Working Capital Management

Working capital is current assets minus current liabilities. Working capital is a measure that measures how many liquid assets a company has available to build its business. Working capital management is defined as the practice of researching and planning a company's assets, debts and incoming cash flow to ensure that the organization has enough capital to operate.

Working capital management is a managerial accounting strategy focusing on maintaining efficient levels of both components of working capital, current assets and current liabilities, in respect to each other. It indicates and ensures that a company has sufficient cash flow in order to meet its short-term debt obligations and operating expenses. The implementation of working capital management is an effective way for many companies to improve their earnings. There are two main aspect of working capital management. They are ratio analysis and management of individual components of working capital.

Working capital management includes a few key performance ratios. They are working capital ratio, inventory turnover and the collection ratio. Ratio analysis is a measure which leads the management of a company to identify on the areas of focus such as the inventory management, cash management, accounts receivable and payable management.

Cash management is defined as identifying the cash balance which allows for the business to meet day to day expenses, but reduces cash holding costs. Inventory management refers to the identification of the level of inventory which allows for uninterrupted production but reduces the investment in raw materials. It minimizes reordering costs and hence increases cash flow. Accounts receivable or debtors’ management refers to the identification of 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 on the Return on Capital. Payable management identifies the appropriate source of financing.

Questions:

• What is working capital management?
• What are the components of ratio analysis in working capital management?