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    Unit I - Working Capital Policy

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    jaskahlon92
    This document provides an overview of working capital policy. It discusses that working capital management involves determining the appropriate level of current assets (like cash, inventory, accounts receivable) and current liabilities. It also discusses the tradeoff between liquidity, profitability, and risk for different working capital policies. Specifically, it analyzes three example policies - Policy A maintains high current asset levels and has high liquidity but low profitability and risk; Policy B has average levels of current assets, liquidity, profitability and risk; and Policy C keeps low current asset levels with high profitability and risk but low liquidity. The optimal policy balances these factors.

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    Unit I - Working Capital Policy

    Uploaded by

    jaskahlon92
    107 views16 pages
    This document provides an overview of working capital policy. It discusses that working capital management involves determining the appropriate level of current assets (like cash, inventory, accounts receivable) and current liabilities. It also discusses the tradeoff between liquidity, profitability, and risk for different working capital policies. Specifically, it analyzes three example policies - Policy A maintains high current asset levels and has high liquidity but low profitability and risk; Policy B has average levels of current assets, liquidity, profitability and risk; and Policy C keeps low current asset levels with high profitability and risk but low liquidity. The optimal policy balances these factors.

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    policies

    Original Title

    Unit I- Working Capital Policy

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    This document provides an overview of working capital policy. It discusses that working capital management involves determining the appropriate level of current assets (like cash, inventory, accounts receivable) and current liabilities. It also discusses the tradeoff between liquidity, profitability, and risk for different working capital policies. Specifically, it analyzes three example policies - Policy A maintains high current asset levels and has high liquidity but low profitability and risk; Policy B has average levels of current assets, liquidity, profitability and risk; and Policy C keeps low current asset levels with high profitability and risk but low liquidity. The optimal policy balances these factors.

    Copyright:

    © All Rights Reserved
    Download as PPTX, PDF, TXT or read online from Scribd
    Download as pptx, pdf, or txt
    107 views16 pages

    Unit I - Working Capital Policy

    Uploaded by

    jaskahlon92
    This document provides an overview of working capital policy. It discusses that working capital management involves determining the appropriate level of current assets (like cash, inventory, accounts receivable) and current liabilities. It also discusses the tradeoff between liquidity, profitability, and risk for different working capital policies. Specifically, it analyzes three example policies - Policy A maintains high current asset levels and has high liquidity but low profitability and risk; Policy B has average levels of current assets, liquidity, profitability and risk; and Policy C keeps low current asset levels with high profitability and risk but low liquidity. The optimal policy balances these factors.

    Copyright:

    © All Rights Reserved
    Download as PPTX, PDF, TXT or read online from Scribd
    Download as pptx, pdf, or txt
    of 16

    Working Capital Policy An Overview

    Introduction
    Financial management of any business concern involves Management of long term Assets (Infrastructures)- Capital expenditure Budgeting Management of long term Funds- Capital Structure Decisions Management of short term Assets & Liabilities- Working capital management

    Adequacy of Working Capital


    of CA and CL Basic decision relating to liquidity of the company and payment of current assets. Factors of Conversion of CA into cash -Management of cash and marketable securities -Credit policy -Inventory management -Management of Fixed Assets
    Level

    Working Capital Policy


    Working Capital policy refers to the firms policies on four sub issues: How much WC is used? The extent to which WC is supported by short vs. long term financing The nature/source of various short term financing used How is each component of WC is managed

    3D Nature of Working Capital Management


    Dimension I Profitability, Risk, & Liquidity

    Dimensions of Working Capital

    Liquidity versus Profitability- A Risk- Return Trade-off


    Working

    capital policy maintains and provide sufficient liquidity to the firm. The decision on how much working capital be maintained involves a trade-off i.e., having a large net working capital may reduce the liquidity-risk faced by the firm, but it can have a negative effect on the cash flows. Therefore, the net effect on the value of the firm should be used to determine the optimal amount of working capital.

    Current Assets Investment Policy


    Current Asset Investment Policy (Policy A) Relatively large amounts of cash, marketable securities, and inventories are carried; and a liberal credit policy results in a high level of receivables. Restricted Current Asset Investment Policy (Policy C) Holdings of cash, marketable securities, inventories, and receivables are constrained. Moderate Current Asset Investment Policy (Policy B) Between the relaxed and restricted policies.
    Relaxed

    Working Capital Issues


    Optimal Amount (Level) of Current Assets Assumptions 50,000 maximum units of production Continuous production Three different policies for current asset levels are possible
    Policy A Policy B Policy C Current Assets

    ASSET LEVEL (Rs.) 0

    25,000 OUTPUT (units)

    50,000

    Impact on Liquidity
    Optimal Amount (Level) of Current Assets
    Liquidity Analysis Policy Liquidity A High B Average C Low
    Policy A ASSET LEVEL ($) Policy B Policy C Current Assets

    Greater current asset levels generate more liquidity; all other factors held constant.

    25,000 OUTPUT (units)

    50,000

    Impact on Expected Profitability


    Optimal Amount (Level) of Current Assets
    Return on Investment =
    ASSET LEVEL (Rs.)

    Net Profit Total Assets Let Current Assets = (Cash + Rec. + Inv.) Return on Investment = Net Profit Current Assets+ Fixed Assets

    Policy A Policy B Policy C Current Assets

    25,000 OUTPUT (units)

    50,000

    Impact on Expected Profitability


    Optimal Amount (Level) of Current Assets Profitability Analysis Policy Profitability A Low B Average C High
    As current asset levels decline, total assets will decline and the ROI will rise.
    Policy A Policy B Policy C Current Assets

    ASSET LEVEL (Rs.) 0

    25,000 OUTPUT (units)

    50,000

    Impact on Risk
    Optimal Amount (Level) of Current Assets
    Decreasing

    cash reduces the firms ability to meet its financial obligations. More risk! Stricter credit policies reduce receivables and possibly lose sales and customers. More risk! Lower inventory levels increase stockouts and lost sales. More risk!

    ASSET LEVEL (Rs.)

    Policy A Policy B Policy C Current Assets

    25,000 OUTPUT (units)

    50,000

    Impact on Risk
    Optimal Amount (Level) of Current Assets Risk Analysis Policy Risk A Low B Average C High
    Risk increases as the level of current assets are reduced.
    Policy A Policy B Policy C Current Assets

    ASSET LEVEL (Rs.) 0

    25,000 OUTPUT (units)

    50,000

    Summary of the Optimal Amount of Current Assets


    SUMMARY OF OPTIMAL CURRENT ASSET ANALYSIS Policy Liquidity Profitability Risk A High Low Low B Average Average Average C Low High High
    1. Profitability varies inversely with liquidity. 2. Profitability moves together with risk. (risk and return go hand in hand!)

    THANK YOU

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