WORKING CAPITAL MANAGEMENT

Short term surplus in the - Pay suppliers earlier to take

.1 near future advantage of any prompt
payment
Long term surplus in the - Buy back the company’s shares
.2 near future - Invest in a long term deposit
bank account
Short term shortage of cash - Increase payable by delaying
.3
payment to suppliers
Working capital will - with sales as more inventory is
naturally increase needed to satisfy demand and
more credit is offered to more
customers
.4
- payable will also increase ,
reducing working capital but a
lower degree

Lengthening of operating - Will lead to cash being out of

cash cycle business for longer and more
.5
funding therefore needed to
cover this
Overtrading ( under - Is where the business doesn’t
capitalization ) have enough cash funding to
.6
sustain the level of trading
activity
Shortening working capital - Taking longer to pay trade
cycle payable would shorten the cash
.7 cycle as cash stays with
company possession for a longer
period time
signs of a lengthening cash - slower inventory turnovers
.8
cycle - Lower net operating cash flows
Depreciation expenditure - Is non cash flow item and is no
.9
affect the cash cycle
key aspects of a company’s - Assessing creditworthiness
accounts receivable - Invoicing promptly and collection
credit policy? overdue debts
- Check credit limit once year is
too specific and may not
.10
appropriate
- Delaying payments to obtain a
free source of finance would be a
key aspect of a company’s
account payable policy
 Cash flow forecast item - A corporation tax payment
should be include in - A dividend receipt from a short
.11 calculated term investment
- The receipt of funding for the
purchase of new vehicle
non cash items - Bad debt write offs
.12 - Change in provisions
- Losses on disposal
Is not usually associated - While overtrading can result in
with overtrading higher inventory and receivables
( and payables) , resulting in the
current ratio increasing in the
.13
short term , over the longer
term the inevitable drain on cash
will result in falling liquidity
ratios
The risks involved in - Loss supplier goodwill
increasing the account - Losing prompt payment
.14 payable payment period discounts
- Suppliers increasing the price to
compensate
AIMS OF JIT SYSTEM OF - Reduction in capital tied up in
INVENTORY inventory
- Elimination of all activities
performed that do not add value
- The system aims to create a
flexible production process that
is responsive to the customer’s
.15 requirements
- With a just in time system ,
although inventory holding costs
are close to zero , inventory
ordering costs are high , not low
as more frequent small
deliveries of suppliers will be
needed
Reasons for holding cash - Transaction motivate ( is to have
enough cash to pay for day to
day transaction
.16
- Precautionary motive ( is hold
cash to pay for unexpected
items ( machine breakdown )
Impact the WC be smallest - Working capital management
may have an impact on dividend
.17
policy , but the other areas will
be more significant
 Permanent current assets - AS there is a minimum of 90
Fluctuating current assets daya worth of inventory held ,
this element is classed as
permanent asset and would be
.18
finances with equity
- Only the fluctuating element of
the inventory balance will need
to be financed with overdraft
an advantage of - Obsolete inventory is minimized
implementing just-in-time under JIT inventory management
inventory management .
- Quality become more important
under jit as breakdown / faulty
goods become very costly when
there is no buffer inventory
.19 - Finance cost of holding inventory
will be minimized , not held
constant
- Raw material will need to be
delivered more frequently ( in
smaller loads to avoid holding
large amount of raw material
inventory
A commercial paper - Will be issued at a discount
( money received by the
company ) and then repaid a
.20
nominal value on the settlement
date . it is short term and traded
on the money market
Interest rate future - Would be used to hedge interest
.21 rate risk

Corporate loan notes - Are for long term funding needs

.22

Treasury bills - Are issued by the government ,

not by the company
.23 - Companies could decide to buy
treasury bills if they have short
term cash surplus
The buffer inventory - Is not needed for the EOQ
calculation
.24 - It would be included as part of
the calculation for total
inventory costs
.25 Cash management models - The Baumol model is more
 suitable when cash flows are
steady and predictable if cash
flows are more erratic then the
miller orr model is better suited
as a model
- The both assume that cash is
held in either a current account
or short term investment and
can easily be switched between
the two
- In the miller orr The lower limit
that is set by management
- Both model take into account
the transaction costs of
switching between current
accounts and investments
- The current account balance is
only taken back to the return
point when either the higher or
lower limit it hit. if these limits
are not reached, no attempt will
be made to adjust the balance
Conservative working - Refers to a higher amount in
capital policy invested in working capital
.26 - It does not relate to proportions
of permanent to fluctuating
current assets
Long term finance - Is not generally less expensive
than short term finance , it is
.27
more expensive as it is riskier for
the lender `
With aggressive working - Most current assets are financed
capital funding policy with short term funding rather
than long term funding , despite
the higher risk involved
- It is an aggressive policy
because it aims to keep funding
.28 cost low ( using short term
finance is generally cheaper
than long term ) , despite
exposing the business to higher
risk ( short term finance may be
subject to renewal issues and
changing costs
Acacia Has 4 of long term working capital
.29
finance , but permanent working
 capital of 6 m
Therefore it is using short term finace
for both fluctuating and some of its
permanent working capital . this
means its working capital funding
strategy is aggressive
Conservative investment Relatively high level of current assets
.30 strategy

Aggressive investment Relatively low level of current assets

.31 strategy

Aggressive financing Relatively large amounts of short-term

.32 strategy finance

Conservative financing Relatively small amounts of short-term

.33 strategy finance

Assumption of EOQ - Demand has to be constant so

that average inventory is half of
the order quantity
.34 - As long as the lead time is
constant and known , this is
sufficient for the EOQ formula to
hold , it does not have to be zero
Periodic review - Ordering inventory at a fixed and
regular time interval inventory
levels are reviewed at a fixed
.35 time
- The inventory in hands in then
made up to a predetermined
level
Receivable balance - Cash sales don’t generate a
.36 receivable balance so need only
business sales
Under debt factoring - The customer will be aware that
a factor is being used as the
payment details on the invoice
.37 will be for the factor
- Debt factors effectively purchase
the receivable assets from the
business
.38 Under invoicing discounting - This is not case the customer will
be unaware that invoice
discounting is being used
- Lend money using the business
 receivable assets as security
Function of a credit control - Advising existing customers on
department payment terms
- Giving credit reference to third
.39
party
- Investigating potential
customer’s credit worthiness
Purchase ledger department - Determining whether to accept
.40 cash discount

Over trading - Is an increase in business

.41 activity without the necessary
increase in capital
Aggressive - Both fluctuating and permanent
current assets financed by short
term funds
- Delay paying creditors (payables
.42 ) for as long as possible
- Make use of short term , risky
funding rather than long
term ,secure funing , payable are
a source of short term funding
Divisional responsibility for - Will be reduced as the
.43 cash responsibility will be held
centrally
Example of over trading - A period of strong growth
.44 (cash operating cycle ) when a business has a long
operating cycle
Operating cycles tend to be - New business tend to struggle to
longer in brand new get credit from suppliers and
businesses compared to often have to give longer credit
.45
established businesses to customer for fear of breaking
a new and fragile relationship
with them
managing foreign accounts - It correct that discounting bills of
receivable exchange can reduce foreign
.46 account receivable FAR default
risk since it reduces the level of
investment in FAR
.47 An Aggressive strategy - aims to maximize
profitability despite the risk
of doing
- short term finance is generally
cheaper than long term because
there is less risk for the lender
and therefore they cant demand
 high return
Moderate working capital - Use the matching principle
funding strategies - As some current assets are
essentially permanently in place
.48 ( buffer inventory , minimum
recivable from customer paying
on time ) they should be
financed with long term funding

WORKING CAPITAL MANAGEMENT Formula

1. The cash operating = receivables collection period + inventory holding
cycle period – payables payment period
2. The receivables 365/average receivables turnover
collection period 365/inventory turnover
The inventory 365/payables turnover ratio
holding period
he payables
payment period
3. Net investment in = what working capital net balances will there be
working capital
4. Miller-Orr spread = 3 × [3/4 × transaction cost × variance of cash
flows/interest rate]1/3
5. EOQ = √(2 × Co × D/Ch)

6. Receivables balance = accounts receivable collection period × sales/360

calculation
7. Annual ordering cost = Co × D/Q
8. Annual holding cost = Ch × (Q/2 + buffer inventory)
Buffer inventory will be the inventory till in the
warehouse when the next order comes in.
From the question info, there are 20,000 units
remaining when the order is placed. It takes
one week for the order to be received. If 600,000
units are used in 50 weeks, then
(600,000/50) 12,000 units are used in one week.
9. Monthly rate 12% = (1.12(1/12) – 1) × 100 = 0.95%
per year
10. PV = = future cash flow × (1 + r)-n
11. Annual interest rate ¿
to monthly
12. Baumol model
formula for the
optimal cash
transaction Q

13. Receivables trade receivables/credit sales × 365

collection period
14. Payables payment trade payables/credit purchases
period
15. Inventory holding closing inventory/cost of sales × 365
period
16. Inventory Period : The time the goods remain in inventory.


17. Accounts The time from when the goods are sold until
Receivable Period payment is received

18. Accounts Payable The time from when the goods are ordered (or
Period received, depending on terms) until the supplier is
paid. Typically, it’s the period from delivery to
payment, as payment terms often start upon receipt