WHAT IS WORKING CAPITAL?
The management of working capital is of utmost importance in the daily and financial life of the company and although many small and medium-sized companies are not well defined, we live by applying working capital concepts day by day.
In general, small or large businesses have a common goal, which is to maximize the value of their company. To achieve this, we must learn to efficiently manage current assets and short-term liabilities, that is, the company's resources.
The resources are all those destined to cover the cost of the daily operation, the necessary tools to be able to operate.
The management of working capital is the function of the financial administration that is dedicated to the planning, execution and control of the management of the components of working capital and their adequate levels and quality, which allow minimizing risk and maximizing business profitability (D. Espinosa, 2005).
Let us explain then what is the importance of working capital in a company and the problem of insufficient good administration of it. Let's start by remembering that this concept is directly related to the liquidity condition of the company taking into account the degree of liquidity of each current asset and that each current liability requires. This means that the company has more capacity to pay its debts at the time of maturity when the margin in which the short-term assets of a company cover its short-term obligations is greater.
A key element to consider with respect to working capital adequacy is that it provides the company with the ability to conduct its operations on the most economical basis and without financial constraints and to cope with emergencies and losses without danger of financial disaster.. Likewise, this sufficiency allows granting favorable credit conditions to clients, operating more efficiently without delays in obtaining materials, services and supplies due to credit difficulties and enduring periods of depression.
Insufficient working capital may also be due to excessive losses from non-normal or extraordinary operations, which may cause a reduction in the values of current assets or the creation of a current liability (none of these circumstances can be compensated by a favorable change in working capital)
The business cycle affects working capital needs, because during periods of prosperity, business activity expands, and there is a tendency to buy merchandise in order to take advantage of lower prices.
Consequently, a larger amount of working capital will be required. Likewise, as the volume of operations expands, the amount of working capital required becomes greater, although not necessarily in exact proportion to growth.
In small companies, there is generally a struggle to optimize the use of resources, but these concepts are not established and are often downplayed and are not prepared in the long term, so when there are periods of shortages, it is difficult to face the debts.
The following concepts are considered sources of Working Capital:
- Normal operations, through depreciation, depletion and amortization. Sales of fixed assets, long-term investments or other non-current assets. Sales of bonds payable and equity shares and contributions of funds by owners. Trade credits (accounts open, business acceptances and documents payable) Income tax refund and other similar extraordinary items.
COMPONENTS OF WORKING CAPITAL
As we mentioned before, it implies the administration of current assets and short-term liabilities: it is defined as the result of the difference between these two.
Working Capital = Current Assets - Current Liabilities
The result that it gives us will indicate to us, what is the amount of money with which we are operating in the company. So when the Current Assets is greater than the Current Liabilities we have a Positive Working Capital. When the Current Assets are the same as the Current Liabilities you have a Zero Working Capital.
Current Assets:
This group is made up of all the assets and rights of the business that are in rotation or constant movement and whose main characteristic is easy conversation in cash. The order in which the main accounts should appear in current assets, in view of their greater and lesser degree of availability, is as follows:
Caja · Banks · Raw Material · Clients · Documents receivable · Various debtors
Current Liabilities:
It consists of all debts and obligations whose maturity is less than one year; These debts and obligations have as their main characteristic that they are in constant movement or rotation.
The main debts and obligations that make up the current liabilities or are:
- Suppliers Documents payable Various creditors
IMPORTANCE OF WORKING CAPITAL
"The importance of efficient management of working capital is unquestionable, since the viability of the company's operations depends on the ability of the financial manager to efficiently manage accounts receivable, inventory and accounts payable" (Gitman & Zutter, 2012)
The main function of optimal management of working capital is to have control of the asset accounts, to have a balance between risk and profitability, for these reasons the personnel in charge of the administration of working capital must consider a considerable part of time to such matters. Research "conducted with financial managers of companies around the world indicates that working capital management tops the list of most valuable financial functions." Emphasizing this background it is important to mention that working capital is important due to the time that the manager dedicates to it.
The importance of good working capital management today is due to the fact that many companies continually enter and leave the market, one of the primary causes for companies to exit the market is due to the lack of liquidity to be able to finance their daily activities. It is important to understand where companies obtain resources, the main sources of financing of a company are: supplier financing, banks, among others, when acquiring an obligation, companies are obliged to cover their responsibilities at a certain time, in addition to being able to finance The company with financing working capital offers us other tools that are fundamental for the company. With this small table we can visually understand what is the importance of good management of working capital.
As we can see in the small table from the moment the purchase of raw materials is made until collection, it is known as the financial cycle, the financial cycle is the period of time required to acquire inventories, sell and collect them, within this it is Find the cash cycle This includes the period that elapses from payments to suppliers to cash collections.
The effective management of working capital generates the liquidity required by the company to meet solvency obligations with suppliers and labor benefits, avoiding the company from falling into technical insolvency.
For Jiménez et al (2013), the importance of working capital lies in knowing the time that money spends in accounts receivable and inventory, until its recovery. Good working capital management can be carried out with good collection, payment and inventory policies.
WORKING CAPITAL POLICIES
Working capital policies are always in hand with the assets and liabilities of the company. These policies can lead us through different paths and to a point where the company can enter a comfort zone since it adapted in the right way and it worked.
Before choosing a policy for our company and knowing that the author “Giovanny López” is convenient for us, he invites us to look at 3 specific and fundamental points:
- “Level set as a goal for each category of Current Assets. The way in which these Current Assets will be financed (Current Liability level). The effects of these levels on the Risk - Return alternative ”
It is necessary to take these points into account since as a result of this we will make the decision of which policy is best for our company and which one will help us to grow in a better way, since it is not possible to give only one since every company is different., has different things and situations, in addition to having other goals.
The policies that we can take into account are:
Relaxed policy: relaxed policy is based on a "large amount of cash" and inventories, so that sales can grow based on a liberal policy on credit, this can help us a lot since it would help us to have a level accounts receivable high, so it would result in low levels of risk but also profitability.
Restricted policy: this policy links the risk policy of the company and its profitability to be raised, since it is based on the decrease in cash, inventories, cxc and thus we have small amounts of current assets.
Moderate policy: it is a combination of the previous policies, therefore the levels of risk and profitability will be compensated and thus a balance can be found, where the company can be maintained.
REFERENCES
- Ámbar A. and Espinosa, D. (s / a) The Management of Working Capital as a process of Operational Financial Management. Retrieved on May 7 from http://www.elcriterio.com/revista/ajoica/contenidos_4/ambar_selpa_y_daisy_espinosa.pdfGarcía Aguilar, J., Galarza Torres, S., & Altamirano Salazar, A. (2017). Importance of efficient management of working capital in SMEs. // Importance of efficient management of working capital in SMEs.. Ciencia Unemi, 10 (23), 30-39. Recovered from http://ojs.unemi.edu.ec/index.php/cienciaunemi/article/view/495/387 Jaramillo Aguirre Sebastián. (2016). Relationship between working capital management and profitability in the chemical distribution industry in Colombia. Abril, 30,2018, from redalyc Website: http://www.redalyc.org/pdf/3235/323547319006.pdfLorenzo, R., Pablos Solís, P. and Lorenzo, R.(2010) The theory of working capital and its techniques. in Contributions to the Economy. Retrieved on May 7, 2018 from: http://www.eumed.net/ce/2010a/Gómez Giovanny. (2001, January 11). The administration of working capital. Recovered from
