Working capital management Flashcards
what is overtrading?
rapid increase in revenue that is not supported by sufficient working capital
what is the cause of overtrading?
expanding too rapidly, responding to demand faster than working capital will allow
what are the symptoms of overtrading?
high amounts owed by customers, cash running out, late payment to suppliers
what are the solutions to overtrading?
reduce activity, raise extra finance, improve the management of working capital
what is just in time stock management?
only receiving raw material when they are needed on the production line
what are the advantages of JIT stock management?
- reduces waste
what are the disadvantages of JIT stock management?
- requires careful forecasting
- high ordering costs
- no room for error
- no spare goods for unexpected orders
- heavily reliant on suppliers
what are the risks of reducing customer credit?
- loss of customer goodwill
- have to deal with cash
what are the risks of not holding enough inventory?
- high ordering costs
- may not be able to fulfill unexpected orders
what are the risks of buying raw material on credit?
- possible loss of supplier goodwill
- administrations and accounting
- interest costs
- exchange rate costs
How is the working capital cycle different for:
- merchandising
- service
- manufacturing firms
merchandising = companies only have one type of inventory - finished goods
service companies = no inventory
manufacturing = raw materials, work in progress and finished goods
what does Economic Order Quantity show?
the behaviour of the costs at the various stock levels
what is the formula for Economic Order Quantity?
square root of 2 AC/H
C = cost of placing an order
A = annual demand for the stock of the item
H = cost of holding one unit of stock for one year
What is the formula for Optimum Cash Withdrawal?
2WP/H
W = cost of making a withdrawal
P = planned payments for period
H = the interest foregone
