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As seen in Figure 1, that fixed working capital is stable over time, where as variable working
capital is fluctuating-sometimes increasing and sometimes decreasing. The permanent
working capital line, however, may not always be horizontal. Both these kinds of working
capital - permanent and temporary, are required to facilitate production and sales through the
operating cycle, but temporary working capital is arranged by the firm to meet liquidity
requirements that are expected to be temporary.
The degree of success in addressing these concerns is easier to gauge for some than for
others. For example, computing the inventory turnover ratio is a simple measure of
managerial performance. This value gives a rough guideline by which managers can set goals
and evaluate performance, but it must be realized that the turnover rate varies with the
function of inventory, the type of business and how the ratio is calculated (whether on sales
or cost of goods sold).
Cash Management
Management of cash is an important function of the finance manager. It is concerned with the
managing of:-
Cash flows into and out of the firm;
Cash flows within the firm; and
Cash balances held by the firm at a point of time by financing deficit or investing
surplus cash.
Generally, when a concern does not receive cash payment in respect of ordinary sale
of its products or services immediately in order to allow them a reasonable period of time to
pay for the goods they have received. The firm is said to have granted trade credit. Trade
credit thus, gives rise to certain receivables or book debts expected to be collected by the firm
in the near future.
In other words, sale of goods on credit converts finished goods of a selling firm into
receivables or book debts, on their maturity these receivables are realized and cash is
generated. According to Prasanna Chandra, "The balance in the receivables accounts would
be; average daily credit sales x average collection period." The book debts or receivable
arising out of credit has three dimensions:
It involves an element of risk, which should be carefully assessed. Unlike cash sales
credit sales are not risk less as the cash payment remains unreceived.
It is based on economics value. The economic value in goods and services passes to
the buyer immediately when the sale is made in return for an equivalent economic
value expected by the seller from him to be received later on.
It implies futurity, as the payment for the goods and services received by the
buyer is made by him to the firm on a future date.