Question

Justify the following statement.

There are various factors affecting the requirement of working capital.

Answer 1

Justification:

There are various factors affecting the requirement of working capital. Some of them are as follows:

(a) Nature of business: The requirement of working capital depends on the nature of business. The nature of business is usually of two types:
• Manufacturing Business and
• Trading Business.
- In the case of a manufacturing business, it takes a lot of time in converting raw material into finished goods. Therefore, more working capital is required.
- On the contrary, in the case of trading business, the goods are sold immediately after purchasing, or sometimes the sale is affected even before the purchase itself. Therefore, less working capital is required.

(b) Size of Business: There is a direct link between working capital and the size of the business.
In other words, more working capital is required in the case of a big organisation. Whereas, less working capital is required in the case of a small organisation.

(c) Business cycle: The need for working capital is affected by various stages of the business.
For instance:

• During the boom period, the demand for a product increases, and sales also increase. Thus, more working capital is required.
• During the depression period, the demand declines and it affects both the production and sales of goods.

Thus, less working capital is required.

(d) Production cycle: Production cycle means the time involved in converting raw material into a finished product. When the period of the production cycle is more, more working capital will be needed.
On the contrary, when the period of the production cycle is less, less working capital will be needed.

(e) Volume of Cycle: This is the most important factor affecting the size of working capital. The volume of sale and the size of working capital are directly related to each other. For instance, if the volume of sales is more, there is an increase in the amount of working capital. But if the volume of sales is less, there is a decrease in the amount of working capital.