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CIMA F1 - Financial reporting > Chapter 15 - Working capital management > Flashcards

Chapter 15 - Working capital management Flashcards

1
Q

What is the primary objective of working capital management?

A

Strike a balance between current liabilities and assets

Trade off between cash flows and profits

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2
Q

What are the consequences of poor working capital management?

A
  • Inability to meet due bills
  • Demands on cash during periods of growth
  • Over-stocking or stock-outs
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3
Q

What are some examples of a transaction that has a trade off between cash flow and profit?

A
  • Purchase of non-current assets for cash
  • Sale of goods on credit
  • Tax payments
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4
Q

What are the main sources of liquidity?

A
  • Cash in the bank
  • Short-term investments
  • Cash inflows
  • Overdraft
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5
Q

How can liquidity be sacrificed for better profitbaility?

A
  • Bulk purchase discount
  • Offering credit to customers
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6
Q

What does the working capital cycle reflect?

A

Firm’s investment in working capital as it moves throughout production

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7
Q

What factors affect the length of the working capital cycle?

A
  • Liquidity vs profitability
  • Management efficiency
  • Industry norms
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8
Q

What does an increase in sales mean for the amount of cash needed to fund the working capital cycle?

A

Amount of cash needed increases

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9
Q

What does an increase in the length of the working capital cycle mean for cash?

A

More cash needed to fund cycle

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10
Q

What factors affect the amount of working capital required?

A
  • Industry firm operates in
  • Type of products sold
  • Whether products are manufactured or bought
  • Level of sales
  • Policies towards working capital management
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11
Q

What factors affect the level of investment in working capital?

A
  • Nature of business
  • Uncertainty in supplier deliveries
  • Overall activity level
  • Credit policy
  • Length of cycle
  • Credit policy of suppliers
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12
Q

What are the 3 policies used to manage working capital?

A
  • Aggressive
  • Conservative
  • Moderate
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13
Q

What is an aggressive policy?

A

Reduce costs by holding lowest levels of cash, inventory and receivables

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14
Q

What are the benefits of an aggressive policy?

A
  • Lower levels of current assets means lower financing costs
  • Lower financing costs mean better profitability
  • Quicker cash turnover means reinvestment
  • Greatest returns
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15
Q

What are the negatives of an aggressive policy?

A

The greatest risk of liquidity

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16
Q

What is a conservative policy?

A

Reduces risk by holding high levels of cash, inventory and receivables

17
Q

What are the benefits of a conservative cycle?

A
  • Lower liquidity risk
  • Greater ability to meet demand surges
  • More relaxed credit policy for receivables may improve sales
18
Q

What is the negative of a conservative policy?

A

High costs

19
Q

What is a moderate policy?

A

Middle ground between aggressive and conservative

20
Q

What degree will short term finance be used if an entity takes an aggressive approach?

A

All fluctuations and some permanent investment financed by short term finance

21
Q

What degree will short term finance be used if an entity takes a conservative approach?

A

All permanent and portion of fluctuation investment financed by long term finance

Short term financed only used for part of fluctuation

22
Q

What degree will short term finance be used if an entity takes a moderate approach?

A

Fluctuating investment financed by short-term finance and permanent investment financed by long-term

23
Q

What are the typical indicators of overtrading?

A
  • Rapid increase in turnover
  • Rapid increase in volume of current assets
  • Most of the increase in assets being financed by credit
  • Dramatic drop in liquidity ratios
24
Q

What are the solutions to overtrading?

A
  • Raise more long-term capital
  • Slow down growth
  • Improve working capital management

CIMA F1 - Financial reporting (22 decks)

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