Introduction to Working Capital Management

Question 1

What is the objective of Working Capital Management?

Answer 1

To maintain adequate working capital so as to:

1. Meet on-going operating and financial needs of the firm
2. Not over invest in net working capital which provide low returns or increase costs

Question 2

Define “current assets”.

Answer 2

Cash and other resources expected to be converted to cash, sold, or consumed within one year (e.g., Accounts Receivable, Inventory, some Prepaid items, etc.).

Question 3

Give examples of over-investing in working capital.

Answer 3

1. Maintaining excess cash in low-return accounts
2. Having excessive (large/old) accounts receivable which don’t earn interest
3. Maintaining more inventory than needed and thus incurring storage costs and increasing the risk of obsolete inventory.

Question 4

Define “current liabilities”.

Answer 4

Obligations due to be settled within one year or which will require the use of current assets to satisfy (e.g., Accounts Payable, other short-term Payables, some Unearned revenue, etc.).

Question 5

Define “working capital” (also called “net working capital”).

Answer 5

The difference between a firm’s current assets and its current liabilities; expressed as; Current assets - Current liabilities = Working Capital.