Management of working capital is one of the key objectives of working capital management. It assists the business management to properly allocate their resources in order to achieve quarterly business goals and objectives. Applying the correct ratios will reveal the management strategies and techniques along with some additional necessary analysis. Controlling working capital, Managing working capital and effectively managing resources, all this terms means the same. Some additional financial indicators have always been considered for effective management such as turnover ratio, ratio of collection, performance ratio, etc. All these can effectively accomplish when following best standard in the industry, setting objectives of working capital as well as an art of working capital management.
Objectives of Working Capital Management:
Its foremost important to set business goals and management strategics, techniques and methods to manage working capital of business. Few of the importance objectives of working capital management are listed below:
1. Optimization of Working Capital Operating Cycle:
In simple terms, working capital cycle starts from the day raw materials are acquired and completes when the finished products are sold. One of the major objectives of working capital management is to ensure that there is no hindrance during the above mentioned process. It includes collecting and processing raw materials and other initial investment in time, placing all the essentials for production beforehand, selling finished products as soon as possible, collecting account receivables on time and clearing all the account payable’s in time.
2. Balance Working Capital:
The good net working capital is required to stay in a stable equilibrium. The ratio of current assets and current liabilities should be optimized. Because the lower value of this ratio implies that company is not financially stable to clear its current debts, higher value is also not an indication of prosperity, it suggests that company has too many inventories and they are not investing in excess cash.
3. Minimize Cost of Capital:
Working capital management focuses on minimizing cost of capital, rate of interest in some special cases. It is only when the cost of capital will be lesser than revenue, one can earn profit. Utilization of long-term funds (in proper mix) is one way of minimizing capital cost. The fundamental principle of financial management should be followed sincerely while deciding the finance mix, always. The principle states that long term sources should finance fixed assets and permanent assets. Also, the short-term or temporary assets should be financed by short-term sources of finance.
4. Assists the Business to Avoid Over-borrowing:
Over-borrowing is among the quickest techniques towards business growth as well as business failure. The objectives of working capital management out of over-borrowing leads to mismanagement of finance as well as assets. Their business goes far beyond their financial goals which leads towards financial failure for a business. A proper working capital management will definitely give you a warning sign where you can put your control towards business expansion.
5. Optimal Return on Current Asset Investment:
The return on the investment infused on short term assets must exceed the average cost of capital to ensure wealth maximization. In other words, the rate of return earned from the investment in short term assets should exceed the rate of interest or cost of capital. Objectives of working capital management aims to extract maximum from an investment in current assets to ensure higher profitability.
6. Expansion of Company’s Investment:
Money you saved from effective working capital management tactics is being an inexpensive source of finance that can be used for your business expansion, funds for existing projects or company’s investment toward expansion of their idea and vision towards growth of an organization.
7. Healthy Relation with Suppliers / Providers:
When a business has defined objectives of working capital and engaging its best management concerning its working capital along with other financial indicators. Then lenders, suppliers, non-trade creditors as well as provides will be more interested in carrying a business with you. Their understanding of the business, management setup will definitely boost confidence within the business as well as in the transactions of a company.
Its important that you set your objectives of working capital management to achieve your day to day business goals. There are many other advantages when there is effective working capital management like: improve earnings, ensure availability of sufficient resources always, Improves efficiency of a company, Avoid under-utilization of company’s resources and more.