Working Capital

Management

MD. ABDUL MATIN, EVP AND HEAD OF CRM, DHAKA BANK LIMITED
 Working Capital and Working Capital
Management
Working Capital refers to that part of the firm’s capital, which is required for financing short-
term or current assets such a cash marketable securities, debtors and inventories. Funds thus,
invested in current assets keep revolving fast and are constantly converted into cash and this cash
flow out again in exchange for other current assets. Working Capital is also known as revolving or
circulating capital or short-term capital.

Working capital management is concerned with the problems that arise in attempting to
manage the current assets, the current liabilities and the interrelations that exist between them.

MD. ABDUL MATIN, EVP AND HEAD OF CRM, DHAKA BANK LIMITED
 Purpose of Maintaining Working
Capital
I. To purchase raw materials.
II. To purchase store and spares. 
III. For keeping funds blocked under stock in process.
IV. For keeping funds blocked in finished stocks. 
V. For keeping funds blocked in sundry debtors and receivables. 
VI. For making advance payments to suppliers.
VII. For making day to day expenses like payment of wages, rent, power bills etc.

MD. ABDUL MATIN, EVP AND HEAD OF CRM, DHAKA BANK LIMITED
 Objective of Working Capital
Management
The goal of working capital management is to manage the firm’s current assets and liabilities in
such a way that a satisfactory level of working capital is maintained.

The interaction between current assets and current liabilities is, therefore the main theme of the theory
of the working capital management ..

MD. ABDUL MATIN, EVP AND HEAD OF CRM, DHAKA BANK LIMITED
 Concepts of Working
Capital
There are two concepts of Working
Capital

1. Gross working capital- Means the total current assets.

2. Net Working Capital - The difference between current

MD. ABDUL MATIN, EVP AND HEAD OF CRM, DHAKA BANK LIMITED
 Determinants of Working capital
Requirement
A. General nature of business A. Profit level
B. Production cycle B. Level of taxes
C. Business cycle fluctuation C. Dividend policy
D. Production policy D. Depreciation policy
E. Credit policy E. Price level changes
F. Growth and expansion F. Operating efficiency

MD. ABDUL MATIN, EVP AND HEAD OF CRM, DHAKA BANK LIMITED
 Types of Working Capital Facilities
Provided by Financial Institutions[FIs]
Depending on the nature of business banks are allowing following types of working capital
facilities:
1. Trading Concern: L/C, LTR, CC/Overdraft/SOD
2. Manufacturing unit involved in local trading (dependent on local materials):
CC/Overdraft/RSTL
3. Export oriented RMG unit and other Manufacturing Unit (dependent on imported
materials): Revolving L/C, LTR, Revolving BTB L/C, Packing Credit, IBP/FDBP
4. Work Order Financing : Revolving BG (Bid Bond, PG, APG), Overdraft, RSTL

MD. ABDUL MATIN, EVP AND HEAD OF CRM, DHAKA BANK LIMITED
 Why is Working Capital Assessment
Significant for FIs?
For the credit analyst, working capital is significant for three main reasons-
1. To assess whether the company / borrower has an excessive amount of working capital, in
particular stocks and trade debtors.

2. A company could have insufficient working capital. This could be due to an over-reliance on
short-term liabilities, in particular trade credit and a bank overdraft to finance its current assets.
A bank or supplier should consider whether it is appropriate to continue extending credit to the
company, where an injection of longer-term finance (e.g. new equity) might be more
appropriate.

3. There is a connection between a company's working capital and its cash flows and liquidity,
matters of prime concern to the credit analyst. Cash comes in from selling stocks and from
payments by debtors. Cash goes out to pay creditors. There must always be enough cash
coming in to meet the payments going out.

MD. ABDUL MATIN, EVP AND HEAD OF CRM, DHAKA BANK LIMITED
 The Operating-cycle and Working
Capital Needs
The working capital requirements of a firm depends, to a great extent upon the operating cycle of
the firm. The operating cycle may be defined as the time duration starting from the procurement
of goods or raw materials and ending with the sales realization.
The length and nature of the operating cycle may differ from one firm to another depending
upon the size and nature of the firm.
The operating cycle of a firm consists of the time required for the completion of the chronological
sequence of some or all of the following-
i. Procurement of raw materials and services.
ii. Conversion of raw materials into work-in-progress.
iii. Conversion of work-in-progress into finished goods.
iv. Sale of finished goods.
v. Credit allowed to customer in days.
vi. Credit obtained from customers in days.

MD. ABDUL MATIN, EVP AND HEAD OF CRM, DHAKA BANK LIMITED
Operating Cycle in Manufacturing Firm

MD. ABDUL MATIN, EVP AND HEAD OF CRM, DHAKA BANK LIMITED
Operating cycle of Non Manufacturing
Firm

MD. ABDUL MATIN, EVP AND HEAD OF CRM, DHAKA BANK LIMITED
 Determining Financing-mix
There are two sources from which funds can be raised for current assets financing-

1. Short term sources, like short term borrowing, Issuing Commercial Paper etc.

2. Long term sources, such as share capital, long term borrowings, internally generated
resources like retained earnings, etc.

MD. ABDUL MATIN, EVP AND HEAD OF CRM, DHAKA BANK LIMITED
 Approaches to Determine an
Appropriate Financing-Mix
There are three basic approaches to determine an appropriate financing mix-

Hedging Approach/ Conservative Approach Aggressive Approach

MD. ABDUL MATIN, EVP AND HEAD OF CRM, DHAKA BANK LIMITED
 Hedging Approach/ Matching Approach
According to this approach, the maturity of the sources of the funds should match the nature of the assets to
be financed. This approach suggests that long term funds should be used to finance the fixed portion of
current assets and The purely temporary requirements, that is, the seasonal variations over and above the
permanent financing needs should be appropriately financed with short term funds.

MD. ABDUL MATIN, EVP AND HEAD OF CRM, DHAKA BANK LIMITED
 Conservative Approach
This approach suggests that the estimated requirement of total funds should be met from long term
sources; the use of short term funds should be restricted to only emergency situations or when there is an
unexpected outflow of funds.

MD. ABDUL MATIN, EVP AND HEAD OF CRM, DHAKA BANK LIMITED
 Trade off between Hedging and
conservative approaches
The hedging approaches implies low cost , high profit and high risk while the conservative approach
leads to high cost , low profit , low risk Both the approaches are the two extreme and neither of them
serve the purpose of efficient working capital management.

A trade off between the two will then be an acceptable approach , One way of determining the
trade off is by finding the AVG of maximum and minimum requirement of current asset or
working capital

MD. ABDUL MATIN, EVP AND HEAD OF CRM, DHAKA BANK LIMITED
 Aggressive Approach
A working capital policy is called an aggressive policy if the firm decides to finance a part of the
permanent working capital by short term sources. The aggressive policy seeks to minimize excess
liquidity while meeting the short term requirements. The firm may accept even greater risk of
insolvency in order to save cost of long term financing and thus in order to earn greater return.

MD. ABDUL MATIN, EVP AND HEAD OF CRM, DHAKA BANK LIMITED
Calculation of Operating Cycle of a Typical
Company

MD. ABDUL MATIN, EVP AND HEAD OF CRM, DHAKA BANK LIMITED
 Calculation of Working Capital of a
Trading Firm
Cash cycle of a firm has to be calculated for determining working capital of that firm. The length
of a cash cycle can be estimated by three ratios or time measurements-
Ratio Meaning Measurement
Stock Average period of time for which stock is held ×365 days 
between purchase and eventual sale of the end-
Turnover product or service.

Creditor Average length of credit period obtained from ×365 days

MD. ABDUL MATIN, EVP AND HEAD OF CRM, DHAKA BANK LIMITED
 Calculation of Working Capital of a
Trading Firm
ABC Trading Corporation has the following financial information-
Particulars Amount in BDT
Sales 100,000
Cost of goods sold 60,000
Gross profit 60,000

Administrative Expenses BDT.700, Average Account Payable BDT.1,000 and Average Account
Receivable BDT.1,500 .

MD. ABDUL MATIN, EVP AND HEAD OF CRM, DHAKA BANK LIMITED
Calculation of Working Capital of a
Trading Firm
ABC Trading Company
Particulars Amount Tied
Tied up
up Tied
Particulars Amount Period
Period Tied up
up fund
fund
Cost of Goods Sold 60,000.00 75 (×75) 12500.00
Cost of Goods Sold
Account 60,000.00 75
Receivable+Advances 1,500.00 45 (×45) 187.50
Account
Receivable+Advances 1,500.00 45
Account Payable 1,000.00 35 (×35) 97.22
Administrative
Account Payable& Selling Cost 700.00
1,000.00 60
35 (×60) 116.67
Required Working Capital 12706.94
Administrative & Selling Cost 700.00 60
Required Working Capital 12706.94

MD. ABDUL MATIN, EVP AND HEAD OF CRM, DHAKA BANK LIMITED
Calculation of Working Capital of a
Manufacturing Firm

MD. ABDUL MATIN, EVP AND HEAD OF CRM, DHAKA BANK LIMITED
Calculation of Working Capital of a
Manufacturing Firm

MD. ABDUL MATIN, EVP AND HEAD OF CRM, DHAKA BANK LIMITED