Page 1 of 4
Journal for Studies in Management and Planning
Available at
http://edupediapublications.org/journals/index.php/JSMaP/
ISSN: 2395-0463
Volume 03 Issue 12
November 2017
Available online: http://edupediapublications.org/journals/index.php/JSMaP/ P a g e | 288
A Study on Pros and Cons of Working Capital Management
BANOTH SRUJANLAL
MBA
UNIVERSITY COLLEGE OF COMMERCE AND BUSINESS MANAGEMENT
Osmania Univeristy
Abstract:
Finance is the nerve center of Economic activity. It plays an important role for the survival
and growth of business. Capital has to be utilized effectively to increase the rate of
development and raise the efficiency of the business unit.. In these days of speedy
industrialization it is generally very difficult to provide the working capital requirement. The
capital formation includes both fixed capital and working capital. Finance invested in
purchase of fixed assets and installation of machines are considered as fixed capital. The
finance used for the purpose of meeting day-to-day operations of a firm is called working
capital. This study is concerned with problems involved in working capital like estimation of
working capital and provision of working capital at the time it is needed and to find out the
source and application of working capital and efficient use of funds
Introduction
Working capital management is considered
to be a crucial element in determining the
financial performance of an organization.
The primary purpose of this paper is to
investigate the relationship between
working capital management and financial
performance of listed manufacturing firms
in Sri Lanka. A sample of 30
manufacturing firms listed on the Colombo
Stock Exchange was used for this study.
Data were collected from annual reports of
sampled firms for the period of 2008 to
2011. Performance was measured in terms
of return on assets and return on equity
while cash conversion cycle, current assets
to total assets and current liabilities to total
assets were used as measures of working
capital management. Correlation and
regression analysis were used for the
analysis. The findings reveal that, there is
no significant relationship between cash
conversion cycle and performance
measures. The study also concludes that,
manufacturing firms in Sri Lanka follow
conservative working capital management
policy.
Meaning of Working Capital
Capital required for a business can be
classified under two main categories viz.
(i) Fixed capital
(ii) Working capital.
Every business needs funds for two
purposes for its establishment and to carry
out its day-to-day operations. Long-term
funds are required to create production
facilities through purchase of fixed assets
such as plant and machinery, land,
Building etc. Investments in these assets
represent that part of firm’s capital which
is blocked on permanent basis and is called
fixed capital. Funds are also needed for
short-term purposes for purchase of raw
materials, payment of wages and other
Page 2 of 4
Journal for Studies in Management and Planning
Available at
http://edupediapublications.org/journals/index.php/JSMaP/
ISSN: 2395-0463
Volume 03 Issue 12
November 2017
Available online: http://edupediapublications.org/journals/index.php/JSMaP/ P a g e | 289
day-to-day expenses etc. These funds are
known as working capital which is also
known as Revolving or circulating capital
or short term capital. According to
Shubin, “Working capital is amount of
funds necessary to cover the cost of
operating the enterprise”.
The Need or Objects or Working
Capital
The need for working capital arises due
to time gap between production and
realisation of cash from sales. There is an
operating cycle involved in sales and
realisation of cash. There are time gaps in
purchase of raw materials and production,
production and sales, and sales and
realisation of cash. Thus, working capital
is needed for following purposes.
1. For purchase of raw materials,
components and spares.
2. To pay wages and salaries.
3. To incur day-to-day expenses and
overhead costs such as fuel, power etc.
4. To meet selling costs as packing,
advertisement
5. To provide credit facilities to
customers.
6. To maintain inventories of raw
materials, work in progress, stores and
spares and finished stock.
Greater size of business unit large will
be requirements of working capital. The
amount of working capital needed goes on
increasing with growth and expansion of
business till it attains maturity. At maturity
the amount of working capital needed is
called normal working capital.
Importance or Advantages of
Adequate Working Capital : Working
capital is the life blood and nerve centre of
a business. Hence, it is very essential to
maintain smooth running of a business. No
business can run successfully without an
adequate amount of working capital. The
main advantages of maintaining adequate
amount of working capital are as follows:
1. Solvency of the
Business: Adequate working capital
helps in maintaining solvency of
business by providing uninterrupted
flow of production.
2. Goodwill: Sufficient working
capital enables a business concern to
make prompt payments and hence
helps in creating and maintaining
goodwill.
3. Easy Loans: A concern having
adequate working capital, high
solvency and good credit standing
can arrange loans from banks and
others on easy and favourable terms.
4. Cash Discounts: Adequate
working capital also enables a
concern to avail cash discounts on
purchases and hence it reduces cost.
5. Regular Supply of Raw
Material: Sufficient working capital
ensure regular supply of raw
materials and continuous production.
6. Regular payment of salaries,
wages and other day to
day commitments: A company
which has ample working capital can
make regular payment of salaries,
wages and other day to day
commitments which raises morale of
its employees, increases their
efficiency, reduces costs and
wastages.
7. Ability to face crisis: Adequate
working capital enables a concern to
face business crisis in emergencies
such as depression.
8. Quick and regular return on
investments: Every investor wants a
Page 3 of 4
Journal for Studies in Management and Planning
Available at
http://edupediapublications.org/journals/index.php/JSMaP/
ISSN: 2395-0463
Volume 03 Issue 12
November 2017
Available online: http://edupediapublications.org/journals/index.php/JSMaP/ P a g e | 290
quick and regular return on his
investments. Sufficiency of working
capital enables a concern to pay
quick and regular dividends to is
investor as there may not be much
pressure to plough back profits
which gains the confidence of
investors and creates a favourable
market to raise additional funds in
future.
9. Exploitation of Favourable
market conditions: Only concerns
with adequate working capital can
exploit favourable market conditions
such as purchasing its requirements
in bulk when the prices are lower and
by holding its inventories for higher
prices.
10. High Morale: Adequacy of
working capital creates an
environment of security, confidence,
high morale and creates overall
efficiency in a business.
Excess or Inadequate Working Capital
Every business concern should
have adequate working capital to run its
business operations. It should have neither
excess working capital nor inadequate
working capital. Both excess as well as
short working capital positions are bad for
any business.
Excess or Inadequate Working Capital
Every business concern should
have adequate working capital to run its
business operations. It should have neither
excess working capital nor inadequate
working capital. Both excess as well as
short working capital positions are bad for
any business.
Disadvantages of Excessive Working
Capital
1. Excessive working capital means idle
funds which earn no profits for
business and hence business cannot
earn a proper rate of return.
2. When there is a redundant working
capital it may lead to unnecessary
purchasing and accumulation of
inventories causing more chances of
theft, waste and losses.
3. It may result into overall inefficiency
in organization.
4. Due to low rate of return on
investments, the value of shares may
also fall.
5. The redundant working capital gives
rise to speculative transaction.
6. When there is excessive working
capital, relations with banks and other
financial institutions may not be
maintained.
Disadvantages of Inadequate working
capital
1. A concern which has inadequate
working capital cannot pay its short- term liabilities in time. Thus, it will
lose its reputation and shall not be able
to get good credit facilities.
2. It cannot buy its requirements in bulk
and cannot avail of discounts.
3. It becomes difficult for firm to exploit
favourable market conditions and
undertake profitable projects due to
lack of working capital.
4. The rate of return on investments also
falls with shortage of working capital.
5. The firm cannot pay day-to-day
expenses of its operations and it
created inefficiencies, increases costs
and reduces the profits of business.
Conclusion
