Working capital measures the availability of liquid assets that are needed to run the day to day activities. In other words, the working capital management involves oversees the relationship between a firm’s short term assets and its short term liabilities. Managing the working capital in an effective way is important to make sure that the company is in a better position to pay off the short term debts and also to fund the operational needs of the organization. Working capital management is therefore very important to run the business in the long run.There are many hurdles that an organization can be faced with during the operations. However, it is important to make sure that the expenses that the organization has to shell out needs to be equally managed with revenue generation from the operations. In any event if the firm fails to generate the required funds, the organization can be in serious trouble and may have to seek bailout schemes from the government. Many of UK firms make use of cash flow ratios in order to understand the adequacy of working capital to fund day to day operating expenses.
Working capital –significance of cash ratios
Effective working capital management requires the support of reliable forecast of the capital availability and also records of the transactions like accounts payable and account receivables. There are many cash flow ratios that can give a clear picture of the current financial position of the firm. This is why these ratios need to be calculated by experts who possess the right skill sets.
Current ratio of a firm is mainly used to gauge the ability of the firm to pay back the liabilities with the help of the cash reserves in place. With a higher rate of current ratio, the organization can be optimistic about a healthy working capital. Current ratio is also used as a measure to check the company’s inventory turnover rate and also its ability to generate revenues during the operational cycle.
Other important cash ratios that are used to identify the underlying problems with the financial position of the company include Acid test ratio, cash conversion efficiency.
Working capital—impact of internal and external factors
Working capital management is completely dependent on some of the internal and external factors that the company works on. External factors like the economic conditions, interest rates, banking policies will play a pivotal role in raising money that is necessary to fund the day to day activities.
Internal factors such as company policy, working strategy and other important factors will deliver the efficiency in managing working capital of the firm.
Working capital –liquidity management
Working capital is also directly affected by the way the firm manages its liquid assets. When there is a delay in the accounts receivables or slower sales can impact the company credibility to pay back the current loans. Since liquidity of the firm is a crucial factor to conclude about the credit worthiness it is important to manage the liquidity position in order to get a healthy working capital.