw material cost p.u. x Raw Material holding period in months weeks/ da ‘12 months/52 weeks/ 365 days \ AT Work-in-progres Stock (WIP Stock: Workcin-progress is the semi-finished goods, We requiremae efforts in terms of wages and other expenses to be put to convert it into finished output. Gener WIP includes full amount of material cost (unless otherwise given) and certain stage of complete: in terms of wages and expenses. In the absence of any information regarding stage of completzns terms of conversion cost (labour and production expenses), it can be taken at 50% completion sae Hence, WIP cost p.u. can be estimated at full cost of raw material per unit plus 50% of converse Costs. Sometimes it can also be taken at 50% of material and conversion costs. Overall investnét in work-in-progress can be calculated as follows: Budgeted production p.a. (units) x Estimated cost of work-in-progress pu. x Work in progress period in months/ weeks/das 12months/52 weeks/365 days pet Finished Goods Inventory: After prodi al Budgeted production p.a. (units) x Cost of goods produced p.u. (excluding eri i Finished goods holding period (months/wee! 12 months/52 weeks/ 365 days “4 cost pO trcesiment in Deblors: | Whenever there sa credit sale, certain amount equivalent ti egg “stied upin the form of debtors. Investment in debtors will depend on many facloS it receivables (debtors) can be ascertained as followspudgeted credit sales p.a. (units) x Cost of sales i depreciation) x Debtors collection period (months/weeks/days) 12months/52 weeks /365 days (a) Prepaid Expenses: Prepaid expenses are the expenses paid in advance. This requirement of payment of expences in advance is to be taken into consideration while estimating the working pital It is treated as a current asset. Estimation of Items of Current Liabilities: Current liabilities for trade creditors, wages and expenses reduce the working capital needs of a business. These can be calculated as follows: ; rade Creditors: Budgeted production p.a (units) x Raw material cost per unit x Creditors payment period (months /weeks/days) 12 months /52 weeks/ 365 days AS Binect Wages: Budgeted production p.a. (units) x Direct labour cost per unit x Time lag in payment of wages (months/ weeks /days) 12 months/52 weeks/365 days {ip7Overhead (excluding depreciation): Budgeted production p.a.(units) x Overhead cost per unit x Time lag in payment of overheads (month/weeks/days) 12 months/52 weeks/365 days The computation of working capital can be summarized in the following format as shown in Teble9.2. BL Table 9.2 Computation of Working Capital Estimation of Current Assets (A) & cash and bank balance {®) Investment in inventories Raw material Work-in-progress, Finished goods (9) Debtors | (© Prepaid expenses (if any) Total investment in current assets ‘of Current Liabilities (B) Creditors | () Waves ) Overheads TotalmMageyuaLe HUES CapHL. sMUUELALE PUULY Wil IUHUW @ HUUUUe paul. 98 LIQUIDITY VERSUS PROFITABILITY: A RISK RETURN TRADE OFF {Afirm should decide the optimum level of working capital investment so as to maximize the wealth of shareholders. A larger investment in working capital means a lower rate of return on investment forthe firm. On the other hand, a smaller investment in working capital would negatively impact the production due to scarcity of material, labour unres: and firm's inability to pay its creditors in time. The above discussion can also be put in another perspective. If a firm adopts a conservative working capital policy with larger investment in its current assets, the firm will have higher liquidity reducing the risk of insolvency but its profitability will be adversely affected. On the other hand, if the firm adopts an aggressive working capital policy, it can improve its profitability by restricting investment in working capital leading to adverse liquidity position with more risk of insolvency. Profitability and liquidity are inversely related and so are risk and return. Therefore, judicious balance between profitability and liquidity is the basic objective of working capital management and policy.rs wuoey rested AULALILINY, fmplerm sources may reduce risk and also help in increasing liquidity on long.term beste, 90 APPROACHES FOR DETERMINING THE FINANCING MIX ‘hefinance manager has to select a finance mix of both long-term and short-term sources in suc funds on time. Depending on the mix of long-term and short-term sources, a company can adopt sarious approaches such as (i) Matching approach (Hedging approach) (if) Conservative approach and (ii) Aggressive approach. () The Matching Approach (The Hedging Approach): According to this approach, the maturity ‘ofsources of finance should match the nature of assets to be financed. Hence, a firm should choose financial plan which matches the expected life of the assets with the expected life of the source of funds raised to finance assets. This approach divides the total requirement of working capital into two categories: (a) Permanent Working Capital: The working capital which is always expected to be required at all times to carry out normal business activities is called permanent working capitalWorking Capital: This 0 Tegan Wei can above permanent working ‘Capital. It keeps on fluctuating, depending upon changes in business activities. Hence, as per matching approach, permanent working capital should be ‘Working Captal ® Fig. 95. Financing under Matching or Hodgin financed through long-term resources a < iene \eupoeary working capital can be financed from short-term sources. The = approach of working capital is shown in Fig. 9.5 below: edging (ii) Conservative Approach: Under the conservative approach of financial workin, fim finances its working capital needs from long-term sources. The conservative approsshth heavily on long-term source of finance like share capital, debentures, long-term loans, retained earnings etc. The firm usually wants more than required liquidity and completely avoids risk of insolvency. Whenever a firm is having surplus liquidity then it invests its cash resources in marketable securities. This helps the firm to earn some income while ‘maintaining liquidity position of the firm. This approach is shown in Fig. 9.6. (iii) Aggressive Approach: According to this approach, a firm wants to minimize the use of long-term sources for financing, the working capital needs. Long-term ~ sources are relatively costly, hence the firm wants to’Save on cost and thus wants to increase ‘profitability. The aggressive approach seeks to minimize the excess liquidity and tries to finance as much working capital as possible from short- term resources. The firm will Bear a greater risk of insolv is shown in Fig. 9.7. The finance mana ‘Working Capital? Fig. 9.6: fency under this approach. The aggressive approach to finance working epi! Oach relies Permanent Total working capt Financing through long-term sourees Tine Conservative Approach of Financing Working Cepia eo [A Permanent wong at Working capital & Time Fig. 9.7: Aggressive Approach to Financing of Working Capt capital of the firm, Whethe ger should decide which source is to be used for financing the working 7 or not he will use short-term resources for this purpose. If he short i ser Ho fnacing, hen to what extent will he finance working capital from this so" iy logo for longterm fi - However, before deciding on different sources of Borne cpl neo ‘ould consider the cost of these funds and their flexibility: THe managers try to have a trade-off between risk and profitability. Pract between tae PProach or the conservative approach. However, he should try to havea" approaches s0 as to achieve the basic objective of wealth maximization de may1. Calculate the operating cycle of a company which gives the following detail, *eltng Illystration - perations Rawmaterials consumption per annum ‘Annual cost of production ‘Annual costof sales ‘Annual sles ‘Average value of curent assets hel: Rawmaterials Work:in-progress Finished goods Debtors Tre company gets 30 days credit fom it suppliers. Allsales made by the firm are on credit only. Yum, take one year as equal to 365 days. Solution: 1. Computation of Operating Cycle: (@) Raw material holding period (R) Average raw material stock held = ppc tesue rau materi stock held _ 124,000 36g = 5A days Annual raw material consumption/ 365, 42,000 | (©) Work-in-progress period (W) Average work in progress held 72,000 565 = 18 days ~ Annual cost of produetion of goods /365 ~ 14,25,000 | (©) Finished goods holding period (F) = Average finished goods stock held _ 1,22, 4,22,000_. = 29days Annual cost of goods sold /365 15,30,000 30,1 ‘000 * (@) Debtors collection period (D) Average debtors held 2,60, 2,60,000 a = 49 day Annual credit sales /365 ~ 19,50,000 °° eae ged Gross operating cycle (R + W +F + D) a (©) Creditors payment period (C) (given) par i‘ os ene. Net operating cycle (+ W +E 4 Dc) se sot Mlustration2. The following informat i Profitand Less" aod Halas Shas ‘onis given to you, which has been taken from Profit and loss account for the year 2010: Sales ¢ 5,000 Cost of goods sold ¢ 3600y re ~~ = 640 + 3600 - 600 = 3646 Ihstration 3, From the following data compute the duration of the operating cycle for each ofthe two years comment on the increase /decrease: (000) Particulars Year 1 Year? ‘Average Stock Raw material 2 a Work-in-progress 14 8 Finished goods 2 2Yeart Purchase 6 Costot goods sold 40 Sales 160 Debtors 32 Creditors 16 ‘Assume 360 days per year for computational purposes. Solution: ‘Computation of Operating Cycle Particulars Yeart (@) Rawmaterial holding period () ‘Average raw material stock held al zn ‘co | ‘Annualraw material consumption/360 } (0) Work-in-progress period (W) | “=_Average work progress held i e038 258 sacgee “Rnnualcost of production of goods/360 140 care | agg om | (©) Finished goods holding period (F) "= Average finished goods stock held 2 e056 Miseceae | 4 ~Annualcostof goods sold/360 140 boas ‘Operating cycle has increased from 177 days in first year to 198 days in second year. This ices? operating cycle will result in an increased requirement of working capital. I féstration 4. From the following particualrs, compute 70 (@) Debtor cotection period ©) s ig | | __ Average deblors held 22 yagge: season | amuse ales 350 georeorradan | prsenee | (@) Gross operating cycle (R + W + F +D) 227 days recap | : (9 “Lass Grestor payment period) ‘ ‘s | __Average creditors__ Be sc0= Bagosasne tit miaal erect purchases/360 ag ens eodes | ag 1 Net operating cycle (R+W + F+D)—C Tae ween | 1 ]- - 419,000 5._ SR Ltd. expects its cost of goods sold for 2009-2010 to be € 600 lakh. The expected operating 4s 90 days. It wants to keep a minimum cash balance of one lakh. Whats the expected working capital jrement? Assume a year consists of 360 days.Ez ‘Basic Financial Management Solution: Computation of Working Capital Requirement e Desired minimum cash balance ‘anf Working capital required for operations S =p slepemtng ot 0 a 1,50,00,000 (oof operating cycles ina year 4 ——— 1,51,00,000 Working Notes: No.of daysinayear__ 360 No. of operating cycle in a year = Op rating cycle period 90 MlystFation 6. fas ‘Production forthe year 3 monte Finished goodsin stock Raw materialintock — Credit allowed by suppliers cma CCrditalowed to debtors fa Selling nit Selig rcp 50%: ofseling rice oan 10% of sling price ‘Manufacturing overheads Tes Cea it Selling overheads rests ee “Thane i a regular production and sales cycle and wages and overheads soous ©” Fass tre paid with a ime lag re Prth timate the working capital requirement from the particulars given above, Sng Wenge 48,000 = i 1. Production and sales per month = —y>— = 4,000 units, 1 palette mapaearal : | | Selling price SP) par | owen 5) % Direct wages (10% of SP) 5 Manufacturing overheads (16% of SP) q Seling overheads (4% oP) a Totalcost 40 Profit 10 ‘Statement of estimation of working capital requirement (A) Current Assets: z (@) Raw material (4000 «25 2) 200000 (i) Finished goods [5,000 x 25 +5+ 8) x3] 456000 Git) Debtors 3,000 x 25-+5-+8+2)x3] ‘aan Total Current Assets (A) 11,36,000 (8) Current Liabilities: (0, Creditallowee by suppliers (000 «25 x2) 200000 (i) Wages (4,000 « 5 1) 20,000 otal Curent Liabilities B) 7.20000 (CNet Working Capital (AB) 16000 ~~Contofsates 23000 _tsaion Selig price per unit of ABC Lid is € 100, The raw material cost er unit i 84, ding an es aoarheds 30 (exclusive of deprecation) Level of activity per annum i 52,000 unis, ay Fee ne wecrage to weeks, workin progress (assume 50% completion stage): average one eg, ahve geal instoce average two weeks credit allowed by suppliers average tW0 Weeks cei allong Pear everge four week; ag in payment of wages: average one and Falf weeks and desired cas tered. Alfgalee are on credit basis and production scarred outevenly throughout the year. Cac net working capital requirement of ABC Ltd. Solution: ‘Statement showing net working capital (A) Current Assets: c (Raw material in stock (52,000 x 40 « 2) / 52 80,000 40,000 (@) Raw material (52,000 » 40 x 1)/52 (@) Work-in-progress ~ (b Direct labour 50% of (52,000 » 15 « 1) /52 7,500 Ae) Overheads 50% of (52,000 x30 1) /52 15,000 62.500 (ii) Finished goods stock (52,000 x 85 « 2) / 52 1.70000 (Ge) Debtors (52,000 « 85 x4) /52 3.40;000, (©) Cashatbank 20,000 Total current Assets (A) 672500 (8) Current Liabilities: (@ Creditors (52,000 x 40 x2)/52 80,000 (i) Wages (agin payment) (52,000 x 15 «1.5)/ 52 22.500 Total current liabilities (B) 702,500 5.70000 (©) Networking capital requirement (A)—(B) Mtucteattia ® Pranchis Tid mlane to coll 20.000 rniks nevt wear The avnartad rnct nf onadds is as follows:investment in work-in-progress, finished goods and debtors. Bisstration 10. ABC Ltd. provides the following particulars relating to its working: (0 Cost / Profit per unit: Raw material cost Direct labour cost. Overheads (all variable) Total cost Profit Selling price Per Unit |zaleae 200 |‘Average amount of back up stock: terial 1 month ae 1/2 month mies 1 mont 1 (ii) Credit allowed by suppliers : month (io) Credit allowed to customers month (0) Average time lag in the payment oft Wages 1/2 month, Overhead expenses iW Ronde (oi) Required cash in hand and at bank = 3,00,000 | (Pi) 25% of the output is sold for cash Foran expected sale of 1,00,000 units of ABC Ltd., work out the working capital requirements assuming that production is carried on evenly throughout the year and wages and overheads accrue similarly. (B.Com. Delhi Unio. 2013 (Ser Statement Showing Determination of Net Working Capital Current Assets: A (a) Desired cash in hand and at Bank 3,00,000 (b) Raw material (1,00,000 units x 84 x1/12) 7,00,000 (c) Work-in-progress (1,00,000 120 x 0.5/12) 5,00,000 (@) Finished goods (1,00, 000 x 156 x 1/12) 113,00,000 Bi 2 (0 Debtors [100,00 156% 75 al 19,50,000 Total current assets (A) 47,50,000 (B) Current Liabilities: ‘<— (a) Creditors (1,00,000 units x 84 x 1/12) 7,00,000 (b) Wages (1,00, 000 x 36 x 0.5/12) 150,000 (©) Overheads (1,00, 000 x 36 x 1.5/12) 4,50,000 Total current liabilities (B) 13,00,000 (C) Net working Capital (A -B) 34,50,000 ‘Note: WIP has been assumed as 100% complete with regards to material and 50% for labour and overhead Amount per 50 20 40 110sefoiowingis the additional information: selling price = 240 Level of activity 52,000 units per annum aw materials in stock Average 4 weeks Workein-progress [Assume 100% stage of completion of material and 50% Average 2 weeks for labour and overheads} Finished goods in stock Average 4 weeks Credit allowed by suppliers Average 4 weeks Credit allowed to debtors ‘Average 8 weeks cash at bankis expected tobe € 20,000. Assume production is sustained during 52 weeks of the year. [B.Com. Delhi Univ. 2012] solution: ‘Computation of Net Working Capital (a) Current Assets @ g (@) Desired cash balance at bank 20,000 (0) Raw materials (52,000 » € 50 x 4/52) 2,00,000 (QWork-in-progress: @ Materials (52,000 x € 50 x 2/52) 1,00,000 (id) Direct labour (62,000 x € 20 x2/52) 3 20,000 (iii) Overheads (52,000 x 40 x 2/52) a 40,000, 1,60,000 ( Finished goods (52, 000 x 110 » 4/52) 4,40,000 (©) Debtors (52,000 x © 110 x 8/52) 8,80,000 Total current assets (A) 17,00,000 (8) Current Liabilities: Creditors (52,000 x % 50 x 4/52) 2,00,000 Total current liabilities (B) 200,000 15,00,000 (©) Net Working Capital (A - B) rea firm has provided you the folowing information forthe next year: (9 Projected annual sale 50,000 units (Selling price © 20 per unit (ii) Raw material cost 25% of selling price 5 (io) Direct labour cost 20% of selling price “ 30% of selling price (0) Overheads Raw materials remain in stock for 3 weeks. Debtors are allowe cash basis, 10% margin Is kep for contingerices, Prepare 2 3 Working capital requirements. ‘on an average for 2 weeks, work in progress for 1 week and finished goods ea ave rcsredit while suppliers give 6 weeks credit, 25% of sales are on. tatement showing funds to be arranged for 18am, Raine 20031Solution: Working Notes: Breakup of cost and profit per unit z ; 2 Selling price (SP) ar Raw material cost (25% of SP) Direct labour cost (20% of SP) ‘ Overheads (30% SP) a Total cost P, Profit (20 - 15) — Statement of Estimation of Working Capital Requirement (A) Current Assets 5 g (Raw material stock 50,000 x 5 az 1,000 x 5x. e 9,615 (i) Work-in-progress . 1 (@) Raw material (0.000 x5% 3) 4,808 0 a), 50) @) Labour cost (s0.000x4% 4x 1923 (©) Overhead (50.000 6x db , 50 6x5 * 70 2,885 9,616 (ii) Finished goods (0.000 x15 x 43,269 (io) Investment in Debtors (50,000 xB AL} 2 00 43,2 Total current Assets (A) 2 =a (B) Current Liabilities Be Credit from suppliers (50.0003 5x6 52, 28,846 Total current liabilities (B) , a ‘©) Net Working Capital (A - B) —28e Add 10% contingencies 1a /Working Capital requirement —