Gujarat BoardEnglish MediumSTD 12 CommerceOCMFINANCIAL MANAGEMENT5 Marks
Question
State the factors affecting working capital.
✓
Answer
Introduction :
There is no formula to determine the requirement of working capital while determining the requirement of working capital various factors are considered such as type of business, size and form of business, production cycle, credit policy, etc.
If without having considered various factors, the ratio of working capital is determined, the result will be decrease in profit because of utilization capital or shortage of finance in business due to less working capital which leads business to insolvency.
Factors affecting working capital :
Type and form $($nature$)$ of business :
Requirement of working capital development on the type and nature of business e.g. large business units have to keep large quantity of goods and sell or credit.
So they require working capital in large amount.
Ratio of working capital changes according to the nature of business e.g. gas company and electricity require less working capital.
Labour based industry requires more working capital.
Size of business :
Small size business unit requires less working capital.
The greater the size of business the greater is the requirement of working capital.
Production $($process$)$ cycle :
Time duration between raw material and finished goods is production cycle.
Working capital is employees in raw material and semi-finished goods. It requires more working capital. E.g. manufacturing of cotton cloth, bakery and dairy products require less working capital as the time duration of process is short.
Production policy and types of demand :
Larger working capital is required when product is seasoned and business unit continues steady production round the year. E.g.
Woolen clothes rain coat, umbrella manufacturing company requires large working capital.
Stock of row-material :
Sometimes raw material is not easily available or its supply is irregular or limited, or available in certain season, business unit has to stock it so it needs large working capital.
Credit policy :
When finished goods is sold on cash less working capital is required and if it is sold on credit it needs more working capital.
If raw material is purchased on cash then more working capital is required.
Less working capital is required if raw material is available on credit.
Conversion of current assists into cash :
Goods sold on cash collection of bill receivables on the date of maturity, in case of prompt collection from debtors, all these lead to less requirement of working capital.
Stock turn over ration :
Less working capital is required when stock turnover rate is high.
When stock turnover rate is low the requirement of working capital is more.
Efficiency of managerial operating :
Managerial efficiency of performance means to obtain higher result with less attempts.
Maximum result with minimum efforts.
The need for working capital is reduced by removing wastage, prompt collection and efficient use of available resources.
Distribution of profit :
Dividend paid to shareholder is a part to profit.
It is paid in cash so it affects working capital.
The higher the amount of dividend to be paid, the greater the requirement of working capital due to outflow of cash.
Conclusion :
Many factors affecting working capital are changing time to time.
So financial management should regularly assess each factors.
Factors like stock turnover rate of dividend, stock of goods etc are not fixed so they should be carefully considered.
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