Working Capital Management

  1. Working Capital Management Ratios
    Normally, the following ratios are used to indicate liquidity characteristics of working capital.
    Current Ratio:
    This ratio is known as current or working capital ratio. It gives the relationship between current assets and current liabilities of the concern and is calculated as
    current ratio = Current assets/ Current liabilities
    This ratio indicates the extent to which short-term credits are safe in terms of liquidity of the current assets. Thus, the higher the value of current ratio, the more liquid the form in and more ability it has to pay its bills. A low value of current ratio means that the firm may find it difficult to pay the bills. However, a current ratio of 2:1 is considered generally satisfactory, it educates that in the worst situation even if the value of current assets go down by half, management would still be able to repay the debts and meet its obligations. Thus, it represents the crushing that creditors have to protect themselves any adverse liquid position. It should, however, be remembered that this standard of 2:1 should not be blindly followed. In actual practice, there might be firms with a current ratio of less than 2:1 and do very well while others despite a higher current ratio fail to meet their obligation.
    A relatively very high ratio, therefore, indicates slackness of management practices are reflected in excessive holding of current assets. On the other hand, a low ratio indicates an inadequate margin of safety between the current resources and short-term obligations.
    Acid Test Ratio
    Another ratio that often gives choices about the liquidity of working capital is the acid test ratio or quick ratio.
    Here, the relationship between quick assets and quick liabilities is noted, thus:
    Acid test ratio = Current assets – inventory/ Current liabilities
    Quick assets are defined as current assets minus inventory. Among the various element of working capital, inventory is relatively less liquid and hence deducted from total current assets to give the value of quick assets in the firm. Quick liabilities, of course, are the same as current liabilities.
    The ratio is often used to supplement the information furnished by a current ratio. An acid test ratio of 1:1 is considered satisfactory. This norm, however, should be interpreted with caution. A higher ratio does not necessarily mean that it is good nor lower ratio mean that it is bad.
    Cash ratio = cash and marketable securities/ Current liabilities
    You might have observed that this ratio is a structured one to measure liquidity position. Only cash and marketable securities have been used in the numerator as they are highly liquid. Thus, each ratio measures absolute liquidity of the business. This ratio is not much used in practice; however, it can give significant insight into the liquidity position if used in conjunction with current and acid test ratios.
    Remember, liquidity ratios indicate the extent to which a firm will be able to meet its short-term obligations as and when due.
    In addition to efficiency and liquidity of working capital, management should also look into its structural health aspects. The structural health of the working capital in the business is generally studied by analyzing the shifts and changes between its various elements i.e. cash receivables, inventories and other items of current assets.
    Decomposition analysis can help management to detect the occurrences and changes in a firm’s resource allocation over a period of time. If after scanning the data any unusual phenomenon is detected, management can further investigate that in depth. Under decomposition analysis, the value of individual items can be seen in relation to total value of the current assets in relation to total assets. Likewise, the proportion of short-term liabilities can be gauged with respect to total liabilities. The following ratios are generally used to analyze the structure of working capital in the business and have been found to be quite useful:
    1. Current assets to total assets ratio.
    2. Cash to current assets ratio.
    3. Receivables to current assets ratio.
    4. Inventory to current assets ratio.
    5. Current liabilities to total liabilities ratio.
    All these ratios are very simple to calculate and if analyzed together they indicate area of strength and weakness in the sphere of working capital management.
    These ratios can be studied over time and/or compared with an industrial average to find out useful dues to be investigated further for any corrective action.
    Remember: This set of ratio helps to evaluate structural shifts and changes that have taken place over time and are indicators of structural health of working capital.
    If there is proper balance between the individual current assets and the level of activity, say sales, it indicates that these have been managed efficiently. We shall now discuss ratio which are generally calculated to judge the efficiency of current assets utilization.
    Inventory constitutes an important part of the working capital. Many a firm in actual practice face serious problems due to slow moving, outdated inventory. Inventory is an essential items in the business operation. But if too much amount is invested in this for too long, it poses a serious threat to the profitability as well as solvency of the concern. The ratios that are normally being used as indicators of the quality of management exercised over inventory as a whole and its parts are discussed in the following, overall inventory turnover ratio. Inventory (stock) turnover reflects the efficiency with inventory is being managed in the concern. It is calculated by dividing the cost of goods sold by average inventory thus:
    Inventory Turnover = Cost of Goods Sold/Average Inventory
    Analysts use the figure of net sales in the numerator to compute the above ratio as the figure of cost of goods sold if not generally available in the published financial statements. But it is logical that management should relate cost of goods sold with inventory as both being valued at cost and comparable.
    Inventory turnover ratio indicates the way management has used inventory to conduct the operations of the business, it shows how rapidly the inventory is being run into receivable/cash through sales. Generally, a higher turnover is considered good and a low turnover bad.
    A lot turnover implies an excessive level of inventory than warranted by production or sales operations. This may also indicate the presence of slow moving or obsolete inventory. It can safely be said that management has a locked-up funds unnecessarily in them.
    Another useful way to evaluate how inventory management is done in the concern is to look at the average period for which inventory is being held. Average holding period of inventory can be calculated by dividing the number of days in a year (365) that inventory is being held. Whereas inventory turnover ratio is calculated above, the average holding period is calculated as below:
    = 365/inventory turnover
    = 365 x average inventory/cost of goods sold
    = average inventory/cost of goods sold per day
    Raw material inventory turnover: = raw material consumed during the year/ average raw material inventory 
    The above ratio indicates the rate of utilization of raw material. A higher turnover ratio of raw material inventory over a period of time indicates its increasing utilization. But too high a ratio may indicate that proportionately less raw materials were held in order to carry out the production which may be quite risky.
    Another way to indicate efficiency of raw material is to express it in terms of number of days of holding raw material inventory. This is calculated by dividing the number of days in a year by raw material holding period (in days).
    = 365/ raw material inventory turnover
    365 x average raw materials inventory / raw materials consumed per = average raw materials inventory/day raw material consumed per day
    The expression of the efficiency of raw material i.e. raw material storage period in terms of days can be compared with the predetermined standard set up by management or with the industry standard or with the past performance in this regard. A significant variation from the acceptance standard may write corrective actions from management in respect of quantity of raw material to be ordered, timing and either related aspects that may have a bearing on this.
    Work-in-process inventory turnover ratio establishes a relationship between the value of goods produced and the value of average work-in-process thus:
    = Work-in-process inventory turnover= cost of goods manufactured/ Average work-in-process inventory
    A higher turnover ratio indicates lower inventory accumulation and lesser tied up working capital. A falling turnover means either management has become lax in controlling the productive processes or some external factors have retarded the production movement at its final stage. Turnover ratio is divided into the number of days in a year. It will give the conversion period which can be compared with some acceptable standard to evaluate the performance.
    Conversion period = Average W.I.P. inventory/Cost of goods manufactured per day(in number of days)
    Finished Goods Inventory Turnover
    Firms produce goods in order to sell them in the market.However, there may be a delay in their sale or in meeting seasonal demand for finished goods. There is however a limit to the period for which finished goods should be in store. If the finished goods are turned over faster, the amount of locked up funds would be less otherwise it will be more. Finished goods inventory turnover ratio attempts to capture the above aspect. It is calculated as finished – goods inventory turnover:
    = Cost of goods sold/Average finished goods inventory
    The same can be converted into finished goods storage period if the number of days in a year is divided by the finished goods inventory turnover ratio that is:
    Finished goods storage period = average finished goods inventory/Cost of goods sold per day
    Generally lower storage period is considered good but too low a storage period is risky.
    RECEIVABLES EFFICIENCY RATIOS
    With the increasing competition in the business, management sometimes offers liberal credit terms to its customers thereby increasing sales and total profits. This is number of times the management is able to turn the receivables into sales indicates the efficiency with which the receivables are being managed. This is given by the receivable turnover ratio which is calculated as:
    Receivables turnover = Total Sales/Average receivables
    In the numerator of the above ratio, either total sales or only credit sales can be used.
    The choice of credit sales is better due to its relationship with the denominator. A low turnover ratio is an indicator of the firm’s increased reliance on credit sales in its marketing efforts. If this is not backed up by receivable, it may jeopardize the very solvency of the firm for getting additional insight into the managerial aspects of receivable. This ratio can be divided into the total number of days in a year (365) to give collection period:
    Average collection period = 365 x average balance of receivables/Total sales
    = Average balance of receivable/sales per day
    Average collection period calculated above indicates the number of days for which receivables remain uncollected. This can be compared with the credit period offered by management to its customers. If actual collection period as calculated above is more than the one which is offered, it indicates slackness on the part of management. This calls for variation. The whole approach towards recovery of dues needs to be streamlined, modified or changed as per the severity of the problem.
    Cash Efficiency
    Cash is considered an idle asset as it does not earn any return. Therefore, a balance has to be struck between too much and too less an amount of cash that a concern should have. In fact, it should be just adequate to the needs of the concern. Efficiency management of each of cash requires that there should be proper relationship between cash needs of the concern to the average balance of cash held by it during the year. This is:
    Cash turnover ratio = Cash operating expenses during the year/Average cash balance during the year
    No definite conclusions of course can be drawn if this ratio deviates from the selected standard of comparison. This is because of differences in requirements of cash among firms for their operations depending upon various factors like nature, size and quality of its operations, attitude of management etc. Still, this ratio does indicate area where further probing is needed.
    Again, management might be interested to know whether cash is being held in the concern for a desired period or not as against their own norms or industry norms. This is reflected in cash holding period which is calculated as:
    Cash holding period = 365 x average cash balance during the year/ Total cash operating expenses during the year
    Payable Efficiency
    Accounts payable constitute an important source to provide spontaneous working capital finance for the firm. To what extent management is able to use it properly is an important area worth probing. Payables turnover ratio is calculated as:
    Payable turnover ratio = annual purchase/Average payablesPayable turnover ratio expresses the number of times account payables are converted into purchases by management during the year. Normally, a higher turnover ratio is preferred. This means that with a similar amount of payables, management could purchase more material during the year. This therefore reflects efficiency on the part of the management.
    A variant of this ratio is average payment period. This is calculated thus:
    Average payment period = 365/Payable turnover ratioAverage payment period of the firm can be observed for a period of time out, how management has failed on this front or it can be compared with an industry average to assess the firm’s relative standing in this regard.
    Efficiency ratios indicate the efficiency with which working capital and its constituent parts are being utilized.
    Overall working capital and its elements are generally expressed as number of times they are converted into sales/cost of goods sold or number of days they are being held.
  3. Answer :
    It introduced the concept of working capital gap which the excess of current assets over current liabilities other than bank borrowing. They also suggested three progressive methods to decide the maximum limits according to which banks should provide the finance.
  4. Answer :
    Is suggested that the cash credit limit should be bifurcated into two components i.e. Minimum level of borrowing required throughout the year should be financed by way of a term loan and the demand cash credit to take care for fluctuating requirements.   
  5. Answer :
    Credit Information Systems : The committee recommended the submission of a quarterly reporting system based on actual ass well as estimations, so that the requirements of working capital may be estimated on the basis of production needs.  
  6. Answer :
    The committee suggested that there should be a proper system of supervision and control. 
  7. Answer :
    The committee did not suggest any right norm for debt equity ratio, the committee opined that if the trend of debt equity ratio is worse than the medians, the banker should persuade the borrowers to strengthen the equity base as early as possible.              
  8. Answer :
    According to the notification of RBI dated on 21st Aug 1975 accepted the following recommendations of Tandon committee:
    1. Norms for Inventories and Receivables
    2. Coverage
    3. Methods of Borrowing
    4. Style of Credit
    5. Information System
  9. Answer :
    Hypothecation is a mode of security in which bank extends the assistance to the company against the security of movable property. Neither the property nor the possession of the goods hypothecated is transferred to the bank. If the company fails to repay the amount of assistance, in such case the bank has the right to sell the goods hypothecated to realize the outstanding amount of assistance granted by it to the company. A consumer entering into a mortgage agreement is an example of Hypothecation.
  10. Answer :
    Pledge is a mode of security in which bank extends the assistance to the company against the security of movable property. But the possession of the goods is with the bank and the goods pledged are in the custody of the bank. Thus, it becomes the duty of the bank to take care of the goods in the custody. In case the company is unable to repay the amount of assistance, the bank has the right to sell the goods pledged to realize the outstanding amount.
  11. Answer :
    Lien is a mode of security in which the bank retains the goods belonging to the company until the debt due to the bank is paid. Lien is of two types: Particular Lien and General Lien. Normally, Bank enjoys general Lien.
  12. Answer :
    Mortgage is a mode of security in which the legal interest in a specific immovable property is transferred as security for the payment of debt. The party who transfers the interest is called mortgager and party in whose favour the interest is so transferred is called mortgagee. The borrower possesses the property while the bank gets full legal title, subject to borrower’s right, to repay to debt.          
  13. Answer :
     The observation and recommendations made by Tandon committee were:
    1. Norms : The committee suggested 15 industries excluding engineering industries. These norms were suggested in following forms:
      a. For Raw materials: Consumption in months
      b. For Work in Progress: Cost of production in months
      c. For Finished Goods: Cost of Sales in months
      d. For Receivables: Sales in months
    2. Methods of Borrowings : It introduced the concept of working capital gap which the excess of current assets over current liabilities other than bank borrowing. They also suggested three progressive methods to decide the maximum limits according to which banks should provide the finance.
    3. Style of Lending : Is suggested that the cash credit limit should be bifurcated into two components i.e. Minimum level of borrowing required throughout the year should be financed by way of a term loan and the demand cash credit to take care for fluctuating requirements.
    4. Credit Information Systems : The committee recommended the submission of a quarterly reporting system based on actual ass well as estimations, so that the requirements of working capital may be estimated on the basis of production needs.
    5. Follow up, Supervision and Control : The committee suggested that there should be a proper system of supervision and control.
    6. Norms for Capital Structure: The committee did not suggest any right norm for debt equity ratio, the committee opined that if the trend of debt equity ratio is worse than the medians, the banker should persuade the borrowers to strengthen the equity base as early as possible.   
  14. Answer :
    A bank needs following forms of security to provide security to a company:
    1. Hypothecation
    2. Pledge
    3. Lien
    4. Mortgage
    • Hypothecation is a mode of security in which bank extends the assistance to the company against the security of movable property. Neither the property nor the possession of the goods hypothecated is transferred to the bank. If the company fails to repay the amount of assistance, in such case the bank has the right to sell the goods hypothecated to realize the outstanding amount of assistance granted by it to the company. A consumer entering into a mortgage agreement is an example of Hypothecation.
    • Pledge is a mode of security in which bank extends the assistance to the company against the security of movable property. But the possession of the goods is with the bank and the goods pledged are in the custody of the bank. Thus, it becomes the duty of the bank to take care of the goods in the custody. In case the company is unable to repay the amount of assistance, the bank has the right to sell the goods pledged to realize the outstanding amount.
    • Lien is a mode of security in which the bank retains the goods belonging to the company until the debt due to the bank is paid. Lien is of two types: Particular Lien and General Lien. Normally, Bank enjoys general Lien.
    • d) Mortgage is a mode of security in which the legal interest in a specific immovable property is transferred as security for the payment of debt. The party who transfers the interest is called mortgager and party in whose favour the interest is so transferred is called mortgagee. The borrower possesses the property while the bank gets full legal title, subject to borrower’s right, to repay to debt.    
  15. Answer :
    The main issues studied by Tandon committee to exercise control over working capital were:
    1. Can the norms be evolved for current assets and for debt equity ratio to ensure minimum dependence on bank finance?
    2. How the quantum of bank advances may be determined?
    3. Can the present manner and style of lending be improved?
    4. Can an adequate planning, assessment and information system by evolved to ensure a disciplined flow of credit to meet genuine production needs and its proper supervision?
  16. Answer :
    Advantages of Letter of Credit to an Importer:
    1. Importer is guaranteed to receive timely delivery of goods.
    2. It makes structuring an advantageous payment schedule easy.
    3. Expediting customs clearance and ultimate delivery as the documents are received quickly.
    4. It gives an assurance to the importer that the payment will only be made to the exporter upon presentation of documents evidencing the shipment of goods.
    5. It reduces the risk of non-performance of the exporter.
  17. Answer :
    Fund based lending, where the lending bank commits the physical outflow of funds. The various forms in which fund based lending may be made by banks:
    1. Loan
    2. Overdraft
    3. Cash Credit
    4. Bills Purchased/Discounted
    5. Working Capital Term Loans
    6. Packing Credit
  18. Answer :
    Different types of Letter of Credit:
    1. Revocable Letter of Credit
    2. Irrevocable Letter of Credit
    3. Confirmed Irrevocable Letter of Credit
    4. Transferable Letter of Credit
    5. Revolving Letter of Credit
    6. Credit available by installments
    7. Back to Back Letter of Credit
    8. Anticipatory Credit or Red Clause
    9. Green Clause Letter of Credit
    10. Deferred Payment Letter of Credit
    11. Standby Letter of Credit
  19. Answer :
    Advantages of Letter of Credit to an Exporter:
    1. Exporter is guaranteed payment upon presentation of specified documents.
    2. It eliminates the risk of dealing with an unknown importer in a different country.
    3. It becomes easier for the exporter to secure pre order financing.
    4. Importer cannot refuse payment by raising a complaint about the goods.
  20. Answer :
    Bank Guarantee is a non fund based lending given by the bank to ensure that the liabilities of a debtor will be met. This facility enables the customer to acquire goods, buy equipment and thereby expand business activity. This process can be explained with the help of an example. Suppose X and Y are two companies both unknown to each other, in which X wants to purchase some material from Y Company. As the company Y does not know the company X and is concerned whether company Y will make the payment or not. 
    Bank Z of Company X opens the bank guarantee in favour of company Y Bank Z in which it undertakes to make the payment to Company Y, if the company fails to make payment to company Y. In this way, interests of company Y are protected as it is assured to get the payment either from company X or from its Bank Z. As such, it becomes non fund based lending for Bank Z as it does not commit any outflow of funds. Bank Guarantee transactions will be applicable in case of credit transactions.
  21. Answer :
    Following are the parties involved in a letter of credit :
    1. Importer
    2. Issuing Bank, Bank of Importer
    3. Advising Bank, which is in Exporter’s country, which notifies the exporter about opening of letter of credit.
    4. Confirming Bank, confirms the letter of credit in case the exporter is not satisfied about the security offered by the importer.
    5. Exporter, who is the beneficiary
    6. Negotiating Bank, whom the exporter submits the documents.
  22. Answer :
    Letter of Credit is a non fund based lending which is very regularly found in international trade. This facility is given when the exporter and importer are unknown to each other. In this case, the importer applies to his bank (Issuing Bank) in his country to open a letter of credit in favour of exporter whereby the importers’ bank undertakes to pay the exporter on fulfilling the terms and conditions specified in the letter of credit.
  23. Answer :
    Non fund based lending, where the lending bank does not commit any physical outflow of funds. The funds position of the lending bank remains intact. The non-funding based lending can be maid in two forms:
    1. Bank Guarantees
    2. Letter of Credit
  24. Answer :
    Advantages of commercial papers:
    1. It is quick and cost effective way of raising working capital.
    2. Best way to the company to take the advantage of short term interest fluctuations in the market
    3. It provides the exit option to the investors to quit the investment.
    4. They are cheaper than a bank loan.
    5. As commercial papers are required to be rated, good rating reduces the cost of capital for the company.
    6. It is unsecured and thus does not create any liens on assets of the company.
    7. It has a wide range of maturity
    8. It is exempt from federal SEC and State securities registration requirements.
  25. Answer :
    Disadvantages of commercial papers:
    1. It is available only to a few selected blue chip and profitable companies.
    2. By issuing commercial paper, the credit available from the banks may get reduced.
    3. Issue of commercial paper is very closely regulated by the RBI guidelines.
  26. Answer :
    Working capital assistance is provided by the bank in order to bridge the gap between current assets and current liabilities, which can be fund based and non-fund based. In order to obtain credit from bank for meeting working capital requirements, the company need to estimate its working capital requirements and is required to approach the bank along the necessary supporting documents. On the basis of the documents, the bank will decide the amount of assistance which may be given to the company after considering the margin requirements.
    This margin money provides the cushion against the reduction in the value of the security. If the company fails to fulfill its obligations then the bank may realize the security for recovering dues from the company. The percentage of margin money depends upon the credit standing of the company, fluctuations in the price of security or the directives of Reserve bank of India.
  27. Answer :
    1. It can be issued for the maturity period of 7 days to 1 year.
    2. It has the denomination of Rs. 5 lakhs and every single investor should invest minimum Rs. 5 lakh in the commercial paper.
    3. Every issue including the renewal will be considered to be the fresh issue.
    4. The amount shall be within the overall limit sanctioned by the Board of Directors.
  28. Answer :
    Every company issuing the CP should appoint a scheduled bank as the issuing and paying agent. The authorized authority is required to satisfy itself about the satisfactory credit rating. A resolution is required to be passed by the Board of Directors approving the issue and authorizing the official to execute the relevant documents, as per RBI norms.It should also verify the documents submitted by the issuing company and issue a certificate that the documents are in order. The issuer should disclose to its potential investors its financial position. The issue has to be completed within two weeks of opening.
  29. Answer :
    Following Credit rating agencies are authorized by RBI to provide a credit rating for Commercial Papers:
    1. CRISIL (Credit Rating Information Services of India Ltd.)
    2. ICRA (Investment Information and Credit Rating Agency of India Ltd.)
    3. CARE (Credit Analysis and Research Ltd.)
    4. FITCH Rating India Ltd.
  30. Answer :
    Following persons can invest in commercial papers:
    1. Individuals
    2. Banks
    3. Corporate Bodies incorporated in India
    4. Unincorporated Bodies
    5. Non resident Indians
    6. Foreign Institutional Investors
  31. Answer :
    Commercial papers are an unsecured promissory note issued at a discount with a fixed maturity of 1-270 days. The rate of discount is decided by the issuer and is not regulated. It carries higher interest repayment rates than bonds. It is basically money market securities issued by large banks and corporation to get money to meet short term debt obligations and are backed by corporation’s promise to pay face value on the maturity date of the commercial note.
    It is of fixed maturity. Firms with excellent credit rating from a recognized rating agency will be able to sell their commercial paper at a reasonable price. A company can issue the Commercial Paper provided:
    1. The minimum tangible net worth of the company should not be less than Rs.40mn as per the latest audited balance sheet.
    2. Company has been sanctioned working capital limits by banks or Financial Institutions.
    3. Borrowed amount of the company is classified as a standard asset by the bank.
    4. The company should have minimum credit rating from an agency approved by RBI.
  32. Answer :
    The working capital cycle measures the amount of time that elapses between the moment when the organization commences its business with a certain amount of cash, and the moment when the organization receives payment for its goods or services. Thus, in this cycle cash available to the organization is converted back in the form of cash. Good working capital cycle balances incoming and outgoing payments to maximize working capital. A short working capital gives an idea to the organization that the business has good cash flow.
  33. Answer :
    The sources used for financing temporary requirement of working capital are:
    • Spontaneous Sources
    1. Trade Credit
    2. Outstanding Expenses
    • Inter Corporate Deposits
    • Commercial Papers
    • Banks
    • Advances received form customers
    • Various short term provisions
    • Fixed deposits for a period of 1 year or less
  34. Answer :
    Variable working capital is that portion of the total capital that is required over and above the fixed working capital. This working capital is required to meet the seasonal needs and some contingencies. The requirement of this type of working capital changes with the changes in the level of activity.
  35. Answer :
    Fixed working capital is that portion of the total capital that is required to be maintained in the business on the permanent basis or uninterrupted basis. This working capital is required to invest in fixed assets. The requirement of this type of working capital is unaffected due to the changes in the level of activity.
  36. Answer :
    Following current liabilities can be used as spontaneous source of financing the working capital:
    1. Trade Credit
    2. Outstanding Expenses
    Trade credit is an arrangement in which a company buy goods or services without making immediate cash payment. If a company buys raw materials from the suppliers on credit basis, it gets the raw material for utilization immediately with the facility to make the payment at the delayed time. By accepting the delayed payment, the suppliers of raw material finance the requirement of working capital. It is an essential element of capitalization in an operating business because it can reduce the capital investment required to operate the business if it is managed properly.
    Outstanding expenses are the expenses that are unpaid at the end of the accounting period, which means they are payable but not yet paid. This may apply to salaries, wages, telephone expenses, electricity expenses, water charges etc. All the outstanding expenses come under nominal accounts and must be credited.
  37. Answer :
    Factors affecting working capital requirement:
    1. Nature of business
    2. Size of the organization
    3. Phase of trade cycles
    4. Production policies
    5. Turnover of inventories
    6. Dividend Policies
    7. Trading terms
    8. Length of production cycle
    9. Profitability
    10. Seasonal Variations.
  38. Answer :
    Outstanding expenses are the expenses that are unpaid at the end of the accounting period, which means they are payable but not yet paid. This may apply to salaries, wages, telephone expenses, electricity expenses, water charges etc. All the outstanding expenses come under nominal accounts and must be credited.
  39. Answer :
    Trade credit is an arrangement in which a company buy goods or services without making immediate cash payment. If a company buys raw materials from the suppliers on credit basis, it gets the raw material for utilization immediately with the facility to make the payment at the delayed time. By accepting the delayed payment, the suppliers of raw material finance the requirement of working capital. It is an essential element of capitalization in an operating business because it can reduce the capital investment required to operate the business if it is managed properly.
  40. Answer :
    The primary objective of working capital management is to avoid over investment or under investment in current assets, as a very large amount of funds are blocked in current assets in practical circumstances. Management of working capital ensures that sufficient cash is available to meet day to day cash requirements. Maximization of profits is another primary objective of working capital management.
    The management of working capital involves managing inventories, accounts receivable and payable, and cash. In other words, the goal of working capital management is to ensure that a firm is able to continue its operations and that it has sufficient ability to satisfy both maturing short-term debt and upcoming operational expenses.
  41. Answer :
    Working capital represents the operating liquidity available to a business organization. Working capital may mean Gross Working Capital or Net Working Capital. Gross Working Capital is equal to Current Assets and Net Working Capital is equal to Current Assets less Current Liabilities.
  42. Answer :
    Spontaneous source of financing variable working arises in the normal course of business operations. It is also known as current liabilities. This source of financing is unsecured in nature and varies with the level of sales. They do not have any explicit cost attached to the same.
  43. Answer :
    Inter Corporate Deposits indicates unsecured short term funding raised by one company from another company. They are dependent on personal contacts. Following are their main characteristics:
    1. They are for a very short period of time i.e 3 months or 6 months.
    2. They are unsecured source for raising funds.
    3. They are not regulated by any law.
    4. It is a relationship based borrowing made by the company.
    5. They involve high risk and high returns
    6. Useful in solving temporary capital crisis.


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Financial Planning Interview questions

Question 1. Definition Of Financial Planning Answer : Financial Planning is the process of estimating the capital required and determining it’s competition. It is the process of framing financial policies in relation to procurement, investment and administration of funds of an enterprise. Question 2. What Is In A Financial Planning? Answer : Financial Planning is an ongoing process to help you make sensible decisions about money that can help you achieve your goals in life; it's not just about buying products like a pension or an ISA. Question 3. What Is A Financial Plan For A Business? Answer : Financial planning is the task of determining how a business will afford to achieve its strategic goals and objectives. Usually, a company creates a Financial Plan immediately after the vision and objectives have been set. Question 4. What Is Financial Planning And Analysis? Answer : Financial analysis uses the output from financial planning to assess profi...
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