The operational financial administration is capable of adequately managing the available cash, establishing the credit terms to be granted to customers that constitute a stimulus and that benefits sales, adequately defining current financing that minimizes costs and the management of inventories that reduce the costs associated with these and contribute and facilitate decision-making.
To achieve, in this way, stability or improvement in the treatment of terms related to the binomial profitability and risk. The research has been based on the theoretical foundations related to management, process management and Working Capital Management, to propose as a general objective:
- Define Working Capital Management as a process.
Key words: Management, process management, working capital, risk, profitability.
Introduction
In today's world where companies seek to stay afloat in an eminently capitalist market, it is essential to devise strategies that advocate the development of large, medium and small associations. In this sense, it is necessary to use techniques that help the proper development of the entities in terms of financial economic management is concerned. The country is not exempt from this process and for decades has been seeking continuous improvement in all branches of the economy, placing the tourism sector as one of the island's main sources of income. The importance of this fact is thus evident. to develop a whole system of knowledge about the sector,studies and investigations are deepened that allow laying the theoretical foundations that support the improvement of the elements that make up this essential branch and guarantee the quality of their practice and obtain better results.
It is therefore in this sense an important fact that the managers and staff in general of these entities master management and financial elements that help the good development of the economic processes carried out in them, that guarantee the quality of the service and revert to the end of the chain in customer satisfaction.
As a result of the above, the special importance of operational financial management as a function of business management is raised, to achieve the efficient management of resources and business operations, as well as obtain the expected results in correspondence with organizational objectives proposed and pursued, read: lower risk and better levels of growth and performance.
The objectives to be developed in this work are:
- Analyze the theoretical aspects related to management, specifying: the concept of management, the elements of the functions of the administrative cycle, as well as the basic levels of management. To base management by processes, detailing the definition of process according to the opinion of various authors, their characteristics and the advantages of process management. Expose theoretical aspects of the management of Working Capital as a process, deepening its definition, the components of Working Capital, policies and their influence on risk and profitability.
- Theoretical foundations about Working Capital Management as a process.
- Theoretical foundations of management.
Generally a person who "manages" is one who moves all the necessary threads for a certain thing to happen or for a certain purpose to be achieved. Gestión, comes from the Latin meaning gestĭo, -ōnis, action of the generic verb that means or means action and effect of managing according to the Royal Spanish Academy, which also coincides with the illustrated Aristos and Iter- Sopena in that management constitutes the act of managing or administering, specified in doing errands for achieving something, led by a manager, also known as a manager. The Iberoamerican Glossary of Management Accounting states that management "means administration or organization of elements, activities or people with objectives of organizational efficiency and effectiveness".
So management, organizationally speaking, refers to the development of the basic functions of the administration: planning, organization, execution and control, aimed at fulfilling previously established objectives. The administration consists of four fundamental functions, the first of which is planning that is responsible for determining the objectives and courses of action to be followed; the second is the organization, in charge of distributing the work among the members of the group; Another of the administration's functions is the execution of the tasks assigned with will and enthusiasm by the group, to carry out the control of these activities, in accordance with the plans drawn up by the company, in order to redefine these (Fig.. 1.1).
Figure 1.1: Administration Cycle.
Source: own elaboration.
- Elements of the functions of the Administrative Cycle.
Based on the authors' criteria: JL Pérez Rodríguez (2006)Hans Seidel (2006)JA Jiraldo López (2006), and others, the following are defined as planning elements:
- Purposes or missions: this is where the basic function or task of a company or part of it is identified.Objectives or goals: these are the ends that are pursued through an activity of one kind or another. determination of the basic long-term objectives of a company and the adoption of the courses of action and the allocation of resources necessary for its fulfillment. Policies: are general statements or criteria that guide or guide thinking in decision-making. Procedures: they are plans by means of which a method for the management of future activities is established. Rules: specific actions or prohibitions are exposed, not subject to the discretion of each person. Programs: they are a set of goals, policies, procedures, rules, assignments of tasks, steps to follow,resources to be used and other elements necessary to carry out a given course of action. Budgets: it is the formulation of expected results expressed in numerical terms. Consider alternatives to maximize profitability, decrease costs, improve cash flows and obtain savings.
The organization is made up of the following elements:
- Functions: within these are the identification and classification of the required activities, the grouping of the activities necessary for the fulfillment of the objectives, (the assignment of each group of activities to an administrator endowed with authority, or delegation thereof, necessary to supervise it) and the stipulation of horizontal and vertical coordination in the organizational structure.Hierarchies: the authority and responsibility corresponding to each existing level within the organization are established.Posts: the obligations and requirements that each unit has in particular job capable of being performed by one person, who must be the most suitable among several candidates to occupy the position at the same time or in the future,to continue training to increase the efficiency of groups of people and the organization or an important unit within it.
The execution as a phase of the administrative cycle implies the following aspects:
- Group work: puts into practice the philosophy of participation of all those involved in decision-making or carrying out certain acts. Leaders and subordinates intervene, the former influence the latter through authority and command, based on efficient and effective communication between members of the organization. Delegation of authority: is the technical way to communicate to subordinates the power to decide without losing control of what is executed. It allows to lead or challenge others to do their best. The execution of the assigned tasks: it is the accomplishment of the tasks that had been oriented, developing the potential of each member involved. Stimulation of the obtained achievements: the needs of the employees,including material rewards and / or moral acknowledgments, for the efforts made on the job. Supervision: is to check if things are being done as planned and ordered, checking the execution of the tasks assigned in light of the results. of control.
Control as part of the administration cycle includes the following elements:
- Standard setting: it is simply performance criteria, they are the selected points of a planning program so that administrators can receive signals of how things are going. Performance measurement: it should be ideally based on forecasting so that deviations can be detected before they occur and avoided by appropriate actions.Correction of variations with respect to norms and plans: this point of control can be conceived as part of the total administration system and related to other administrative functions.
For the purpose of each plan and of all derived plans, the administrative operations of organization, execution and control are designed to support the fulfillment of the objectives of the company; planning logically precedes the execution of all other administrative functions.
- Management levels.
In companies it is common to speak of three levels of administration or management:
- Strategic management Tactical management and Operational management.
Strategic management is the set of decisions and actions that lead the organization to achieve corporate objectives. It is directly related to the formulation, execution and control of the Company's Strategic Plan and is based on the understanding and administration of the relationship and interaction of the company with the environment, that is, with the suppliers and customers on the one hand and another, with the other agents present in the environment such as the competition, the government, and in general all those who constitute the value chain to which the organization belongs.
Strategic management derives from tactical management, since the objectives of the latter derive directly from the former and must be aligned with them. Tactical management involves the internal environment of the organization and aims to develop all its internal activities, that is, those that make up the internal value chain of the organization. The value chain was quickly brought to the forefront of business management thinking as a powerful analytical tool for strategic planning. Among its objectives is: to maximize the creation of value while minimizing costs, therefore the value chain of a company is made up of all its activities that generate added value and the margins that they provide.
In the internal value chain, there are basically two types of activities (Fig. 1.2):
- Primary or basic line of business activities, which are all those through which the good or service is developed that will satisfy the customer's needs and within which are the provisioning, operation or production, distribution, marketing and service Support activities, which have to do with all activities that support the primary activities and, in general, the operation of the company: personnel, supplies, financing, etc. At a tactical level, management must be comprehensive and inclusive of all the above activities, comprehensive because it involves the company as a system, and inclusive because it articulates each of the activities so that the expected results are achieved.
Other authors consider Margin as a basic element within the internal value chain, which is the difference between the total value and the total costs incurred by the company to carry out value-generating activities.
Figure 1.2: Internal value chain of the organization.
Source: own elaboration.
Finally, we have operational management, which, not because it is more limited in scope, is less important than strategic management and tactical management. Operational objectives are derived directly from tactical objectives. The operational level involves each of the activities of the internal value chain, both primary and support, therefore it is possible to speak of supply management, production management, distribution management, marketing management and service management, management personnel, financial management, etc.
Thus, management has the particularity of planning, organizing and controlling itself from the strategic to the operational and it is executed, from the operational to the strategic, as shown in Figure 1.3.
Figure 1.3: Planning, control and execution in strategic, tactical and operational management.
Source: Taken from: Beltrán, JM La gestión. Available at: http://html.rincondelvago.com/ planning_ 3.html .
The essence of the concept of administration or management refers to a system whose functions are to plan, organize, execute and control all the processes that are carried out within the company to achieve a goal; hence the importance of analyzing administration or management by processes.
- Process management.
Before conceptualizing the term process management, it is important to refer to the definition of process, which from the bibliographic review can list the following:
- Set of mutually related or interacting activities, which transform input elements into results.Ordered and logical sequence of repetitive activities carried out in the organization by a person, group or department, with the ability to transform some inputs into programmed outputs or results (outputs) with an added value, for a recipient, who is the client of each process and who may be inside or outside the company. Set of interrelated activities that, from one or more inputs of materials or information, give rise to one or more outputs of materials or information, with added value.Ordered and logical sequences of transformation activities that start from inputs (information in a broad sense: orders, data,specifications and material means: machines, equipment, raw materials, consumables, etc.-), to achieve programmed results, which are delivered to those who have requested them, the clients of each process. A process is a set of activities that are developed in a certain sequence allowing products or outputs to be obtained from inputs or raw materials. The processes can be industrial (in which materials enter and leave) or management (in which information enters and leaves).A process is a set of activities that are carried out in a certain sequence, allowing products or outputs to be obtained from inputs or raw materials. The processes can be industrial (in which materials enter and leave) or management (in which information enters and leaves).A process is a set of activities that are carried out in a certain sequence, allowing products or outputs to be obtained from inputs or raw materials. The processes can be industrial (in which materials enter and leave) or management (in which information enters and leaves).
In summary, a process (Figure 1.4) is nothing more than the chaining of a group of activities, which achieve from certain inputs (inputs) and the consumption of resources, the achievement of a certain objective - understood as outputs (outputs).
Knowing then the concept of process generalized by the scholars of the subject, process management consists of integrally managing each of the transactions or processes that the company performs.
Other terms related to process management, and which must be taken into account to facilitate their identification, selection and definition, are the following (E. Negrín and others):
Figure 1.4: Diagram of description of a process.
Source: own elaboration
- Relevant process: it is a sequence of activities aimed at generating added value over an entry, in order to achieve a result that fully satisfies the objectives, strategies of an organization and the customer's requirements. One of the main characteristics that normally intervenes in the relevant processes is that they are inter-functional, being able to cross the organization vertically and horizontally. Key process: is that process extracted from the relevant processes that significantly affect the strategic objectives and They are critical to business success. Threads: They are well-defined parts of a process. Its identification can be useful to isolate the problems that may arise and allow different treatments within the same process.organizational structure, procedures, processes and resources necessary to implement a specific management, such as quality management, environmental management or management of occupational risk prevention. They are normally based on an internationally recognized standard that is intended to serve as a management tool in process assurance. Procedure: specific way of carrying out an activity. In many cases the procedures are expressed in documents that contain the object and scope of an activity; what should be done and who should do it; when, where and how it should be carried out; what materials, equipment and documents should be used; and how it should be controlled and registered.Activity: is the sum of tasks,They are grouped into a procedure to facilitate their management. The ordered sequence of activities results in a thread or process and takes place in a department or function.
- Project: is usually a series of activities aimed at achieving an objective, with a clearly defined beginning and end. The fundamental difference with the processes and procedures lies in the non-repetitiveness of the projects.Indicator: it is a data or set of data that helps to objectively measure the evolution of a process or activity. It is also defined as the representative numerical expression of the achievement of a result.
Management has vital signs, that is, key success factors that indicate whether management is giving the expected results or if, on the contrary, there is a deviation that is far from the established objectives. These vital signs of management are: effectiveness, efficiency, effectiveness and productivity and are measured through management indicators, which allow establishing the appropriate degree or levels of the key success factors mentioned above, as well as identifying the corrective actions to take.
- Characteristics of the indicators.
The indicators have the following characteristics:
- Represents the result obtained from one or several processes. It must be as representative as possible of the magnitude to be measured. It is normally expressed through numerical data. The benefit obtained from the use of the indicator exceeds the effort of capturing and treating the data.It is comparable in time to be able to analyze its evolution.
Requirements that the indicators must meet:
- Useful, really useful for improvement. Expressible in the form of an index. Linked to a target. Easy to calculate. Self-explanatory. Sensitive, capable of detecting irregularities. Referred to a defined period of time. clearly identifiable and precise formulas. Number and denominator related and corresponding to the same periods of activity. Prioritize the indicators that best measure the quality, term and response of the activity.
A process is normally visualized in diagram or schematic form, which graphically describes how people do their jobs. These diagrams or schemes can be applied to any sequence of activities that is repeated and can be measured, regardless of the length of its cycle or its complexity, although to be really useful it must allow some simplicity and flexibility.
- Process Characteristics.
The processes have the following characteristics:
- Generally, they repeatedly cross functional boundaries, forcing cooperation.
- Each process has a unique global output. It has a client that can be internal or external.
- Every time the process is repeated there are slight variations in the different activities carried out, which in turn generate variability in its results. “Two outputs are never the same.” Processes are created to produce one result and try to repeat that result over or over again. This feature allows working on the process and improving it. "The more repetitions the more experience."
In order to graphically represent a process, the construction of a flow diagram or process map is usually used, conventionally using certain symbols (Figure 1.5).
There are different types of Process Maps:
- General process map of the company. Map of a specific process.
Maps representing processes are very useful for:
- Know how jobs are currently carried out Analyze the steps of the process to reduce the cycle time or increase quality Use the current process as a starting point to carry out process improvement projects Guide new employees Develop Alternate ways of carrying out work at critical moments Evaluate, establish or strengthen indicators or measures of results.
Figure 1.5: Symbols most used to describe a process.
| Symbol | Meaning | Explanation |
| Operation type step | It represents any task of the process that implies an intellectual or physical action (except those of inspection or storage). | |
| Inspection step | It corresponds to tasks of verification of the work carried out in a certain activity of the process. Their most common actions are; classify, observe, supervise, audit, test, review, verify, among others. | |
| Decision step | Represents any decision point. You will always have at least two exits. | |
| Storage step | It corresponds to a stage of the process that places a product, information or service in a conservation area (file, warehouse or refrigerator) or position (queue) to use it or provide the service later. | |
| Delay step | It corresponds to activities that imply a delay or pause in the process flow. | |
|
Flow line |
It shows the direction and direction of the process flow and represents the progress of the steps in the sequence. | |
|
Document |
It is used with the aim of specifying the documents prepared, corrected or consulted at each stage. | |
|
Task connector |
It is used in the event that the diagram cannot be made on a single sheet. |
Source: own elaboration from the consulted bibliography.
Within each symbol is placed the description of the activity. To simplify its elaboration, it is recommended to use a technique based on a structure of simple sentences to label the stages of the diagram. This technique is known as Paradigm: Resource - Action - Object. It consists of defining the subject of the action, that is, the one who performs it (Resource); the action to be performed represented by a verb (Action); and the object of the action (Object). For example: Accounting (Resource) reviews (Action) the customer order (Object).
Process management in an organization has a different meaning than what could be a simple approach, or an approach to improve a task or several, involves the planning, organization, control and execution of the activities that make up each of the processes. of the company.
- Advantages of process management.
Process management is a quality management system, and as such, its main objective is to increase the company's results by achieving higher levels of customer satisfaction. Among its advantages are:
- Analyze the limitations of the organization to improve the competitiveness of the company. Recognize the existence of (relevant) internal processes:
- identifies the processes related to the critical factors for success, which provides a competitive advantage, measures their performance (quality, cost and time) and relates it to the added value perceived by the customer.
- Identify the needs of the internal and external client, measuring their satisfaction. Understand the differences in scope between the improvement oriented to the processes (what and for whom things are done) and that focused on the departments or functions (how it is done):
- Productivity of the whole, as opposed to the individual (global effectiveness versus partial effectiveness), the department is one link in the chain, a process to which it adds value.
- Statistical and control charts are used, making quality and cost predictable.
- Identify the needs of the internal and external client, measuring their satisfaction. Understand the differences in scope between the improvement oriented to the processes (what and for whom things are done) and that focused on the departments or functions (how it is done):
In essence, process management implies good coordination, based on knowledge among the members of the organization. The activities and functions performed must be well specified, achieving full participation by the internal client, appointing managers who will be responsible for ensuring and monitoring the maintenance of the processes as well as their effectiveness.
The process indicators must be established in such a way that, by means of them, compliance with the efficacy parameters of each process can be verified in order to monitor objectives. In this way the points susceptible to improvement can be located.
One of the processes that is carried out in the financial management of the company is precisely the analysis of the management of Working Capital, the base element of this research.
- Management of Working Capital as a process.
- Weston and E. Brigham (1994).
Over time, researchers have identified concepts that have been gradually incorporated into Working Capital business, such as: liquidity and cash flow.
In order to adequately address the elements related to Working Capital, it is necessary to present its definition as a terminology to follow, since innumerable researchers are dedicated to the study of operational financial management, particularly referring to the analysis of Working Capital., which has also been named by some authors as: working capital, working capital, net working capital, resource or net turnover fund and net cash. Likewise, the criteria of the specialists on the definition of the term are different, observing a homogeneity. These authors include: L. Gitman (1986); J. Tracy (1993); F. Weston and E. Brigham (1994); Maighs (1995); L. Bernstein (1997); Van Horne and Wachowicz (1997); R. Brealey (1998); O. Amat (1998); R. Kennedy (1999); AND.Santandreu (2000); A. Demestre (2002); A. Blanco (2004); G. Gómez (2004); R. Arévalo (2004) and F. Munilla et al., (2005).
- Definition of Working Capital.
An analysis of the definitions offered by the aforementioned authors, shows that the term Working Capital has been used by accountants, administrators and researchers in general, in two directions: the first qualitative or static and the second quantitative or dynamic, according to the criteria of R. Kennedy (1999) and E. Santandreu (2000).
The first definition is used in a general way, to refer to the surplus of current assets over current liabilities. This means that Working Capital is the amount of current assets that has been supplied by long-term creditors and by shareholders, or equivalently, which has not been supplied by short-term creditors. Among the authors who defend the above are: L. Gitman (1986); J. Tracy (1993); F. Weston and E. Brigham (1994); Maighs (1995); L. Bernstein (1997); R. Brealey (1998); O. Amat (1998); A. Demestre et al. (2002); A. Blanco (2004); G. Gómez (2004); R. Arévalo (2004) and F. Munilla et al. (2005).
Some of the interpretations associated with this definition indicate: it is the extent to which the company solves its liquidity problems and the resources with which it attends its operational and financial activities, without having to resort to extraordinary funds.
Liquidity refers to the ability that a company acquires to have availability of assets that are easily converted into cash, reaffirming its ability to cover its short-term financial obligations in a timely manner and without delay (E. Gómez, 2004).
The second definition, quantitative or dynamic, is used to refer to current assets, which defines Working Capital as the investment made in short-term assets. Among the defenders of the above stand out: F. Weston and E. Brigham (1994). This definition makes sense, inasmuch as it explains the administrative interest in attending to the current investment provided - the total amount of resources used in normal operations, and its correct levels (Van Horne and Wachowicz, 1997).
In the course of this research, in order to present the theoretical and conceptual foundations of Working Capital, it will be understood as such and in general, the investment in the levels of current assets that is needed to sustain the level of business operations. Graphically, this global definition can be seen in Figure 1.6.
In the conceptual origins of the Working Capital, its management is reflected as one of the fundamental objectives of the financial administrator, observing a homogeneity among the researchers of the subject when defining it as the management or administration of all the current accounts of the company, which include current assets. Authors such as L. Gitman (1986), F. Weston and E. Brigham (1994) and Van Horne and Wachowicz (1997) include the effect of Working Capital on the risk and profitability of the company.
Figure 1.6: Concept of Working Capital received in the development of research.
Source: own elaboration.
In the context of this research, the definition given by Espinosa, D. (2005) for the term Working Capital Management is shared, after reviewing the criteria set forth by the authors F. Weston and E. Brigham (1994), E. Santandreu (2000), A. Demestre et al. (2002) and F. Munilla (2005), which is shown in Figure 1.7, and is defined as follows:
Figure 1.7: Concept of management of the Working Capital received in the development of the research.
Source: Espinosa, D. 2005. Article available at the Department of Accounting and Finance, of the Faculty of Industrial and Economics, Universidad de Matanzas Camilo Cienfuegos.
"Working Capital Management is the process of Operational Financial Management, which 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 the business profitability ”.
An analysis of the previous definition allows us to distinguish the foundation of the management of Working Capital, which is specified in an essential decision and its influence on business risk and profitability. This decision is specified in: the optimal level of investment in each of the components of current assets.
All of the above leads to the study of three fundamental elements that are interrelated in the management of Working Capital and that make up its conceptual basis, namely: components of Working Capital, risk-return intercompensation and short-term investment policies.
- Components of Working Capital.
Taking into account both the more generalized definition of Working Capital and its management, it follows that it is made up of current accounts of current assets.
Current assets is one of the components of total assetsof a company and contains its most liquid assets, including the most representative accounts of the assets and rights that will be converted into money in a period of time not exceeding one year (Demestre, A. et al., 2002); that is, they are those assets that are expected to be converted into cash, sold or consumed, either in the course of a year or during the operation cycle.
The most common categories of current assets are available, realizable and inventories (Demestre, A. et al., 2002) and the progress of the different forms of current assets to cash is shown in Figure 1.8.
Figure 1.8: Cycle of transformation of current assets into cash.
Source: Espinosa, D. Procedure for the analysis of Working Capital. Thesis presented in option to the title of Master in Economic Sciences. Matanzas, 2005.
The main characteristics of current assets are, fundamentally, their availability and intention to become cash within the normal cycle of operations and their use for the acquisition of other current assets, to pay short-term debts and, in general, to cover all expenses. and costs incurred in the normal operations of the organization during a period.
The available(Figure 1.9) is made up of the representative items of those assets that can be used to pay the debts at maturity. These are cash on hand, bank cash and temporary investments.
Cash on hand includes the stock of coins and banknotes owned by the company, both in national and foreign currency, cash destined to the fund for minor payments (petty cash), to the exchange fund and any other fund of specific use, mail and checks received pending deposit in bank and cash income drawn from it for payroll and other payments. This cash is a limited fund to face small amount expenditures and whose nature and opportunity requires that payment be in cash and not by check.
Cash in bank contains the stocks of coins and banknotes in demand deposits with the banks that the company operates through current accounts, against which the payments are drawn and the collections and transfers are deposited and received, so it is it is advisable to maintain acceptable levels on average within them.
Temporary investments are investments of a financial nature that companies make with surplus cash, with the aim of profiting temporarily free monetary resources. They include the shares and bonds issued by other companies purchased to monetize cash or for speculative purposes, treasury bonds, short-term debt instruments, certificates of deposit, fixed-term deposits and other forms of temporary investments, which due to their characteristics and the market in which they are traded are considered quasi money (Demestre, A et al. 2003).
The financial administrator must ensure that acceptable levels of available are maintained in proportion to the needs of the company and anticipate future requirements, since this is the balance sheet item that must be very well used to generate timely administration and healthy profits for the company..
The realizable (Figure 1.9) brings together those goods and rights that are to become available. Among these are bills and accounts receivable and prepayments.
When a company sells products to another company or a state agency, it generally does not expect to collect immediately. These unpaid bills or business credit make up the bulk of accounts receivable. Companies also sell some products on credit to the final consumer, forming the rest of the accounts receivable (RA Brealey, 1997).
From the above, accounts receivable represent the business rights against debtors, which normally arise from the sale of goods or the provision of services within the normal operations of the company..
The receivables, meanwhile, include bills of exchange and promissory notes - which are accepted or issued by customers and which are pending collection - constitute collection rights in favor of the company, backed by formal payment instruments. These effects can be discounted in the bank or in some financial institution.
Advance paymentsthey represent future items of expenses that have already been paid in exchange for receiving goods and / or services that will be consumed within a year (A. Demestre et al., 2002). If the normal cycle of operations is longer, it will be classified as non-current assets, specifically within deferred charges.
Inventories (Figure 1.9) collect the value of inventories owned by the company and owned by it, including inventories of both raw materials, in process and finished, and materials.
Raw material inventories comprise the items purchased by the company, which represent basic materials for operating activity. Inventories of ongoing or in-process productions include all items that are currently used in the production process, while inventories of finished products bring together those items that have been produced but have not yet been sold. Also included in stocks, parts and spare parts, fuels, office supplies and any other auxiliary material; merchandise for sale or merchandise from wholesale and retail marketing companies (A. Demestre et al. 2002).
The inventory is considered as an investment since the person in charge of the administration of the company must control its levels and ensure that there are not too many accumulations of it. This requires the cash outlay that is expected to generate a return in the short term (L. Gitman, 1986). In the «production-sales» process of the company, the presence of inventories is necessary for it to foresee a minimum of interruptions. A stock of both raw materials and products in process is needed to ensure that the necessary items are available when needed. An inventory of finished items must be available that represents buffer stocks in order for the business to meet sales demand as they occur.All of the above leads to the determination of the optimal inventory.
Figure 1.9: Diagram of the items that make up the Current Assets.
Source: own elaboration.
In general, the different levels of current assets, directly influence the levels of Working Capital and, consequently, the different degrees of risk and profitability. Therefore, the analysis of this pairing and its impact on short-term investment policies is required.
- Risk and return.
Financial decisions made by company managers positively or negatively affect liquidity and performance (F. Weston and E. Brigham, 1994). From the above, two fundamental issues or objectives of working capital management are to maximize profitability and minimize risk. However, both are directly proportional, which means that when one of the variables increases, so does the other, and vice versa.
Once the previous elements have been introduced, it is necessary to define the components of the risk-return binomial.
Van Horne and Wachowicz (1997) define return as the income received on an investment, which is generally expressed in percent, while F. Weston and E. Brigham (1994) generalize it interchangeably as the cash flow stream and the rate of return on assets. On the other hand, L. Gitman (1986) and GE Gómez (2004) consider profitability as profit after expenses. These researchers agree that by theoretical foundation this is obtained and increased in two essential ways: the first, increasing income through sales and the second, reducing costs by paying less for raw materials, wages, or services provided. In the framework of this research, the analysis of profitability in the form of a rate, indicating the ability of resources to generate profits, is accepted as the most efficient way for subsequent analyzes.
For its part, the risk category in its definition is assimilated with greater difficulty (Van Horne and Wachowicz, 1997). In very simple terms, there is a risk in any situation where it is not known exactly what will happen in the future. Risk is synonymous with uncertainty, which is the difficulty of predicting what will happen in the future.
In financial management, risk is associated with the variability of the expected results (Van Horne and Wachowicz, 1997), deriving from this that what offers more variable results, whether positive or negative, is more risky. With respect to the analysis of risks in a business, three fundamental ones can be identified to be evaluated: commercial risk, financial risk and operational risk.
Commercial risk is inherent to the market in which the company operates, where analysis of the business line, the branch in which it operates and the economic-financial environment are vital. Operational risk is linked to the optimal dimensions of plants and equipment, the use of resources and the relationship with sales levels; that is, the conditions of technology. Financial risk is related to the level of indebtedness and the relationship between external and own financing; that is, the analysis related to the financial structure.
Linked to Working Capital, risk means danger to the company for not maintaining enough current assets to:
- Deal with your cash obligations as they occur. In this sense, L. Gitman (1986) defines risk as the insolvency that the company may have to pay its obligations and also expresses that the risk is the probability of being technically insolvent.Supporting the appropriate level of sales (Van Horne and Wachowicz, 1997). Cover expenses associated with the level of operations.
Having considered the above definitions, it is necessary to analyze the key points to reflect on the correct management of Working Capital against the maximization of profitability and the minimization of risk, on which authors such as L. Gitman (1986), F. Weston and E. Brigham (1994) and GE Gómez (2004) and Munilla (2005), agree that these are:
- The nature of the company, being necessary to locate it in a context of social and productive development, since the financial administration in each one is of different treatment. Likewise, it is important to highlight that the company is a subsystem of the society system and as such, maintains an interdependent relationship with its other subsystems. The capacity of assets in generating profits, emphasizing the mix of each one of the components of current assets and watching over the time that each one of them needs to advance to the form of cash.
In summary, a financial administrator must look for that particular equilibrium point between the risk and the return that derive from the different decisions or policies of the Working Capital, as shown in Figure 1.10. This balance point is called risk-return intercompensation.
Figure 1.10: Risk-return intercompensation.
Source: Espinosa, D. Procedure for the analysis of Working Capital. Thesis presented in option to the title of Master in Economic Sciences. Matanzas, 2005.
The analysis of the policies that affect the aforementioned relationship will take place.
- Working Capital Policies and their influence on risk and profitability.
The Working Capital policies are associated with the levels of current assets that are set to carry out the operations of the company, taking into account the relationship between them, as well as with the operating levels, so two fundamental elements can be categorized in this sense (L. Gitman, 1986; F. Weston and E. Brigham, 1994; Van Horne and Wachowicz, 1997 and E. Santandreu, 2000):
- Target level set for each category of current assets: current investment policy. The effects of these levels on the risk-return binomial.
There is a close relationship between investment and company operations, a fundamental aspect in understanding Working Capital policies, for which, before establishing the theoretical elements related to them and their influence on risk and profitability, it is necessary to establish the bases that support the problem of associating current asset levels with operating levels.
- Weston and E. Brigham (1994)In their eagerness to establish methods for financial forecasting, they refer to relationships, one of them relevant in this context: the relationship between sales and investment in current assets. This relationship is defined by the authors as causality, since the sales demand is the cause of investment in inventories, accounts receivable and the maintenance of cash. On the other hand, they define the importance of stability to achieve forecasts closer to reality. In your EFR calculation model o Requirement of External Funds, these authors show a linear relationship between sales and accounts receivable and inventories, assuming the growth of current assets in direct relation to sales, and thus assuming linearity in the relationship: sales - assets circulating.
For their part, Van Horne and Wachowicz (1997) recognize these relationships, but also the inconsistency of stable growths. Regarding the above, they explain that different levels of current assets can be established for each level of sales, but that this relationship is not linear, but exponential. This is shown in Figure 1.11.
The policies that can be implemented are classified as: relaxed or conservative, restricted or aggressive and moderate or intermediate (F. Weston and E. Brigham, 1994 and Van Horne and Wachowicz, 1997), which are discussed below.
Relaxed or conservative politics, is a policy under which high levels of current assets are ensured. With it, the company is considered prepared for any eventuality, maintaining relatively large amounts of cash and inventories and through which, sales are stimulated through a liberal credit policy, resulting in a high level of accounts receivable. In Figure 1.11 a), curve A is the exponent of this policy. As a result of the application of this policy, the liquidity will be higher and therefore the risk of insolvency will be lower, as well as the profitability lower.
For its part, restricted or aggressive politicsit is a policy under which the maintenance of cash, inventories and accounts receivable is minimized; that is, relatively small amounts of circulating assets are held. As a consequence of this policy, the risk and profitability of the company will be high. This policy in Figure 1.11 a) corresponds to curve C.
The moderate or intermediate policy, however, is between the relaxed policy and the restricted policy, where the high levels of risk and profitability are compensated by their low levels. In Figure 1.11 a), curve B corresponds to this behavior.
In general, the impact that policies have on risk and profitability can be emphasized, as shown in Figure 1.11 b).
All of the above leads to internalize that when determining the appropriate amount or level of the components of current assets, the analysis of Working Capital must consider the compensation between profitability and risk, where the higher the level of current assets, the greater the liquidity. of the company, if everything else remains constant; Likewise, with greater liquidity, the risk is lower, but so will the profitability.
Figure 1.11: Investment policies in current assets and their impact on risk and profitability.
| a) Investment policies in current assets. | b) Impact on risk and profitability. |
| Source: Espinosa, D. 2005. Procedure for the analysis of Working Capital. Thesis presented in option to the title of Master in Economic Sciences. Slaughters. |
Conclusions
After analyzing the theoretical and conceptual elements of Working Capital Management as a process, the following conclusions can be reached:
Management integrates the functions of planning, organization, execution and control, with feedback from the latter to the previous ones to achieve the proposed objectives. The planning, organization and control functions are developed from the strategic to the operational, while the execution, from the operational to the strategic. Process management is the way to manage the entire organization based on the processes that are carried out in it, the end result of which is to satisfy customer requirements. Working Capital Management constitutes a process of Operational Financial Management, whose input is the planning, execution and control of the adequate management of the levels and quality of its components (current assets), to achieve a result: minimize risk and maximize profitability in the company,in such a way, that it satisfies the expectations of the client.
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Its equivalent English word is performance.
JL Pérez Rodríguez. Personnel administration. Planning Procedures and Projects. Available at: http://html.rincondelvago.com/ personal-administration-procedures-and-planning-projects.html .
Seidel, H. Planning. Available at:
JA Jiraldo López. Administrative Planning. Available at:
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Administration Tutorials. Administrative process. Available at: http://sistemas.itlp.edu.mx/tutoriales/administracion/tema16.html.
Management.
The value chain was described and popularized by Michael E. Porter in his 1985 best-seller: Competitive Advantage: Creating and Sustaining Superior Performance. New York, NY The Free Press. The value chain is a form of analysis of business activity through which a company is broken down into its constituent parts, seeking to identify sources of competitive advantage in those activities that generate value. This competitive advantage is achieved when the company develops and integrates the activities of its value chain in a less expensive and differentiated way from its rivals. We can also define the value chain as those activities that, seen by the end customer, are necessary to provide the output that the customer is waiting for.It represents a set of processes that makes the product flow from the raw material to the customer's hands.
Value chain. Available at: http://miriam-marca-ccmk27.nireblog.com/comment/2007/10/17/cadena-de-valor.
Fernández Rico, JE (2005), Nogueira, D. et al. (2004), Zaratiegui, JR (1999), Rey Peteiro, D. (2007) and Navarro, E. (2007).
Management by Process. Available at: http://www.gestiopolis.com/recursos/documentos/fulldocs/ger/gestiprocesos.htm .
Negrín, E. (2006). Methodology for the improvement of processes in hotel companies. Available at: http://www.monografias.com/trabajos10/ hotel / hotel.shtml. Zaratiegui, JR (1999). Why Process Management?
Fernández Rico, JE (2005).
Management.
Zaratiegui, JR (1999). Why Process Management?
Flowchart. Article prepared by the Latin American Quality Society, available at the Department of Industrial Engineering of the Industrial and Economics Faculty of the University of Matanzas Camilo Cienfuegos. Excel software for Microsoft Office 2007.
Trischler, WE (1998)
Management by Process. Available at: http://www.gestiopolis.com/recursos/documentos/fulldocs/ger/gestiprocesos.htm and Management by Process: knowing the Company means improving. Available at: http://www.sld.cu/galerias/doc/sitios/infodir/15.doc
In English-speaking literature this term is known as: management of net working capital.
Regarding this definition, the site monographs.com issued a criticism arguing that when defining Working Capital using short-term assets and liabilities, it would give the impression that it is affected by daily transactions, while it is crucial to recognize that the Capital of Work is the net financial impact of a long-term policy. Working Capital does not change every day, it just depends on the company's strategy regarding its long-term decisions. All of the above fully agrees with what was argued by Van Horne and Wachowicz (1997) when they explain that administratively it is not relevant to manage a difference between current assets and liabilities, since it is continuously changing.
Approaching: Espinosa, D. 2005. Procedure for the analysis of Working Capital. Thesis presented in option to the title of Master in Economic Sciences. Slaughters.
An asset is a set of assets and rights that the company owns for the development of its operations and includes the investment of assets that will be used or form part of the operating cycle, that is, short-lived assets. Assets can be tangible or intangible and subdivided into current and non-current (R. Brealey, 1998).
It is the fundamental measure of current assets since it allows us to face the most important problems that the company is facing: insolvency and lack of capital. Insolvency means not having sufficient availability at the right time and place to meet the company's obligations and financing. Failure to meet this objective can have serious consequences, such as discredit, the need to resort to unfavorable financing systems, and may eventually go bankrupt due to lack of liquidity. Lack of capital means not maintaining a cash balance that allows the company to sustain short, medium and long-term business decisions, referring to the financing of operating working capital, the expansion of its markets (launch of a new product),technological updating (which is highly accelerated) or other investments in plant or equipment.
Maintaining acceptable levels on average in the checking account will facilitate: that the banking institution with which you work can satisfy all business requirements; keep extra money to take advantage of opportunities that are sought (an excellent discount in the purchase of raw materials, some shortage of a product that is urgently purchased).
Temporary cash surpluses are deposited in investment accounts in order to maintain a return that would not be obtained if deposited in a normal checking account. These short-term investments of cash that exceed current requirements are made for the purpose of obtaining a return on the funds. These investments must be made in the short term and must be of the highest quality, thus ensuring that they can be sold without incurring losses (LA Bernstein, 1997).
A company's credit policy sets the guidelines for determining whether or not to grant loans to the customer and the amount of the customer, for which adequate sources of information and credit analysis methods must be developed. The fundamental variables of the credit policy are: the credit standards that are the minimum criterion for granting credit to a client and the collection policy that constitute the procedures that it follows to collect its accounts at maturity (L. Gitman, 1986).
An alternative in the optimization of the management of the accounts receivable is the factorization, by means of which a third company called factor, generally a commercial bank, performs the extra-business financing of the accounts, compensating the collection management by means of a commission (A. Ravelo, 2005).
Accounts receivable from clients include an estimate for bad or uncollectible accounts, which are subtracted from the former to determine the value expected to be collected (A. Demestre et al., 2002). The condition for it to be considered an account receivable is that it be collectible within a period of one year or within the normal cycle of operations of the company.
Also called prepaid expenses.
The latest trends in inventory management are as follows: much more versatile production lines, working with almost zero raw material inventories, use of computer systems and communication lines, application of Just In Time (JIT) systems and reduction of products in process. All this implies that: the intermediate warehouses of products in the chains are unnecessary; practically total integration between customers and suppliers; purchase, billing and production orders that travel safely, reducing waiting times; transfer of raw materials to suppliers, ensuring a fluid and almost immediate supply; replacement of production chains by production groups that cover all tasks; and the production of each unit without leaving intermediate products (A. Ravelo, 2005).
To determine the rate of return on assets, the expression: Earnings before interest and taxes / Total assets is used.
Financial management. Available at: http://www.gestiopolis.com/dirgp/fin/gestion.htm.
Espinosa, D. 2005. Procedure for the analysis of the Working Capital. Thesis presented in option to the title of Master in Economic Sciences. Slaughters.
L. Gitman. 1986. Fundamentals of financial administration.
F. Weston and E. Brigham. 1994. Foundations of financial administration.
GE Gomez. 2004. Administration of Working Capital.
F. Munilla. 2005. Dynamics of the origin and application of funds in liquidity management. Work presented at the CONTAHABANA 2005 Event.
F. Weston and E. Brigham. Fundamentals of financial administration. 1994.
From the English term: External founds required.
Also called Fat Cat Policy by F. Weston and E. Brigham (1994).
Also called Medium Support Policy by F. Weston and E. Brigham (1994).
In approach to Van Horne and Wachowicz. Fundamentals of financial administration. 8th edition. Prentice Hall Hispanoamericana. 1997.
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