Working Capital Management: Focus on converting risk into an opportunity
- Current assets and current liabilities need to be managed well in order to increase cash inflows by reducing inventory, receivables as well as payable turnover
- Various working capital strategies are essential to secure the loan financed in it
- Optimum working capital can help companies to increase the market value per share
There is a lot of money tied up in accounts receivables and inventories in case of manufacturing and merchandising companies. Businesses need to learn how to properly invest in organization’s excess cash, control payable and receivables in order to increase profits and maximize liquidity. Companies need to focus on their current cash in hands, inventory turnover ratio (how fast the inventory is produced and sold) and efficiency of operating cycle. Otherwise, businesses operate with a weak working capital. Businesses these days, really need to focus on improving cash flows by creating systematic ways to check activity and profitability.
The data shows businesses currently applying for loans and looking to finance on following areas:
|Areas of financing||Percentage|
|Mergers and acquisitions||3.86|
|Expansion of facilities||20.31|
|Other Working Capital||39.59|
We can clearly see from the table that the portion of loan to be financed on working capital is highest being 39.59%. This shows that businesses need to learn various steps to manage optimum working capital.
Steps in Working Capital Management
Clear review of current processes
Businesses need to establish policies and procedures to create a controlled environment in which decision makers can clearly see all activities that affect operating cash flow. Companies need to access real-time data that enables managers to make urgent decisions regarding operations of the company with accurate supportive information.
Drill down on receivables turnover
Companies need to focus on cash conversion cycle i.e. how fast the company converts its resources to cash flow. Information regarding how fast a company is collecting cash, how often are clients paying and who are paying timely and lately could be very efficient while managing receivables. Hence, it is important to understand the behavior of both client and employees because employees play a vital role in the operation of company.
Focus on possibility of slowing down cash outflow
Large companies must evaluate cost reduction opportunities. These companies may even be able to earn discounted rates while purchasing bulk amount. Companies can negotiate with vendors regarding payment terms. Companies need to carry on credit transactions with those vendors with whom they have good relationships due to good payment histories. A good rapport with vendors can really help companies at times when they need to be cash conservative.
Check the volume of transactions
Financial managers need to identify metrics impacting key areas (i.e. standard of measurement to track process of change by organization). Companies need to track by how much level their operational standard need to be increased to increase the market share. Sometimes businesses move on to different track other than cash concentration areas, despite the need for enough liquidity and profitability. Customer statement distribution pace can be key to cash conversion cycle. It is important to note how often employees are calling clients and sending out invoices and statement.
The concept of working capital management is necessary to increase the solvency power of company. Shareholders’ wealth can be optimized that ultimately leads to lead in the open market increasing the level of market capitalization.
Hence, the good working capital policies help to manage the cash conversion cycle and utilize the business resources. In turn, companies can maintain optimum dividend payout and retention ratios. This ultimately increases the market value per share, increasing the market reputation of companies.