Question

Discuss in brief any four factors that affect the working capital requirement of a company.

Answer 1

Nature of Business: The requirement of the working capital of an enterprise depends upon the nature of business. A trading concern like a garments showroom, a service concern like an electricity undertaking or a transport corporation has a short operating cycle. Their requirement for working capital is small. A manufacturing concern like cotton textiles or woollen factory will have a long operating cycle especially if they are selling their goods on credit. Hotels and restaurants have the minimum requirements of working capital 10 to 20% whereas trading and constmction industries have the highest working capital requirement 80 to 90%.

Size of the Enterprise: An enterprise working on a high level of activity has a higher level of working capital requirement and vice-versa. An increase in production from time to time will tend to increase the need for working capital.

Seasonally of Operations: Those firms which have marked seasonality in their operations have fluemating working capital requirements. A firm manufacturing refrigerator will have maximum sales during summer seasons and minimum sales during winter seasons thus affecting its working capital. Such firms have a need for higher working capital during summers and lower in the winter season.

Firms also experience cyclical fluctuations in the demand for their product and services. During upward swing in the economy, sales will increase and hence, debtors too. Under the boom, the firms generally do substantial borrowing to increase their productive capacity. Whereas a decline in the economy results in a low level of sales, inventories, debtors, etc. Rather, firms try to reduce their short-term borrowings.

Market Conditions: When competitive conditions are prevailing in the market, a larger inventory of finished goods in heeded as customers may not be inclined to wait. Further, a liberal credit policy may be offered to the customer by the competitors. Both the conditions demand a higher level of working capital, more investment in finished goods and debtors as well. A higher collection period will also imply the tie-up of larger funds in book debts. Similarly, delayed payments, if not checked in time, may increase the working capital requirements much to the detrimental of the entrepreneur.