FINAL DISSERTATION
DOES WORKING CAPITAL MANAGEMENT PLAY THE IMPORTANT ROLE IN
SUCCESS OF SPINNING SECTOR IN PAKISTAN
SUBMITED BY:
Muhammad Saleem
BITE I.D
Submitted in partial fulfilment of the requirement for the MBA Innovative Management
In collaboration with Coventry University And British Institute of Technology & E-commerce
9th April 2010
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INDEX PAGE
ABSTRACT.......................................................................................................7
CHAPTER 1......................................................................................................8
INTRODUCTION............................................................................................8
1.1 SIGNIFICANCE OF WORKING CAPITAL...................................................................8
1.1.1 HISTORICAL PROSPECTIVE OF WORKING CAPITAL MANAGEMENT...........9
1.1.2 INTERNAL WORKING CAPITAL MANAGEMENT................................................9
1.1.3 EXTERNAL WORKING CAPITAL MANAGEMENT...............................................11
1.1.4 WORKING CAPITAL MANAGEMENT IN SPINNING SECTOR IN PAKISTAN..11
1.2 RESEARCH QUESTION,PURPOSE,PROBLEMS.........................................................12
1.3 RESEARCH METHODOLOGY......................................................................................13
CHAPTER 2......................................................................................................15
LITERATURE REVIEW................................................................................15
2.1 INTRODUCTION.............................................................................................................15
2.2 INTERNAL WORKING CAPITAL MABAGEMENT..................................................16
2.2.1 WORKING CAPITAL AND ITs INVESMENTS........................................................17
2.2.1.1 CASH MANAGEMENT............................................................................................19
2.2.1.1.1 MOTIVE FOR HOLDING CASH..........................................................................20
2.2.1.1.2 PLANING CASH REQUIREMENT......................................................................21
2.2.1.2 INVENTORY MANAGEMENT...............................................................................22
2.2.1.2.1 THE OBJECTIVE OF THE INVENTORY MANAGEMENT..............................22
2.2.1.2.2 PLANING THE INVENTORY REQUIREMENT................................................23
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2.2.1.3 RECEIVABLE MANAGEMENT.............................................................................24
2.2.2 MANAGING WORKING CAPITAL FINANCE........................................................25
2.2.2.1 COMPONENTS OF WORKING CAPITAL FINANCING......................................25
2.2.2.2 SHORT-TERM LOAN FINANCING.......................................................................27
2.2.2.3 SHORT-TERM AND LONG-TERM DEBT MIX....................................................27
2.2.3 MANAGING THE PURCHASE AND PAYMENT OPERATION............................28
2.2.4 MANAGING THE SALES AND CASH COLLECTION OPERATION....................29
2.2.5 PERFORMANCE MANAGEMENT OF W C LEVELS AND OPERATION............30
2.2.5.1 PERFORMANCE EVALUATION OF WORKING CAPITAL INVESMENT.......30
2.2.5.2 PERFORMANCE EVALUATION OF WORKING CAPITAL FINANCING.........31
2.2.5.3 PERFORMANCE EVALUATION OF WORKING CAPITAL OPERATION........31
2.3 EXTERNAL WORKING CAPITAL MANAGEMENT..................................................32
2.3.1 THE VALUE NETWORK MODEL.............................................................................33
2.3.2 VALUE CHAIN AND WORKING CAPITAL MANAGEMENT...............................34
2.3.3TRANSACTION COST AND WORKING CAPITAL.................................................35
2.3.3.1WORKING CAPITAL OPERATION FROM MANAGERIAL CONTROL
PERSPECTIVE.......................................................................................................................37
2.3.3.2 WORKING CAPITAL LEVELS FROM MANAGERIAL PERSPECTIVE.............38
2.3.4 VALUE MEASUREMENT...........................................................................................39
2.4 CONCLUSION.................................................................................................................40
CHAPTER 3..........................................................................................................................42
METHODOLOGY...............................................................................................................42
3.1 INTRODUCTION...........................................................................................................42
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3.2 CONCEPTUAL FRAME WORK...................................................................................43
3.2.1 INTERNAL WORKING CAPITAL OPERATION,LEVEL AND CASH FLOW.....43
3.2.2 EXTERNAL WORKING MANAGEMENT...............................................................44
3.2.3 WORKING CAPITAL PERFORMANCE ASSESSMENT........................................48
3.3 CASE STUDY DESIGN AND APPROACH.................................................................49
3.3.1 QUALITATIVE DATA ANALYSIS...........................................................................50
3.3.2 QUANTITATIVE DATA ANALYSIS........................................................................51
3.3.3 DATA COLLECTION.................................................................................................51
3.3.4 DATA ANALYSIS......................................................................................................53
3.4 RELIABILITY AND VALIDITY..................................................................................54
CHAPTER 4.........................................................................................................................55
ANALYSIS AND FINDING ..............................................................................................55
INTRODUCTION.................................................................................................................55
4.2 FINDING AND ANALYSIS..........................................................................................55
4.2.1 INTERVIEW FIDNING..............................................................................................56
4.2.2 QUESTIONNAIRE DATA.........................................................................................57
CHAPTER 5.......................................................................................................................60
CONCLUSION AND RECOMMENDATION...............................................................60
5.1 CONCLUSION..............................................................................................................60
5.1.1 LIMITATIONS...........................................................................................................60
5.2 RECOMMENDATION.................................................................................................61
CHAPTER 6.........................................................................................................................62
REFERENCES.....................................................................................................................62
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APENDIX(a)........................................................................................................................66
APENDIX(B).......................................................................................................................67
TABLE INDEX
2-1 LINK BETWEEN VALUE CHAIN AND WORKING CAPITAL
2-2 TRANSACTION ACTIVITIES AND RELATED COSTS
2-3 MANAGERIAL CONTROL PATTERN AND WORKING CAPITAL
3-1 LINK VALUE CHAIN AND VALUE NETWORK
FIGURE INDEX
2-1 WORKING CAPITAL CYCLES
2-2 SHARE HOLDER VALUE NETWORK MODEL
3-1 WORKING CAPITAL MANAGEMENT (J.K SPINNING MILLS LTD)
3-2 WORKING CAPITAL MANAGEMENT NETWORK (J.K SPINNING MILLS LTD)
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Acknowledgement
In the name of Allah the most beneficent, most merciful and all praise is due to Allah. First of
all, I really thankful to my God who gave me such understanding, knowledge, ability and
power to complete my research. I would like to thanks with profound appreciation to my
supervisor “Dr. Omar Masood” who provides me countless assistance, constructive
guidance with professional experience, patience and always gave me very helpful feedbacks
for the completion of my dissertation. His broad spectrum, new ideas, and steadfastness on
hard work and quality helped me to overwhelm potential difficulties and kept me dedicated
and highly motivated to this dissertation. This work bears the imprint of many people. I
would like to thanks all also my colleagues Mr. Amjad, Mr. Habib, for their dedication and
loyalty during my project. I also thank the faculty of “BITE” especially Mr Inayat Khan and
Dr Muhammad Farmer for their kind support; they all give me the honour of attaining of
master degree.
Finally, I would like to thanks my family especially my parents for their prayers, support and
encouragement throughout my studies.
At length, I am indebted and would like to acknowledge to my family & friends, especially to
my parents Mr. & Mrs. Basher Ahmed who support me morally and scrupulously and this
dissertation dedicated to them.thier immolation will perpetually be appreciated and
comprehended.
“As always in always all thanks to Allah”
Muhammad Saleem
MBA Innovative Management
Coventry University
April 2010
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Abstract
This dissertation discussed about the role of effective and efficient working capital
management in spinning sector in Pakistan. This research argues that working capital
management and its levels,operation,finance provides a broader support to business
organisation and effective and efficient working capital management can create the value for
shareholder or firm and helpful to business success.however,short term assets and liabilities
are important component of total assets and needs to be carefully analyzed. Management of
these short-term assets and liabilities warrants a careful investigation since the working
capital management plays an important role for firm profitability and risk as well as value
(smith 1980). The optimal level of working capital is determined to a large extent by the
methods adopted for the management of current assets and liabilities. It required continuous
monitoring to maintain proper level in various components of working capital like cash
receivable, inventory, payables etc.
This research briefly discus about the reason and significance of working capital management
and effectiveness of working capital in process of business organisation. This research also
discussed the procedure, how to create value for firm without risk factor throughout the
organisation to use the different control mechanism.
Investment and financing concept has been provided in lines with the current system that is
expanding globally. The analysis demonstrates the effect of varies factors like political
situation in Pakistan, pricing, costs etc on economic developments in spinning industry.
This research is aimed to provide understanding of working capital management and its used
in unstable condition of current economy in Pakistan and spinning sector in Pakistan can be
manage their losses by use the potential way which are discuses or examine in this research.
Finally, the approach of this research is “Qualitative methodology” some information is
collected and analysed through interviews and questionnaires to find out about the working
capital management practices and its effects at overall performance of the company.
KEY WORDS: working capital, liquidity, profitability, trade off, risk factors, cash,
inventory, payable, receivable, value creation, management, shareholder, performance,
methodology.
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Chapter 1
Introduction
1.1. Significance of Working Capital
Vital theoretical progress in finance throughout the past decade has given the prospective for
improved decisions in business organisation. Unluckily, progress has not been consistent
across every parts of financial decision making inside and among business organisations.
According to smith 1980a working capital shows to have been comparatively ignored in spite
of the reality that a high percentage of the business failure due to deprived decisions about the
working capital of the firm. Basic interest in this research is consequently the area of inter
and intra-firm working capital management, which usually include short-term investment and
financing decisions of firm. Inside an ideal world, working capital assets and liabilities would
not be required because there would be no ambiguity, no operational cost, and no
development costs of production or limitation of technology. The price of producing goods
will not alter with the quantity produced. Business organisation would borrow and lending at
the equal interest rate. Funds, work and product markets would return all accessible data and
would be entirely competitive. In perfect world there would not be needed too much to hold
any type of inventory in case of a limited material in process during production. In ideal
situation business supposes that requirement is right known in advance and suppliers
maintain to their due dates, system can be smoothed and orders complete directly without
costs and delays. In ideal business, organisation would not need cash in hand for payments
other than initial costs because it might be probable to make the payment from each receipt of
sales and no need payables and receivables if customers make payment straight away in cash
than organisation would also able make its payment on time. But need of working of capital
exist because in such ideal suppositions are never practical and so working capital levels
build a significant part of a company investment in assets and such kind of assets encompass
to be finance involving that investment may have benefits and costs. Working capital
management are mostly related or originated from three main business operations, producing,
selling and purchasing. In the effective and efficient working capital management, investment
and related short-term finance can be used to make process of purchasing, production and
selling more flexible and cheaper. It can also be used as instrument for management of whole
business operations which may produce the benefits and costs. Beyond doubt effective and
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efficient working capital management can help the success of the spinning firm in generating
value. Consequently managing the working capital investment, finance, and its operation
internally and externally within organisation and competence by which organisation co-
operate among them determined end result
1.1.1. Historical Perspective of Working Capital Management
Working capital management has pass through different phases, mostly manage, optimisation
and value dimension. Working capital management firstly take place as a methodical
approach of controlling the including, outgoing and outstanding balances of cash, inventories
and receivables. Basic object at this stage is that working capital is not misused for individual
benefits that are commended by its management. For the instance, practitioners and
researchers made different control measures over the collection and receipts of cash, issuance
and receipt of inventories, the decrease of receivables through cash collections and enhance
of receivable through credit sales. In optimality management, there is not only focus on safety
of working capital items but also on reduce of the relate cost and maximisation of related
income. Over the control and optimality plan the total of accounting profit is result as a key
determine of managerial efficiency. In the performance measurement approach, working
capital management determined on how to the help managers in the making and measurement
of value without ignoring the above two objective. Mostly, cash flows approach is used as a
key instrument to measure the value produced by firm. Particularly, firm are concentrated on
control, optimality and measurement of value in internal working capital management. But in
our research, we try to introduce a new dimension to these approaches-the external working
capital management. External working capital management is also play the important role to
creation the value for business organisation. We argue that firm can manage the working
capital by co-operation with suppliers and buyers. Reduce the levels of working capital
investment and its source of finance internally and externally reduce the cost of inter-firm
transactional relations is way to create more the value of firm.
1.1.2. Internal Working Capital Management
All these items of working capital (cash, receivables, inventories) can help in management of
the firm in its own specific way. The Cash is way to keep the firm liquid, consequently firm
is in position to disburse obligations when they are due for payment and therefore it protects
the firm from bankruptcy (kretlow, Mcguigan and Moyer, 1995). The business organisation
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requires also surplus levels of cash to manage the daily expenditure for operation as well as
payment for salaries or daily wages and pay to creditors to ensure flow of supplies. Managing
the different level of inventories is also necessary to satisfy the different purpose such as raw
material inventory is necessary to make production smoothly, advantage of price change and
quantity discount etc. in case of lack raw material inventory, procure would have to be made
constantly at the speed of production result is high ordering costs and less quantity discounts
and production interruptions when raw material could not be purchase in time. According to
Ben-Horim 1987, firm needs buying the enough raw materials to give a useful cushion
between purchase and production. Similarly work in process inventory can be help the
production process smoother and they give the buffer between the different production
process while finished goods inventory can help the firm to provide the supports to sales
activities and immediate services to customers. Receivable are used to manage and increase
the customers for business organisation. Best sources of finance for working capital assets are
short term debts which include mainly trade credit and bank loans. such kind of sources of
finance have usually lower interest rate as compared long term loan(Moyer and Mcguigan
1995) and may be helpful to maintain a firm liquidity position. “Management of inventory,
receivable and payable have incredible impact on cash flows, which in turn affect the
profitability of the firm” (cote and Latham 1999).firm has benefits to holding and increasing
the working capital but it will not come without their own costs. In excess of investment in
inventories, receivable and cash ties-up capital result is profit loss. Similarly cost of
investment in cash deposit depend upon the nature of bank account like in excess investment
in cash deposit in bank checking account effect at paying services charges while saving
account does not produce the big revenue. Receivable may become as bad debt in case over
investment in receivable which is another profit loss. For the instance, the trade-off between
the benefits and costs of holding the working capital investments and short-term loans must
be assessed and control for minimising the riskier for firm. Significance of working capital
management is also depending upon its volume. Working capital is big segment of a firm
investment in resources like 40% investment in manufacturing industries (yarn manufacturing
company like j.k spinning mill ltd).business organisation can be save big amount by
economising on working capital investments and short term finance. time management is
very important in working capital operations(raw material for production, production for
finished goods and finished goods for sales to customers).increasing in the investment in
materials inventory, payments of cash or payable is result of purchase of material for
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production while production is involve work in process inventory result finished goods
inventory. A sale is generating the cash and result decrease the finished goods inventory. The
management of these movements is very time taking and could still insist extra time if the
working capital investments and short-term financing are keenly managed.
1.1.3 External Working Capital Management
Transaction of purchase and sales are mainly affect the balance of working capital during the
operation because purchase and sale transaction have costs. There are different additional
costs also with operation like carrying cost or inter-firm relationship costs. The size and
extend of these costs depend on the transaction type that exist between the transaction parties.
The co-operation between parties in controlling firm value chains (porter 1985), both with
suppliers and customers are key as a result of specialisation and globalisation. The intend of
suitable inter-firm control model is also important because of the advantage in controlling
inter-firm transaction cost as well as working capital costs. We already discuses above
holding working capital have costs as well as benefits but appropriate inter-firm co-operation
reduce the requirement to hold additional inventories, receivable and cash. Firm does not
need too much inventory for both material and finished goods if agreement on purchases and
sales shipment basis of just in time. Market and cost reasons are compelling the firm to go
global, in which case they are affected to depend on the relationship with other firm, which
are familiar to the new atmosphere in terms of social culture, business culture and regulatory
requirement. The relationship between parties in form of inter-firm co-operation creates the
value chains (porter 1985) which are directly connected with network (Rappaport, 1986).
1.1.4 Working Capital Management in spinning sector in Pakistan
The significance of managing working capital is exaggerated at what times it refers to firm in
developing economies like Pakistan. Spinning sector have many problems like low level of
process of technology, poor quality products, small local market, lack of infrastructure of
management and institutional frame work, lack of vision or approach for long run planning,
lack of access of capital.invesment decision are based on unskilled owners or directors of
firm. They have limited human and financial resources for new projects or investments.
Spinning sectors in Pakistan have problems to manage the working capital investment and
short-term debt due to lack managerial knowledge. Effective and efficient management are
very important to getting the benefits from financial market as sources of finance. Financial
11
institute like bank will hesitate to provide them with long term loans. Most of spinning mills
in Pakistan have surplus problems due payment delay from purchasers. So the effective and
efficient working capital management is particularly important in spinning sectors in Pakistan
in order to create value for firm.
1.2. Research Question, Purpose and Problems
numerous of business organisation had improper working capital management
consequence number of problems that this research study uses as main research background
like internally firms hold improper levels of working capital result in uncontrolled costs of
holding the working capital items and improper control their purchases and sales activities
and have a defective credit policy. Similarly firm lack of proper practices and policies of co-
operation with their customers and suppliers. Many firm managers have not proper technique
to manage the working capital and investment decision that why we had problems to get
answer in our empirical case study. Our basic objective in this research has its origin from
problems above mentioned and tries to find their solution. Another objective is investigate
and critical analysis at the firm working capital practices and then to give applicable policy
recommendations useful to increase value of firm. For the instance, we re-evaluated
appropriate literature and prepare the conceptual framework, which we used to resolve the
related issues of our study collect relevant data and investigate the finding. We could not get
the complete picture from one part of working capital management in our study that way we
looked both internal and external working capital management for finding. For the instance,
we sub-categories our objective into three step process to search the sufficient answers to the
problems.step1.reasarch the concepts of internal and external working capital management
and short term loans prepared conceptual model that spinning firm can used to enhance value
or shareholders.step2.we described the internal and external working capital management
practices by using the conceptual models.step3 we evaluate the theoretical and experimental
findings and attempt to forward conceptual and useful implications at firm level, furthermore
we also attempt to point out potential research directions. The research is focus on looking at
internal and external working capital management in the context of spinning sector. The
research question tackle is: does working capital management play the important role in
success of spinning sector in Pakistan That research question involves three key sub-
questions: the first is theoretical, the second is experimental and third one is experimental and
theoretical. The theoretical sub-question is employed to apply the initial step in our research
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method. It is related to conceptual study of internal and external working capital management
and development of conceptual model which can be used empirically to study the spinning
sector in Pakistan. The pilot investigation pointed to insufficient working capital management
we had to apply a benchmark and conceptual benchmark is value creation. The working
capital management have to help in value creation and value creation idea is then set up in the
conceptual structure. Experimental sub-question is used to apply the next step in our research
method to use the conceptual model to know how firm manage internal and working capital.
Last sub-question is utilized as conceptual framework to experimental result and tries to
advise practical approaches to firm.
1.3. Research Methodology
According Bouma and Atkinson, 1995 research is process where sequence of correlated
activities moving from a starting to an end. There are three phase in research process. The
primary phase deals to clarify the issues to be researched, selection of a research method and
researcher encompass to select, narrow and to prepare the issue to be studied. In this step,
researcher has also to decide on the research intend, to plan way for variables, and selects the
models or the elements of investigation. According to yin 1994, “research methodology is a
preferred research approach: study issue to be deal is a type of why-how, control of the
researcher over research is nothing or especially irrelevant and the focus is on a modern fact
in an actual life perspective”. This research question is “does working capital management
play the significant role in success of spinning firm in Pakistan” and it would not be easy to
control working capital management procedures that firm used in Pakistan. The behaviour of
management cannot also be worked in the similar means as research is manipulated. Basic
objective of research is on finding modern working capital management, appropriate to
spinning mills in Pakistan. The research can be descriptive, explanatory, exploratory and
hypothesis testing. Exploratory research means discover new area of organisational research
by making complete exploration.reseacher can used the exploratory way when they do not
know clear picture about the issue at hand or not enough information on how same issue have
been solved in past. The descriptive research study entails describing definite features of the
phenomena so as to the researcher is involved in. explanatory case study involves with
explanation why the variables in study act in a certain way. A hypothesis testing is involved
to describe the environment of certain link or to set up the variation among the group. Our
research is bases on descriptive and explanatory case study.initaily; we review the literature
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objective to search for what theoretical working capital management approaches are
available.secondely, we find and describe what working capital management approaches
spinning mills in Pakistan use. At the end, we evaluate and describe how our conceptual
prospects and experimental result fluctuate and forward potential recommendation taking
place how spinning mills be able to use working capital management technique for value
creation. We find value creating characteristics of working capital management by internally
in firm and externally by assess the business to business co-operation. We used the different
management theories like working capital technique, value chain, value network, business to
business o-operation in our empirical case study as background research study.actualy basic
idea is that effective and efficient working capital of firm inside and outside value chain
linkages can decrease transaction cost which generate the more income and create the value
for firm. The firm can be achieved the objectives of working capital management by
managing the internal affairs of a business firm. it is based on how managers organise
internal and external affairs of firm but managers only concentrate on efficiency of internal
operations of firm, forget an important element that are managing the external linkages where
they can make the difference in race of business success. Data collection is another part of
our research study. There are sources of gathering information like interview, questionnaire,
direct observation, documentary information and physical artefacts. For the instance, we have
used the three way archival records, interview and questionnaires in our researches have been
conduct the interview with respondent and questionnaires have also been I administered and
collected from the concern firm manager. Audit financial statements of firm are used in this
research as archival records.
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Chapter 2
Literature Review
2.1. Introduction
Our basic objective in this chapter is to find the answer of first conceptual research question
stated that(does working capital management has role in success of firm or its value).for the
instance ,we present the general introduction and back ground of working capital
management and its different function in term of its investment, operation and financing.
Finance is spinal cord and its function like blood in business organisation (Ravi m.kishore
2008 page.3).long term decision is deals the fixed asset like plant and machinery, may play
the role for long run success of business meanwhile short term decision on working capital
will help to achieve the long run objective of the firm. There are following two part of
working capital management like internal and external working capital management.
Working capital management can be play role internally and externally for growth of
business in business organisation.
Figure:2-1 Working Capital Cycles
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Financing Operation Investment
Internal
External
Purchases
Production
Sales
Cash
collection
Cash payment
Materials
Finished goods
Receivables
cash
2.2. Internal Working Capital Management
Internal working capital is involved levels and operation in business firm. Business
organisation is established by investment. We can divide the investment in form of fixed and
current asset. Object of finance management is managing the investment and its related
sources of financing. Working capital is investment in current asset i.e. cash investment,
account receivable, inventories (krish Rangarajan, Anil Misra, 2005 page.3) and its financial
management is working capital management. Working capital management has key role for
enhance value of firm (Ravi M.kishore, 2008, Ayub, Mehar 2005). Working management is
defined as process of planning and controlling of project investment and its function in sale
and purchase operation. It is responsibility of finance manager to regulate and make right
decision for current asset and its holding and way of such current asset financing. So internal
working capital management is involved to manage the operational and internal levels in
firms. Operational level is refer to raw material purchase and finished goods sales, it mean
manage the finance to support whole process of purchase, production, finished goods sales.
Cost factor and revenue are important for business finance sectored. Effective production and
sales have positive (negative) role for firm profitability’s (ayub mehar 2005) and profit,
revenue and cost of project is important factors for business growth and its financial position
( Peterson and bennet, 1983; myers, 1984; Chadwick, 1987; Williamson, 1987) .we are argue
here role of working capital management to minimise the cost with low risk and maximize
the profits for business growth. So working capital operating cycle is discussing the process
from purchase of raw material, its production, sales and end- ups investment,e.g in petty cash,
inventories holding, account receivable (Moyer, Mcguigan and Kretlow, 1998; Talat Afza
and Mian Sajid Nazir, 2007).primary objective or motive of Working capital management is
sustaining the stability in dynamic business culture (hrishikes bhattacharya, 2009,
page.3).first time the concept of working capital was introduced by Karl Marx in form or
term variable capital. It means advance money for workers before works finished. Financial
statement like profit & less account and balance sheet can help the manager to find the future
working capital (Dr.Ayub Mehar 1998). It will use to find the impact of sales revenue, profit
and dividend on the net worth of firm.
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2.2.1 WORKING CAPITAL MANAGEMENT AND ITS INVESTMENT
According to (Hrishikes Bhattachrya, Ayub Mehar, Ravi M.Kishore,) major issues are related
with working capital management that is relate with level of investment and its finance. For
the instance we will discuss the component of working capital investment and liquidity
management which is directly related with issues in working capital management and it’s
financing. We are categorised component of the working capital investment in term of
liquidity and financial stability.
Liquidity: Liquidity is complex term. No universal definition has yet come out (Hridhikes
Bhattacharya 2009, page.297) term liquidity is normally used for different ways. Liquidity
means conversion of current asset into cash during business operation. Current asset are cash
in hand, market securities, account receivable, depreciation funds, all three component of
inventories and current liabilities are account payable, short term loan and dividend payable.
Cash is not a profit or loss account items that mean cash is not profit or loss of business
organisation. So profit of firm is useless without cash in hand. Liquidity (cash) has key role in
operation or processes of business organisation. Firms need cash in term of liquidity to meet
its obligation.shiftable theory of liquidity management is most important to convert the asset
into cash. Market securities have cash ability for firm operational needs and profitability. We
can say that near liquidity asset are market securities. Account receivable mean selling of
goods and services on credit where agreement between customer and consumer in future
payments. Accounts receivable has positive (negative) effects on cash flow in business
operation. Small firm has intended to get goods from cooperated firm on trade credits. Small
firm try to cover the gap of cash deficit through trade credits. Inventories include the raw
material, working in process (WIP material) and finished goods. It is also current asset which
has positive (negative) role in production or operational cycle of the firms.
Managing the Liquidity: Managing the liquidity is reduced the cost and increase the
profitability of firms operation. According Hrishikes Bhattacharya, mian Sajid Nazir and
Talat Afza, Anil Misra, firms have two objectives maintain the liquidity and maximising the
profitability of the firms. Cost Factors of firm are depend upon working capital level of
investment and its finance in operation of business organisation. Managing the liquidity is
more important than profit ( emery, 1989).according to mehar(2005),bandt pascal(1992)
capital and cash flow has correlation and value of fixed asset are depend upon the value of
liquidity assets. Retained earnings are another source of managing the liquidity assets of firm.
17
Firms can increase their reserve funds or surplus by retaining which it show that firm has
profit but not distribution into shareholders. Firms can maintain the liquid by selling the asset
or short term debts. Finance manager is trying to stem the process during the liquidity crisis
for example they would take step to solve the problems by utilise the unveiled credit limits,
sell market securities negotiation on credit terms, defer payment of suppliers bills, advance
payment to buyers, reduce outflow of cash etc. shift ability theory of liquidity in important
for finance manager but useless for operational manager. The production manager would like
keep the liquidity in form of inventories while sales manager like to keep the liquidity in form
finished goods. So we can say that asset generally have varying degree of liquidity. Current
ratio and acid ratio are measure of liquidity. Cost factor are depend on low and high level of
liquidity and times. Finance manager have measure the cost of liquidity by current ratio or
acid ratio and health ratio. Time is also important factor in liquidity conversion. Now we will
See the liquidity and bankruptcy cost in the way of costs keeping too much (cost of liquidity)
and too low (costs of bankruptcy) liquidity asset.
Liquidity and Bankruptcy Cost:According to Hrishikes Bhattacharya (2009), Mehar
(2005), Yeager and Seitz (1989), illiquidity is bankruptcy which is not happen immediately.
When obligations of firms exceed the cash flow is call bankruptcy (Suzan hol; sjure
westgaard and nico van der wijst (2002).in case of the bankruptcy liquidation will be happen
where the creditor have first right to claim as compared to shareholders. According to van
horn (1986) the voluntary liquidation and conversion of the asset into cash has two types of
bankruptcy costs, operating cost or out of pocket cost and interest cost. Out of pocket costs
are associated with the process of liquidation of bankrupt firms and distribution of asset to
claimants. Operating cost including the time which is spend the management for solvency of
creditor claims of the bankrupt firms, administration charges , legal expenses, any courts fee
and auditor fee etc.it mean bankruptcy is costly process itself. According to Yeager and sits
(1989) cost of excess liquidity is cost of debts for liquid asset investment and wrong
investment decision in current asset as compared to fixed asset (lost of opportunity cost or
profitability).interest cost of bankruptcy is compensation to creditor ex-ante. According to
grinblatt and Sheridan (1998) indirect cost of bankruptcy which is result of probability of
bankruptcy that increased the cost of finance and close the bankruptcy but which is not
actually bankrupt. According to van horn(1986) creditors have first right on firms asset in
case of liquidation of firm they charge the default premium on interest rate which is reflect
the increased cost of finance of firm or probability of bankruptcy of the firms. Due to
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financial distressed, firm may not be able to Offer the products to customer on credit which
reflect the business loss or lost of cost opportunity, profitability of firms.
Working Capital Management Vs Profitability: Main objective of the working
capital management are maximising the firm profit with low liquidity risk (smith 1998). Risk
mean risk related to maintaining the liquidity or level of inventory for production or sales,
credit to support the sales (walker 1980).objective to maintain the liquidity is ensuring that
firm has sufficient funds to perfume their all financial obligations and has ability to run its
long-term activities of the firms. Firms try to keep efficient management of working capital
that maximise growth and its value (afza and nazir 2007; deloof 2003; Howorth and westhead
2003).so it mean firms can maximise its value with low risk by using the working capital
drivers and its roles. higher level of risk or return are associated with aggressive working
capital policies and roles while lower risk or return are associated with conservative working
capital policy and roles of firms(Gardner et al 1986).firms profitability has
positive(negative )influence on the working capital management policy and role. Manager
would like to find the optimal level between these two extremes(conservative and
aggressive ).however firm can increased the profit with reduce the investment in current asset
if firm has position to management the sales or future opportunity. According to smith (1980)
best solution of profitability and liquidity risk trade off, manager should need to find out
monthly basis the current position of profit and required borrowing for firm...
2.2.1.1 Cash Management
Cash is more persistence as compared to accrual component of earning. Cash component of
earning and free cash are similar but have difference by its value. Cash flow is very important
part of cash management where the manager of firms must decide how to cover or used the
cash in case of the negative (positive) cash flows. It means cash management is one of
important component of working capital management. Cash management has importance in
concern how firm manage the cash levels for its investment activities and future investment
of the cash, distribution or retaining and its financial or operation policies (cash payment and
collection).efficient and effective cash management can be play the significant role for
achieving the objective of the firms because time is value factored in collection and
disbursement of the cash in business process. Cash has uncontrollable nature of its flows
(krish rangarajan, anil misra 2005 page 118).it is necessary to know that cash flow process
and motive of cash holding or cash stock in business organisation before looking the
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various facets of cash management. Cash inflow is source of earning for firm and idle form of
cash has to be carried at cost and producing the less or no revenue (hrishikes Bhattacharya
2009 page 273).
2.2.1.1.1 Motive for Holding the Cash
Motive for holding the cash are divided into four basic categories, transaction motive,
precautionary motive, speculative motive, compensating motive.
Transaction: It is ordinary process of business organisation to held cash for business
transaction. Petty cash are used in ordinary expenses like daily wages, accessories, petrol,
travelling. Transactional balances demand come from irregular outflow and inflow of
transactions which are not occur simultaneously (krish rangarajan, anil misra 2005 page.120;
Ross, westerfield, jaffe, 1996).cash demands are always related to volume of transaction.
Shortage of cash may create the trouble for operating process of firms. In that case most of
companies have marketable security and liquidity assets for emergency covered. Liquidity
asset help the firm in uncertain condition in business transaction, for example firm may keep
the majored amount of liquidity assets in good time and used it in deficit time. Cost and time
is considerable factored in transactions. It is responsibility of management to use the holding
cash in way of cost effecting or cost benefits.
Precautionary balances are related to near cash asset which will be use in future for
uncertain condition of business transaction. Motive of holding the cash to paying the bills is
uncertainty about the time and amount of sales and collection from account receivable. It is
the buffer stock of liquidity asset for uncertain time period of inflow and outflow cash
transaction in business process. In business organisation funds might maintain in form of the
marketable securities because actual rate of return can be earned on marketable securities as
compared zero rate of return on cash holding. So it is logical that more precautionary balance
are keep in the form of highly valuable marketable security with less holding cash and greater
interest earned. line of the credit can reduce the firms need to keep the cash in hand while
precautionary reserve are depend upon the trade off between interest revenue and cost of
transaction within certain time period.
Speculative balance are related with cash holding to take advantage of unknown suddenly
investment opportunities for making the firm more profitable. Firms can be reduced their cost
of goods sold by using speculative reserve in sudden decline in the price of raw material.
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Compensating balance are related with the firms required the services from banks. It is
requirement of commercial bank from firms to keep the certain amount in bank account for
lending or other services related with the banks. All these reason of holding cash are related
with cost factor of liquidity. therefore manger should need to be consider profitability and
liquidity risk trade off in order to get benefits of cash management .it is necessary to manage
the flow of cash in balance in well advance for firms growth.
2.2.1.1.2 Planning Cash Requirement
Cash budget is process or device from where firm can find the inflow and outflow of the cash
balance and its requirement in project on monthly, a weekly or daily basis. If firm does not
plan its cash budgeting, firm may facing cash deficit or cash surplus. Cash forecast is give
clear vision about current account position where firms can be take the decision for future
surplus investment and solution of cash deficits. It also used to estimate the required balance
in bank account and negotiate for short term finance with banks. It can be used to find the
impact of reduction of debt financing. It can be prepared for detailed of purchase and
payment schedule for acquiring of fixed asset. Cash level below the limited give the penalty
cost (warren h.hausman and Antonio Sanchez-bell 1975). It means negative cash balance or
cash shortage may affect the total cost of the project. In case cash deficit, firm may have
problems for payment to supplier which would be create the problems for production
department due to shortage of the raw materials. Other problems of cash shortage or deficit,
bank might be avoided to lending the money to firm’s under the favourable terms and
conditions. It may force to firms to sell the goods on discount price or may supplier give the
material on their price which is result of firm’s loss or high cost of goods sold. Cash forecast
is device for solution of cash deficit and cash surpluse.type of cash budget is depend upon the
length of period that cash is forecast and the way to cash flow forecast( maness and
zietlow ,2002,scherr1989,satish B.Mathur,2003 page 48).
The Length of the Cash Forecast Period: Length of the cash forecast period
depends upon the nature and condition of the business organisation. It may be yearly or
seasonal, quarterly, monthly, weekly, and daily basis. It is also depend upon size cash flows.
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The Approach Used the Forecast Cash Flow: There are following two approaches
are related with forecast cash flow, (1) receipt and disbursements approach and 2) the
adjusted net income approach. Receipt and disbursement approach can be used to find the
expected amount of cash receipt and paid by firms over certain time period and detail of
movement of the cash transaction.
Hedging For Uncertainties of Cash Level:Hedging is method or strategy of
reducing the risk of loss caused by uncertainties or fluctuation. Firms may have cash deficit
or surplus that is uncertain in term of the amount and Time. Main reason of uncertainty is
variation between cash budgeting and actual factor related with cash level, for example sales,
cost of goods sold, cash transaction. so cash transaction like inflow and outflow are really
important for business success or growth discuses earlier in this chapter.fim can be reduce the
risk involve in uncertainty of cash level by using the hedging strategy. There is different way
of hedging strategy like minimum cash balance in bank account or borrowing facility from
bank through strong relation, investment in market securities etc.
2.2.1.2 Inventory Management
Inventory management is management of the stock in hand in various form of inventories like
raw material, work in process, and finish goods within the firms. Inventory is one-third value
of total assets of firms (ayub, mehar 2000).it include to get optimal level of inventories in
order to regulate the process for products. It has also rules and procedure for inventory
control; it’s in and out, time and requirement of production, decision regarding purchase and
sell as well as how and where to store. Inventory management may lead cost minimization
through different techniques like buffer stock or economic order quantity (ayub mehar
2000).policy of inventory management is directly concern with the sales volume and
profitability of business organisation. It is play important roles efficiently and economically
in whole process from inbound logistics to out bound logistics.
2.2.1.2.1. The Objective of the Inventory Management
Main objective of inventory management is minimizing the cost of goods sold for
profitability and firm growth. But it is not easy task for specification of the closing
inventories. Another objective of inventory management is optimal level of inventory for
desirable result because excess and inadequate may give negative result. how firm can get
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optimal level inventories, first maintain the required closing inventory for production and
sales operation and second manage the investment in inventories with low cost. All various
forms of inventories have their own function within this objective (kaen, 1995).Raw material
inventories are maintained for objective of the smoothness of production. It is totally related
with cost accounting. Buffer stock is technique of inventory holding for production plan
(ayub, mehar 2000).it may be maintained for cost benefits, for example if firm have small
stock and demand for production are high and material will not be available in the market, it
may interrupt the production and firm may have procured the raw material at high cost and
less discount price. Therefore firm has to be maintained the buffer or enough raw materials
for production demand or smoothness with low cost. Maintain the level of raw material
inventory held would not only depend upon purchase and production demand but also depend
upon the relationship between the firm and its supplier. Work in process inventory is also
important part of inventory management, objective of work in process inventory held to
regulate the production process. Firm has to be held the finished goods inventory to meet the
immediate demand of customers. It may stabilize the production and sales process because
firms cannot be meet the immediate demand of customer in the absence of finish goods
inventory that cause the loss of sales or customers. therefore basic objective in holding the
finished goods inventory is regulate the sales process on customer continue demands and
may met the fluctuated demand. Size of the finish goods inventory would depend upon the
co-ordination between the sales and production departments as well as the relationship with
the customers. From the above discussion, we are found three basic objectives for holding the
inventories-the transaction, the precautionary and speculative. Inventory held for these
motive are guards against the risk of unpredictable changes regarding the cost, demand and
supply factors.managment can be play important role to manage the inventory in hand and
knowledge of leads time and its variability, reliable budgeting of the inventory demands and
effective estimates of inventory holding and its ordering, shortage costs(steveson,1982).
2.2.1.2.2 Planning the Inventory Requirement
Planning for inventory requirement is very important in production and sales process. It also
required knowing the inventory acquisition, its usage, quantity on hand and on order as well
as level of safety stock. Managerial judgmental and time series data are common method to
find the inventory requirement for sales and production needs. Budgeting on time series data
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are based on assessment at regular interval over period of time e.g. daily, weekly, monthly
basis etc or are future inventory demand can be estimated from past.
Inventory Optimality Models: Inventory optimality models can be used to find how,
when, what inventory level to order at given time period and its efficient control to make the
inventory cost effective. There are different inventory optimal model for example, economic
order quantity model (EOQ), just in time inventory management (JIT), material requirement
planning (MRP).
Inventory Costing and Valuation: Inventory cost including the production cost or
cost of goods sold and its valuation is based on the inventories moved from store room to
production department and from production or store to customer or consumers. There are
different methods to costing the inventories assume the cost flow for example FIFO, LIFO
and average cost.
Inventory Control: No subject, how ideal an inventory plan be, it cannot often be equal
to the real outcome. For the instance, there should always be requiring the proper mechanism
to check inventories controls. The initial stage in the developing control system is
examination of the objectives of the intended system and formative the vital action in the
operation where control can be most effective. Effective and efficient control system should
give the supply of the required materials for competent and continuous operational process
and give the surety sufficient inventory for on time delivery to customers and also give the
sufficient stock in the periods of the shortage with minimum cost and expected value changes
(Tersin 1998). It also provides the protection from losses. It can be effective to maintain the
motionless, extra and out of date items to smallest amount by the methodically reporting on
manufacturing goods changes which affect the inventory. In order to attain these objectives
organisation can be use option inventory control approach including the quantity limit system
(periodic, continuous optional replacement) money limit systems and time limit systems.
2.2.1.3 Receivable Management
Controlling and monitoring of the account receivable where firms give the more time to
customer for payment is call receivable management. Account receivable is current assets
that continually convert into the cash in result customers payments. According to krish
rangarajan, account receivable normally includes to some extent over 25 % of a firms assets
(krish rangarajan 2005 page 146). Credit sales have positive (negative) effects on business
24
organisation profitability and growth because it may cause of bad debt or increased in the
costs. It is responsibility of the management to manage the stronger mechanism for
controlling the credit sales policies and trade debtors. Credit policy has also influence
positive (negative) on sales volume, cash and account receivable in business organisation. It
is important to evaluate the result of the sale credit policy and development in balance of
account receivable with what was estimated. For the instance to manage the collection of the
account receivable, variation from expected payment patterns has need to be observed.
Therefore it is responsibility of management to take step in case of deviation like change in
Customer characteristics, wrong policy implementations or inaccurate policy forecasts. in
order to manage the receivable, the manager can be evaluate the current situation through
ratio analysis like ratio of receivable to assets, the ratio of credit sales to receivable and
amount of bad debts.
Collection Policy: In order to maintain the sales on credit, management should need to
manage the control policies to verify if any defaulter is declining following schedule in that
case firms will have to make more collection efforts. There is different way for collection of
the overdue receivable from customers like letter, telephone call, personal call, collection
agency, legal action etc.
2.2.2 Managing Working Capital Finance
Finance manager should consider the following factors like cost, liquidity risk, culture, length
of the project, credit policy for managing the working capital finance. Firm need the finance
in term of cash or credit for working capital investment in projects. This capability to create
the cash payments or statement of the credit is a source of financing.
2.2.2.1 Components of Working Capital Financing
Firms can be generating the sources of finance for working capital investment by managing
the current asset and current liabilities internally or externally. Major short term sources of
finance are like, bank loan, commercial paper, trade credit (account payable) and account
receivable.
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Trade Credit Financing: Most of the companies are offering the sales on credit due
competitive pressure in the market from competitors. Trade credit does not depend upon the
strict deposit but on reliance and repute (Fafchamps, 1997).trade credit is part of account
payable and account payable is the short term sources of finance for business organisation. it
originate when firm make the transaction without cash but allow the delayed time before
payment due which may or not may not include discount for earlier payments. Trade credits
are deals in the following three types or form like open account, promissory note and trade
acceptance (van Horne, 1980).open account is most common type of credit where firms
deliver the goods to seller with invoice that specifies the term and condition of the
consignment. Promissory note is another instrument used in credit agreement or contract
where a firm has not confidence on trade debtors due creditworthiness or value of the
consignment with highly risk involve. Trade acceptance is letter of credit (LC) issued by
bank on behalf of trade debtor or importer for international transactions.
Accrual Account : Accrual account is short term sources of financing with free interest
for business organistion.wage and tax are the most common part of accrual account which is
short term non trade obligations. Accrual funds are based on interval of payment to
employee.
Short Term Loan by Bank: It is also short term sources of finance for business
organisation by commercial bank. when bank are accept the loan than firm need to issue the
promissory note with specification of the amount borrowed, term and condition of the loan
like interest rate and repayment schedule etc.
Commercial Paper : Commercial paper is also short term unsecured loan for the mostly
largest and creditworthy companies. These companies are able to use commercial paper
which is simply a short term agreement to pay that is sold in the market for short term debt
security. Commercial paper is letter of credit issue by bank on request of buyer where bank
are responsible for payment on behalf of firms. Some time companies use that paper as short
term finance in case of liquidity problems. Bank gives them credit or money before payment
maturity on discount rate. Firms can also sell that paper to financial firms who get the
payment from other firm on maturity date.
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2.2.2.2 Short Term Loan Financing
Short term and long term financing have positive (negative) effect on exchange between
profitability and liquidity risks (block and Hirt, 1992).profitability is depend upon the interest
cost of short term and long term financing. Higher cost of the interest means lower
profitability of the firm and vice –versa. higher risk is involve in long-term loan as compared
short term debt in the lender point of view that’s way long-term loan has in general higher
interest charges in and less interest charges in short term debts due to risk factor. Borrower
point view short-term loan are more risky due to less availability of short term debt in form
cash and higher fluctuation in interest rate as compared to long-term loan (moyer, Mcguigan,
kretlow, 1998). Generally short term debts are more risky and less expensive and long term
borrowing are more expensive and less risky for borrower. For the instance, management
must get the optimal point between them. According to the fisman (2001) short term credit in
term of supplies credit has positive (negative) correlation with capacity utilization. In case
lack of supplies may affect the inventory level or interruption in the production due to
shortage of the inventory. Trade credit is significant sources of short term finance in
developed financial market like unite states (Peterson and rajan (1997) and fisman argue that
trade credit play the key role in funds of business organisation in developing country where
formal lenders are inadequate.
2.2.2.3 Short Term and Long Term Debt Mix
In the general financing practices, impermanent current assets are financed with short term
debts and permanent current assets are depending upon the long-term loans but financing mix
match-up and the actual investment depend upon management policies towards the risk and
profitability of the firm(brealy and myers,1996 Mcguigan and Kretlow 1998,moyer,van harn
and wachowicz 1998,smith 1980).management can use the aggressive, conservative and
maturity matching policies to financing the working capital investment which depend upon
the interest cost and level of the liquidity risk. Maturity matching policies to working capital
deem maturity composition of the current assets and liabilities. The maturity arrangement of
the liability is made to match exactly to the existence of its current asset, so it means each
asset is equalize with a financing instruments of the same maturity like current assets will
finance with current liabilities and fixed assets or permanent current assets will finance with
Capital equity or long term loans. Maturity matching policies propose that apart from the
current portion of the long term loans, firm would require no short term debts when sales are
27
low.” As the firm goes to the seasonal asset required, it borrows on the short-term and later it
pays off the debts with cash released by the decrease of the current assets when sales are
again low (van Horne and wachowwicz, 1998)”for example seasonal increase in inventories
is temporary investment or current assets, it will be eliminate when it is not required more
that is hedging principle of in maturity matching. Aggressive policies of the working capital
management are using the less costly but more risky short term debt. So aggressive working
capital approach are linked with higher profit and more risky (Gardner et al.1986).this
working capital is more effective because interest on short term debt is less costly and firm
can make the more profits due to high rate of the return. Conservative approach is opposite
the aggressive approach. In conservative approach of working capital management are less
risk and low rate of the returns. Firm is using conservative approach in working capital
investment finance where permanent and temporary asset will be finance with long-term
loans or equity capital. According to soenen (1993) relationship between trade cycle and
working capital vary from industry to industry and its associate the nature and condition of
the business organisation.
2.2.3 Managing the purchase and Payment Operation
The operation parts of the working capital are concern with purchase, sales activities like
cash payment on purchase and cash collection on sales. Firm can be make the level of
working capital more efficient and effective by managing sales and purchase operation where
opportunity to create the potential. Inventory is important part of cost of goods sold. Cost of
material are depend upon the different factor like transportation cost, discount rate and
holding cost etc.firm can be manage the cost of material by purchase budget plan which is
depend upon sources and timing of that purchase. Inventory management policy is base on
requirement of raw material at begin, during the process and end of period. Purchase
management is responsible to declare the procedure of procurements and initiate the purchase
requisition and evaluation of the purchase order and its shipments. Firm can use the policy
like slow down cash disbursements and late payment to supplier to manage the cash cycle
which is depend upon the relationship with its supplier or its credit standing? There is
different method for slow down disbursement or payments like zero base account, payment
through draft, control of disbursement or payments, dividend disbursement etc. control of
disbursement or payment mean managing the excess cash in firm bank accounts which is
effective to controlling the cash out flow and idle cash in the bank account.
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2.2.4 Managing the Sales and Cash Collection Operation
Sales and working capital policy have correlation with each other which may have role to
enhance the profitability of the firms. Working capital management policy deals with sales
are trade credit terms and conditions; finished goods inventory level and cash collection
method. Sales on credit with flexible term and condition may enhance sales volume. Firm
Have not problems to collect the cash in case sale with cash but firm should need
comprehensive policy for credit sales and need skilled management for its cash collection.
Buyer has more time for payment in credit sales while firms have opportunity to increase the
sale but it has its own cost and risk involve like bad debt. The credit policy can be enhancing
the firm’s performance, sales and profitability (Moyer, Mcguigan and Kretlow, 1998).the
credit sales policy including the credit term and condition like term of sales(discount, credit
instrument, and time period),credit history of the buyer, credit analysis and its collection
(keen 1996) .cash term of payment refer the payment before or on delivery time goods sold
and it is used where highly risk involve while credit term is define sales with open account
and credit instruments like promissory note etc.invoices is important instrument in credit sale
which specify the sales term and condition and confirmation of delivery received. there are
different factor like rate of discount, the discount period, and the net date are important in
decision of credit sales.managment has key role to find the effectiveness of these
parameter.managment can be increase the value of the firm by effective and efficient use of
propose change in these parameters. Credit standard or parameter are base on two factor time
of payments and default risk like customer fail to pay their obligation on the time of
payments. Firm can evaluate the credit history of customer through four steps after establish
the credit standard and collection policies. These steps are information regarding the clients
who get the credit and second evaluate the customer worthiness, third decision regarding the
granting the credit or not and fourth policy and control its receivable. Credit analysis is very
important in credit sales. According to Ross, Westerfield and jaffe (1996) credit analysis is
base on traditional approach like buyer financial position, character of the buyer or willing to
pay on time, security in case default, capacity regarding managerial ability refer to payment
of obligation out of operating cash flow etc.cost of credit policy is associate with cost of term
sales and cost credit standards (van Horne and wachowicz (1998).cost of term sales including
the cost in case of changing in term of sales like invoice printing, preparing and printing
manual etc.management can be create the value its of the firms by managing the effective and
efficient cash collection. Firm can manage the expense by speed up the cash collection. There
29
are different ways for speed up cash collection like concentration banking, earlier billing, and
a lock- box system. Earlier billing including the preparation of the invoice and mailing to
Customer within short time period for payment purpose. Concentration bank is use where
firm has one central bank for transaction instead of the small accounts of firms. Lock-box
system referee to minimize the time during which uncollected payment received by firm.
2.2.5 Performance Management of Working Capital levels and Operation
Firms are required the professional for evaluation the working capital levels and its effective
and efficient operation. Manager should need to have the ability to find requirement of
working capital and sources of the finance for those current assets to support the particular
projects. They have to evaluate the actual performance of the working capital with its
expectation. Management can reduce risk and get better their overall performance if they can
recognize the role and determinants of working capital (mian sajid nazir and talat afza 2007).
Manager can be use the different way or approach of measuring and evaluating performance
of the working capital levels and its operation which are related to financial or non financial
measurements.non financial measurement of performance are the customer satisfaction and
quality of the products, market goodwill, credit worthiness etc while financial performance
can be measure by ratio analysis (Rapp port, 1986).management can get the information for
ratio analysis from financial statement like profit & loss account and balance sheet of the
firm. According to talat afza, it is difficult for finance manager to find drivers of working
capital which may create the problems to find the optimum level of working capital.
Financial manager can use the driver or indicator which gives outcome performance of
working capital investments and its financing and operations. The analysis of the financial
statement ratio can be made by comparing the ratios of the same companies of the different
year or ratios of the same year of the different companies.
2.2.5.1 Performance Evaluation of the Working Capital Investments
Management can find the performance of the working capital investment by analysing the
current assets arrangement and working capital investment structure. Most use full asset
structure ratio is inventory to working capital, working capital to total assets and receivable to
working capital. working capital to total asset indicate the percentage of working capital in
total assets while inventory to working capital ratio indicate the percentage of inventory in
30
total current assets.recievable to working capital ratio is express in percentage and investigate
the arrangement of receivable in total assets.
2.2.5.2 Performance Evaluation of Working Capital Finance
Management can assess the firm working capital finance performance by analysing the firm
liquidity position and short-term financing structure. Liquidity position has critical
importance to measure the asset near to cash and degree of certainty where assets are convert
into cash without discount from full value.liqiudity position of the firm is also indicate the
current position of the firm to meet the obligation of the firms. If liquidity position of the firm
weak than firm cannot be meet obligation while excessive liquidity may have negative effects
on firm productivity. Management can use the liquidity ratio as device to analyse the liquidity
Position of the firm and short-term debt financing. Current ratio or acid test ratio is devices
used to find ability of the firm to pay the obligation by converting the current assets into cash.
According to ayub mehar equity finance play important role to find liquidity position of the
firms. Current ratio between current asset and liabilities can indicate that firm facing the high
risk of bankruptcy or firms has opportunity for further investment in long-term asset for firm
growth...management can also evaluate the working capital structure by short term financing
elements like trade credit, bank overdrafts etc in total current obligation.
2.2.5.3 Performance Evaluation of Working Capital Operation
Management can measure the performance of working capital operation by analysing the
role of working capital operation for firm growth and profitability. Management can find
efficiency of working capital activities by the activities ratio like how quick inventories and
Receivable convert into cash and operational activities like sales volume, inventory, credit
terms, assets composition and its used. there are different ratio to evaluate frequently like
working capital turnover, average receivable conversion period, receivable turnover,
inventory turn over and over all assets turnover. Inventory turnover is indicating the
conversion of inventory into cash by sales in term of times. rapidity turn over indicate the
better performance and less tied up capital while low turnover indicate the poor performance
of working capital or sales decline.recievable turnover indicate the trade credit or receivable
convert into cash in term of times. High turnover expressed the positive performance of
collection or hard credit policy while low turnover expressed the flexible credit policy or
sluggish collections. Average receivable collection period indicate collection process in term
31
of time period in days. Less number of day’s more rapidly collection and vice versa.
Inventory conversion period mean number of days required to produce and sell the goods.
Operating period is conversion period for inventory and receivable in term of days and
measures of time scale for production and sales and its collection from receivable.
Performance of working capital management is also base operating period for example
shorter time period indicate the positive or efficient performance and less capital tied up and
vice versa. Due deferred period indicate the payment in term of days and length of time
required for payment on purchase of raw material and expenditures. More number of days for
payment is source of funds and better for firm operating cycle. Cash conversion period
indicate time period between cash received in result of sales and cash payment where firm
use that cash in process the input buying, production until cash received from that output in
result of its sales. Cash conversion period can play important role to manage the working
capital for firm for example shorter conversion period indicate well-organized sales and
purchase operations. Over all working capital indicate the effective and efficient working
capital for sales growth. Financial manager can analysis the profitability of all assets through
ratio.profitablity ratio is associate with profit to sales, cost, capital and financing charge
incurred for example gross profit margin evaluate the margin at factory level before indirect
expenses and operating profit after operating expenses and divide with sales result
profitability of the firms. It is not easy to get positive or accurate result by ratio analysis
because information from system are not same at all time, it vary with passage of time under
Different circumstances. Financial manager can evaluate the performance through cash flow
base valuation. Cash flow statement expressed the flow of cash in operation or its usage to
meet the working capital needs and making required payments on obligations and excess cash
firm derived after that activities. Ratio related with cash flow is cash flow from operation to
average current liabities.cash flow ratio has global norm of .40(Stickney 1996).according
Stickney (1996) management can get the better picture of operating performance from cash
flow base valuation.
2.3. External Working Capital Management
Our main objective to find the answer that does external working capital management also
plays the important role to enhance the firm values. Therefore we will deals the theories that
are useful to developing the research model. These are Rappaport’s (1986) Value Network
Model, Value chain model Michael Porter’s (1985), value chain linkage’s Shank’s and
32
Govindarajan’s (1993).Transaction Costs Model Williamson’s (1985).management can be
use that models or theories for creation of value for shareholder by reducing the transactional
cost internally or externally. Porter’s (1985) is used to explain logic behind the divide the
external working capital management into firms-supplier and firm-customer
relation.accodring to porter’s inbound activities and out bond activities is basis for firm’s
value creations. We can use it to find the close relevancy of inbound and out bound activities
for working capital management level and its operation.
2.3.1. The Value Network Model
Rappaport theory is used to explain the relation between the business objective of value
creation for share holders and its value drivers. The effective and efficient working capital
management must be conduct by a set of principles that can be applied in decision making in
different situations.Rappaport theory is also effective for developing the different financial
approaches and fundamental principles appropriate for the management of working capital.
Variables are the value driver that creates value of the products for customers. cost of capital,
working capital investment, fixed capital investment, income tax rate, operating profit
margin, sales growth rate, value growth rate (value drivers) have essential link with corporate
objectives(creation the value for shareholders).management can be measure achievement of
the business objective by using cash flow and cash discount rate factors. These factors reflect
the outcome of firm’s activities and cost of financing. Management has to consider three
categories of decision like operating decision, investment decision and financing decision for
creation of firm values. operation including the primary activities like purchase of raw
material, production process, sales of finished goods and its supporting activities like
promotion,distribution,product mix, advertisement and pricing. The implication of the
operating decision depends upon their effects on sales growth and profit margin net of
tax.invesment decision including the financial management decision on capital tied-up in
working capital and fixed capital. Decision related to financing are sources of finance use
which is depend on costs of components.
33
Figure 2.2 shareholder value network model
Sources: Based on Rappaport(1986, p.77)
2.3.2 Value Chain and Working Capital Management
Effective and efficient management can be maintain the competitive advantage by using the
the porter’s value chain strategy. Aim of the value chain plan is to increase the economical
advantage through cost reduction, product differentiation, lower operation cost, strong co-
ordination between organisations in value chain, better performance or reduce uncertainty.
Company success depends upon the effective and efficient management of internal and
external firm activities (porter’s 1985).
34
Firm objective
Valuation components
Value
Drivers
Management
Decisions
Shareholder value
Cash flow from operations Discount rate
Sales growth rate and duration
Operating profit margin and income tax rate
Level of working and fixed capital investment
Cost of debt and equity capital finance
Operating decisions
Investment decisions
Finance decisions
Table 2-1 Link between Value Chain and Working Capital
Source: based on Rappaport (1986), p.86
2.3.3 Transaction Cost and Working Capital
Firm can create the value by managing the transaction cost of business activities. Implication
of transaction cost can play the important role for managing the working capital operation
and its level because transaction is basic unit of the financial activity. Therefore firm can
compete the optimal level by minimising the both production and transaction costs.
Transaction mean exchange and transferred of the goods and services within (hierarchy) and
outside of the firms (market).cost of products is total of cost of production and transaction
costs (Milgrom and Roberts 1992).production cost including the cost of material, labour,
capital and transaction cost are associated with control of the transaction like price
negotiating process cost, building up the faith, drawing-up the contract, monitoring the
quality etc.for instance, management have to manage the value chain approach in order to
Reduce the transaction cost of the specific assets. Specific transaction assets mean transaction
of the particular product that is specified by parties which has not alternative of use without a
significant reduction in value of that particular asset and parties are depended or locked into
each other in case specified asset transaction(Williamson 1985).the objective of the working
35
Primary Activity
Inbound Development Production operation outbound logistics Marketing & Selling after Sales Services
Working Capital Operation
Purchase Production Sales Sales sales
Cost of Production and Operating Expenses Related Working Capital Activity
Material handling processing, assembling material handling sales force, advert installation, training
Freight in admin testing, packaging warehousing freight promotion, admin maintained, return
Working Capital Levels
Raw material work in process Finished Goods Account Receivable parts inventory
Inventory inventory inventory services receivable
capital management within the significant circumstances is the asset specificity created due to
dedicating assets to a deal, which refers to the nature of investment that parties must make
with that asset in mind. It is highly risky transaction because producer may looses the value if
transaction is discontinued after committing to an investment required to produce only a
specific products on demand of the customers. So it is very important to make the transaction
cost effective for creation of the value of the firm or competitiveness. Firm can be made the
transaction economical by rational sales and purchase decision. Purchases are source of
specific asset relations with firm and supplier’s. Purchase and sales from same parties create
the level of confidence between the firm and parties and it will make process smoothly or
more effective and efficient cost wise for example routine and repetitive sales of goods build
up connection and trust between firm and its supplier. When firm will confident its customer
credit history or worthiness result it will offer goods to customers with discount rate and
flexible credit terms. It means repeat sales and purchase is way to reduce transaction costs of
firm and customers. If trust or agreement is going to be break off there will be definite
switching costs incurred by firm and its supplier’s or buyer’s. There are three phases where
they got transaction cost under market systems that are contact, contract, and control
(Williamson 1985, Milgrom and Robert 1992).
Table 2-2 Transaction Activities and Related Costs .
Transaction phase Activities of transaction Category of transaction costs
Contact Finding market and searching
for a partner, identifying the
potential partner, advertising
in media, attending trade
fairs and exhibitions.
Ex-ante costs of the contract
(searching costs)
Contract Negotiating pricing, setting
the terms of trade, writing
and evaluating a proposal,
credit investigation and
discussion, setting up trust
governance structure.
Cost of contract (costs of
negotiating drafting and
signing contract).
Execution
(control)
Bonding secure commitment
monitoring quality, building-
Ex-post costs of control (cost
safe guarding agreements)
36
up trust and customer
confidence, collection
efforts, taking legal measures
Sources: based on Williamson, 1985.knorringa and Knox 1992.
Contact costs refer the cost to find the new customer or partner because it is necessary before
arrangement of the contracts. This phase help the parties to decide the term and condition like
why, how and what their joint position (Knorringa and Knox, 1992).according to Milgrom
and Robert 1992, cost of contact including the cost of buyer search or needs of buyer,
marketing cost of supplier, market demand, or it is associate with co-ordination of Parties
before transaction (ex-ante costs of the contact).cost of the contract refer to the cost
associated with settlement of transactions or agreements. These costs are cost of negotiating
the terms of price, quality, delivery and payments by purchase or market personal department
and any payment to lawyer for settlements. According to nooteboom,1999 the control or
execution cost refer to cost of monitoring transaction, regulation of agreements, enforcement
and the appliance of transactions, proceedings and possible loss of the particular investments,
performance measurements, judgements conformance to the agreement, identifying and
solving any disagreement and hostages if the relation break(ex-post cost).
2.3.3.1 Working Capital Operation from Managerial Control Perspective
van der meer –kooistra and vosselman(2000) discuses the managerial control pattern to
working capital operation of purchasing material and selling products after creation of the
asset specificity and trust from frequently transaction with same partner within linkage. The
cooperate-firm working capital operation has transaction cost which can be minimised if
main contingency factors are managed within the right managerial control pattern.managment
must be able to know the contingency factors that can be take place in an inter-firm
relationship to minimise the cost of transaction. There is different control pattern effect the
transaction cost and inter-firm relationships like market base control pattern, bureaucracy
based management control pattern, trust based control pattern. Requirement of working
capital and transaction cost on working capital depend upon the managerial control pattern
for example trust based control pattern is result of the relational development of buyer and
supplier’s. In case trust based control pattern, transaction is based with flexible term and
condition on credit base and buyers do not need to prepared necessary documents for
business transaction or contract phase. Buyers spend less time and money to follow the
37
transaction. so it mean trust base control pattern has less costly as compared market base
control pattern.inter-firm need less working capital operation in case of trust based business
transaction.
2.3.3.2 Working Capital Levels from a Managerial Control Perspective
Management can be reduced the cost by appropriate management control patterns. Working
capital level is high in market based control pattern because transaction based on cash not
credit and duration of the transaction is very short while asset specificity is low result more
liquidity will be required for market based transaction. so in case of market based control
pattern of the buyer’s and supplier interaction, level of account receivable is low and
investment in cash or inventory for transaction,precaution,speculation purpose will be quite
high therefore transaction cost is high due to high investment in working capital levels.
another control pattern is bureaucracy based control patter need medium working capital
levels as compared to market based control pattern because of individual contact, detailed
contract and strict control inter-firm transaction relevant. Relationship of the parties is based
on performance activities, output and good reputation with each other which can be measured
by agreed upon standard and rules in the contracts. Inventory level is low due to less number
Parties involve in transaction and receivable and payable level may be increase while
financing working capital investments with free interest may also increases. Buyer may get
credit with legal assurance like letter of credit or promissory note from supplier which can
affect cost of transactions. In case of trust based control, parties do not need to show the
performance activities, output and good reputation for specified assets transaction because
they confidence each other regarding their performance and level of professional
competency, contractual seriousness etc .under trust based control pattern inter-firm do not
need the working capital levels. Transaction is based on credit not on cash while receivable is
very high but inventory and cash transaction are low. Management of trust base control
pattern are willing to share any accommodating possible risk that way investment in working
capital levels is minimum and so are the related costs.
38
Table 2-3 Managerial Control Pattern and Working Capital
Key:H(high),L(low),M(medium),M-H(medium to high),M-L(medium to low)
2.3.4 Value Measurement
According to steward 1999, accounting earning, economic value added and net cash flow are
common term used for value in business organisation. The objective of the business
organisation and its management is creation of the value for share holders. We can define
these three terms like accounting earning mean income earning deem as value created and
expenses incurred as offsetting the value created in accrual accounting while net profit is
difference between income and expenditure incurred within specific time period.net profit is
considered as a final measure of the value creation in accrual accounting or accounting
approach. Under the economic value added approach, value can be measure by operating
profit minus cost of all capitals employed to produce those earning but time and risk are
involve in process of creating the value in this approach. The net cash flow approach measure
the value by difference between inflow and outflow of the cash. Inflow is considered where
Cash collect from goods sold or services render and outflow is considered where the cash
paid for goods bought or services render while net cash is considered as final measure of
value creation or damaged. Economic added value approach give accurate measurement of
the value but it is difficult to get result in developing condition or in process by using the
39
Working capital market based bureaucratic based trust based
Levels
Cash H M-H L
Receivable L M-L H
Inventories H M-H L
Payable L M-L H
Bank Loan L M-L H
Operation
Trust L M-L H
Repetitions L M-L H
economic added value approach. Therefore I would like consider accounting earning as
measurable device in analysis of my study because information about the accounting earning
is easily available from the firm and I will try to find role of working capital as net cash flow
for value creation by analysis cash position of the firm from cash statement at least three
consecutive years.
2.6 conclusions
Business is created to produce the profits or values for the owners in the long-term.so values
are sum-total of short-term value. Working capital management can play the role to short-
term value creation. Main objective of working capital management to managing the short-
term level of investment, operation and financing.controling the working capital refer to
managing the investment in inventories, cash, receivable and its financing sources like bank
loan and trade credit etc.similarly controlling cash levels refer to controlling the costs and the
physical safety cash collection and revenue because it can assist to create value of firm. Firm
needs complete mechanism for cash management because it is blood of business
organisation. Managing the inventory have same role to create the value of firm.raw material
inventory is useful to separate the purchase and production.however, it can assist to hedge
against supply shortage and useful to taking benefit of price discount. Managing the WIP
inventory can assist to make the production process smoother. Similarly managing finished
goods inventory can help to provide prompt sales and services to the customers. Firm needs
to plan the mechanism for making the inventory management efficient and effective because
it is very important to controlling the carrying and ordering cost of inventory as well as its
safety. Managing the receivable refer to the credit sales policy of the firm. In case of account
receivable, firm need control mechanism for credit sales and its collection efforts. Managing
the working capital is also includes short-term sources of financing like bank loan (overdraft,
short-term loan) and account payable (credit sales).account payable are also related with
provision of discount in that case firm should considered the benefits of early payments and
comparison with costs related financing the payments. Firm needs compared bank service
charges and interest on short-term loan and bank overdraft with the value generated by their
financing. Profitability and liquidity management approach to the picture when firm has
challenge with the problem of using short-term sources of financing and investing in working
capital levels. Profitability and liquidity management needs improvement because they have
offsetting profit-risk effects. The mixture of profitability and liquidity based on management
40
risk attitude, depend upon which it can used maturity matching, conservative or aggressive
conclude that business organization should evaluate the efficiency and effectiveness of
working capital management levels and its operations. For the instance, it can use non
financial and financial criteria. The financial criteria refer to cash flow analysis and financial
ratio which can be used to measure how working capital management operations
(profitability and activity) and levels (liquidity and investment composition) are efficient and
effective.non financial criteria refer to the customer satisfaction and quality of
product.however,both are very important for firm value creation’s conclude that the
managing the working capital refer to management ability to use firm working capital
operation and levels which can helpful to minimise the cost and maximising the revenue for
firm.
41
Chapter 3
Methodology
3.1. Introduction
Our basic objective in this chapter is about the strategy and understanding how are we design
the study model because design and approach of research is important factor for planning,
validation and practical frame work of the research process. The purpose is to assess the role
of working capital management to enhance the value of firm or its shareholder and prediction
of bankruptcy, risk factored involve during process in business organisation. The best way to
give the answer of question is primary and secondary study in particular area or subject.
Primary and secondary data is basic for validity and quality of research plan. This section will
discuss the motive and reason about the selection of the ground theory. This chapter is
defining the qualitative and quantitative methods for research .Method or methods are depend
upon the nature of research question (ghauri, gronhaug and kristianslund 1995).This section
will also discuss about how the questionnaire create and present at the time of meeting and
what are boundaries and hurdles set up to collect the data. Research methodology is discus
the plan as well as the actions and approaches used in the experimental data collection and
analysis. Research can be mainly classified in two forms inductive or descriptive and
exploratory or deductive for research process. exploratory research deals the planning, design
as well as selection of subject and it will help to collect the data of particular subject where
problems has not been clearly specified or not define at initial stage(saunder et al,2003).
There are following three way of set up or carry out an exploratory research,
Doing focus group interview
Discussion to expert in the subject
Explore of literature.
Another category of research is descriptive research or statistical research. Statistical research
deals with data description and recognize the motive and grounds of something that is
happening by the answer the question like how, why, when, what, who. For the instance, it is
essential to have plain vision of phenomena or focus the topic on which study is going to
made and linked data are need to be collected before conducting the descriptive research.
42
3.2 Conceptual Frame Work
Conceptual frame work covers the issue which are needed to design the information retrieval
of our research. conceptual frame work can be made by graphically or in narrative form and it
covers the main feature(variable,factors,dimension,aspects) of a study and their supposed
relationships(robinson,1993).according to Robinson developing conceptual frame work
facilitates to be explicit about what the researcher think s/he doing. Our conceptual model
takes into account the issue internal and external working capital management in spinning
sector.3.1 gives the overall affiliation between working capital levels and operations and 3.2
present additional factors that will be discussed under internal and external working capital
management.
3.2.1 Internal Working Capital Management-Operation, Levels and Cash Flow
Internal working capital management engage the corresponding management of a firm
working capital operation and its levels within firm. We are using rapparot’s (1986) value
network as central model for our general conceptual frame work. Basic objective of a
shareholder value networks is to demonstrate the creation of value by managing operation
and levels. shareholder value to be produced, management decision have to focus on three
key decision categories –operating decision, investment decision, and financing decision (see
figure 3.1).operation in firm is purchase material, production process and sales and
supporting activities to run the operation are distribution, product mix, price, promotion,
advertising of products and decision regarding all these activities with respect to working
capital management is a operating decision. Firm can be create the value, if management has
to design the sales and purchase policies and it implement carefully so that cash generate
from sales is enough to finance needed or at least to fill the gap between the short –term
investment needed and financing available. The purchase policy affect not only the level of
inventory in material but also the level of cash and source of finance for inventory are trade
credit and bank loan while sale policies effect level of inventory in finished goods ,
receivable and level of cash as well. The appropriate management of these intra-firm working
capital operations and levels have to enhance a firm cash flow and its overall potential of
value creation.
43
Figure: 3-1, working capital management
3.2.2 External Working Capital Management
External and internal working capital management can play important role for value creation.
so internal policies on working capital operation and levels might be co-ordinated with that
trade parties like supplier and buyer in order to achieve the objective value creation of
firm.co-operation between firm and its buyer, suppliers can reduce the cost of transaction and
carrying costs of working capital levels,cash,inventories and payable, receivable. It means
inter-firm co-operation can create a tripartite value network with firm and its concern parties.
if firm purchase operation and suppliers sale operation have to be co-ordinated than it will
affect positive(negative) the transaction cost and carrying cost of supplier inventory of
44
J.K Spinning Mills ltd
Performance evaluation
Purchase operation
Sales operation
Working capital investment
w.capital finance
Operating decisions
Investment decision
Financing decisions
operations levels
Management decisions
suppliers customers
finished goods and firm inventory of materials. Optimum amount of the cash are needed in
result of inter-firm transaction and it will also in result of minimum level of receivables and
finished goods for suppliers. Similarly firm sale operation and customer purchase operation
can also co-ordinate so that transaction and carrying cost are minimised. The inter-relation
between porter’s value chain and rappaport’s value network is used as key aim of orientation
in our study. Figure 3.2 shows a hypothetical addition to Rappaport’s model by realigning the
organization decisions into operations, levels, and performance as in figure 3.1.the external
connection with provider and clients can then be associated to the distinction, which porter
builds between inbound and outbound activities, an outline of which is presented in following
section (table 3-1).
Table 3-1: Linking the Value Chain and Value Network
internal working capital management External
working
capital
management
Primary Activities Operation Levels External Linkages
In Bound Activities Purchase Investment and finance Supplier co-
operation on
Receiving,
controlling,
distribution,
inventory control
Investment in materials
inventory and financing
with trade credits like
bank loan, trade credits
etc.
Receiving, storing,
distribution,
inventory control
Out Bound Activities Sales Investment Customer
Co-operation
Finished goods,
warehousing,
finished goods
handling, delivery
vehicle operation,
order processing
Investment in finished
goods inventory and
financing with account
receivable, trade credit.
Finished goods,
warehousing,
finished goods
handling, delivery
vehicle operation
order processing.
45
According to table 3-1 porter’s inbound activities useful to working capital management give
an insight into organization strategies on purchase operations and levels of investment in
materials inventory as well as levels of financing in trade credits. The significant subject to be
considered in the inbound purchase activities are how the business organisation deal
internally and externally with concerning to receiving, storing, distributing, to production and
inventory control. The effectiveness in controlling inbound activities as well resolve the rate
of the investment in material inventory and cost of financing with trade credits and bank loan
while out bound activities give an insight into organization strategies on sale process, stages
of investment in finished goods inventory and levels of financing working capital and
effectiveness in managing the out bound and associated movements resolves the income and
cost of goods sold and cost of investment in finished goods inventory and relevant financing
cost..Similarly significant subjects considered in the outbound sales activities are how
organisation deals internally and externally with concern to F.Goods warehousing, F.Goods
handling, delivery vehicle operation and order processing.
46
Figure 3-2 working capital management network
External linkage external linkages
Inbound and other outbound and other
Primary activities p primary activities
47
Working capital management
J.K Spinning Mills ltd
supplier customerFirm ownership
Operations
Levels
Performance evaluation
purchases sales
materials Finished goods
payables receivables
cash
Financial statements
Internal evaluation
sales
Finished goods
receivables
External supplier evaluation
External customer evaluation
purchases
materials
payables
3.2.3 Working Capital Performance assessment
The measurement is made to verify if the firm internal and external management of working
capital operations and levels are creating value to the owners. We are discussing the inner
looking and outer looking performance measurement and evaluation system. Inside
organisation has to assess the performance of internal decision on working capital operations
and levels. The inner appearing the performance measurement and evaluation systems are
depend on comparing the best likely inside practices (forecast and budgets) with result. The
inner appearing the performance measurement and evaluation can be achieved by the
accounting based performance measurement and evaluation methods like the analysis of ratio
and cash flow, value and work. For the instance, we have used two way of internal
performance evaluation. We asked the spinning mill manager if they apply above internal
performance measurements to evaluate decision. Second, we considered the firm internal
performance by computing financial performance display from the information we got from
the financial statements. Specially, we verify for working capital investment form, liquidity
situation as well as efficiency of working capital activity and productivity. This is important
for firm to assess the externally customers and creditor’s view, and thus appraise and plan.
Such kind of performance measurement and evaluation can also be based on other external
sources of information such as customer and supplier satisfaction .we encompass the studied
the external performance of spinning firm by asking the both firm under research and some
its related associations.
48
Information Collection procedure and assortmentMethodology choice
LimitationsData Analysis method and Selection
Ground Theory
Abstract
Study plan
3.3. Case study design and Approach
There are following seven steps to achieve research objective (Collis and hussy 2003).
Ref: Collis and Hussey (2003)
Importance of Theory in case study research is based extend to which theory explains the
practice. In this research, we have studied the role of working capital management to create
the value of selected firms or its shareholder with minimum risk (j.ke spinning mills pvt
ltd).internal working capital management can be play the key role to enhance the value of
firms and external working capital management is sources to build the relationship and
business to business co-operation.no doubt, working capital is important in current
challenging business environment where price war is common issue for everyone in
49
competitive globe market. In this study source of primary data is questionnaire and interviews
and secondary data source is analysis of company financial report and documents. Qualitative
and quantitative method deals to data collection analyse and move towards the result. In the
end our case study includes the conclusion, appraisal and suggestion or recommendation and
executive summery.
3.3.1 Qualitative Data Analysis
Qualitative data refer to purpose, circumstances and spirit of people (miles and huberman
1994).it is expressed in term of observation, interview and documents. Qualitative data
analysis is procedure where collecting, analysing and interpreting data prepare and construct
new hypothesis by observing what people perform and say (ormrod 2001).the skills,
knowledge and understanding, perceptive of the interview or group of moderator are very
important in qualitative research for excellent finding. Qualitative data research is consisting
of three parallel flows of activities like data reduction, data demonstrate and data conclusion
drawing or verification (miles and huberman’s 1994).data reduction including focusing, the
process of selecting, simplifying, abstracting etc. in data display systematizing, compressing,
and assembling information to allow the final drawing. Final drawing is settling on what the
data display means and verification is testing for externally and internally validity. All
activities mainly structure the phases of our research. According to Bouma and Atkinson
(1995) research process is basis on three phases. Phase 1 is important phase where researcher
requires clarifying the issue to be study and formulate the research question, select the
research method, plan, mechanism evaluate for variables, unit table for analyses, selecting the
items for analysis. For example working capital management techniques and linked theories
(shareholder value creation and value chain linkages, transaction cost economics) are re-
evaluating and used to integrate theory with the practice and sample business firm (j.k
spinning mills pvt ltd) is selected. there are four important parts involve in research design,
research question, units of analysis, the sense relating the information to the prepositions and
the criteria for interpreting the result. Study question in research is does working capital
management play the important role in success of spinning firm in Pakistan. We will focus on
looking at internal and external working capital management in the context of firm success,
specifically case of spinning sector. Second phase is discussing the Conceptual frame work or
ground theory has developed by help of literature review and it has given us of early sign of
all kinds of facts, which have to be seemed for in case study. We have taken practical case of
50
firm in yarn manufacturing sector and assess the working capital management operation and
levels by using both primary and secondary data in this research methodology. Basic
objective of research to analyse the firm policy and practices related working capital
management’s for firm growth. We can get result through data processing or analysing. Third
phase is process or analyses of working capital management operation and levels in spinning
mill (j.k spinning mill pvt ltd) by applying the related techniques of working capital
management and supporting theories recognized as a result of the literature review and
experimental result. These phases are directly related with quantitative research which is
discuses in next step.
3.3.2 Quantitative Research:
Quantitative research is study describing the implement of intended questions where the
response and answer choices include be predetermined and a big figure of respondents are
concerned. Quantitative research is ambitious by the researchers and observers with a
condition to measure the information and the key function of quantity research is to create the
general idea on the groundwork. This study is greatly more objective, depends upon the
statistics and objective solid data. Inside quantitative research sample extent for an
assessment is measured by some numerical formulas to discover regarding the size of the
sample which is essential from a specified people in order to attain result among satisfactory
level of correctness. According Holmes and solvang, 1991, Quantitative research involves the
formation of a literature review; hypothesis and a quantitative data analyses and findings are
believed to be countable and reasonable in statistics and numbers. In such kind of study
researchers try to find sample size and collect data from surveys and investigational and
collect data predetermined mechanism that comply numerical data. According to leedy and
ormrod 2001“The result of quantitative research can be analytical, descriptive and confirming
and it involves data collection that is mostly numeric and researchers like to use statistical
models as methodology of data analysis”.
3.3.3 Data Collection
Questionnaire is important mechanism of data collection for maximum outcome (sekaran
1992).all questionnaire have specific characteristic and aspect which are very significant to
ask according the effective working capital management and its impact at the performance of
the organisation. Source of evidence for case study are documentary information, interview,
51
observation, archival record etc. Questionnaires are reformulating written set of question
where researchers identify accurately what is required, and how to evaluate the variable of
the interest while interview are personal contact question place to key respondent which can
be prepared or formless, open ended or determined and may be carry out face to face or by
telephone. Archival record is another source of data collection which includes financial
statement of firm, company record like financial plan,charts,maps,list of name, customer’s
and supplier’s service records, survey data previously collected about case, personal diary,
calendar etc.another sources of data collection are documentary information from
organisation and its include memoranda,articles,letters,agenda,administrative documents etc
and direct observation where researcher conducts the research on case by direct physical
observation of the subjects of the case. in questionnaire, question are design to understand the
internal and external working capital management operation, levels of investment and all
variable linked with working capital management. Some question are design to understand
importance of working capital in success of organisation and steps been taken by the
organisation for managing the working capital in current complex business environments. We
used the questionnaires for data collection by in-depth structure interview with financial
manager. It is very important that finance manager must have knowledge and understanding
about working capital and how to manage it effectively to get maximum benefits from it.
finance manager is main body in business organisation who is responsible for manage the
finance sector such as investment policy on the level of cash ,inventory and receivable and
financing policy with management of costs of financing while general manger is responsible
to manage the general issue of business organisation such as firm-supplier co-operation on
primary activities and firm-customer co-operation on primary activities and commercial
manager is responsible to deals policies on purchases and supplier contact,contract,control or
policies on sales and customers contact, contract, and control. For the instance, qaestionaire
would be presented in such way that manager will be able to answer them after proper
analysis of the company and its performance. “Details of question for each factor in the
theoretical framework are prepared. Mind is engaged so that the whole applicable question
are asked, allowing for flexibility in order to allow the usual flow of ideas proceedings. These
questions in the prearranged interviews and questionnaires are prepared. A guide trial is
carrying out in order to purify the questionnaires and interviews before approaching the
respondents and distributing questionnaires to them. We also used the audit financial
statement of 2years (2008-2010) from archival records of the firm to collect secondary data
52
for our research. J.K SPINNING MILL LTD is one of largest firm based in provision of
Punjab Pakistan. The company is listed by shares incorporated in Pakistan under company
ordinance, 1984 January 07, 1987.it is quoted at Karachi and Lahore stock exchanges in
Pakistan. The principle activity of company is to manufacturing and sales of yarn. Registered
office of company is located at 3-1 people’s colony Faisalabad. Mills has number sales point
and manufacture units in area of Faisalabad and in around the world. They are exporter and
local seller of different kind of yarns. This is complete j.k spinning mill profile. J.k spinning
mills profile indicates the down fall in business I want to analyse that what are main factors
involve in profitability decline and how can they improve their system to enhance the value
of firm. So questionnaires will be design to know that, does working capital management
play role to enhance the value of firm. In the interview, I try get idea that what kind of issue
or problems manager are facing to manage the proper working capital and its components and
questionnaire will be design to know that what kind of technique they are using to control the
inventory and its cost factor, cash management, receivable management. What manager keep
in their mind when they are involving in make the decision about investments in projects and
its sources of finance. Another important question is how manager can create value for firm
and what are manager thinking about the importance of working capital management in
success of firm or enhance the value of firm. Questionnaire will be design to know
conceptual frame of working capital management in j.k spinning mills ltd and what are
performance measures, they are using to make the system success.
3.3.4 Data analyses
Data analyses is generally concern with comparison of the academic background(our
conceptual frame work) and experimental finding that will be composed from the firm
manager through questionnaire and interviews. Therefore data analyses are also most
important part of our research. According to Glaser and Strauss, 1967, qualitative data can be
analyses by the many methods but most suitable way is constant comparison analyses. “these
rounds of data analyses led to theoretical sampling, which involves the sampling of additional
people, groups, events, incidents, activities, documents, and the like, in order to develop
emergent themes, to assess the adequacy, relevance, and meaningfulness of themes, to refine
ideas, and to identify conceptual boundaries” Leech, Onwuegbzuie and Anthony (2007, 557-
584 ).
3.4 Reliability and Validity
53
The credibility of the research finding can be established by the two ways or measurement,
first reliability and second validity. These are normally show quality and efficiency of
research (saunder at el; 2003).reliability discuses about the purpose of the data and its
sources. According thuren, 1991, research has high validity if it should be focus to the main
point while reliability of the measure points to the constancy and regularity with which the
apparatus is measuring the theory. Constancy points to the capability of the measure to stay
alike more time regardless of uncontrollable conditions (sekaran 1992).”The reliability of a
case study refers to the extent to which repeatedly applying the same data collection
procedures lead to the same finding” (yin 1994).there must be transparent data base for
reliability of case study which can be review other investigators as evidence and interview
must be point to issue which are discussed in the literature review. It is depend upon the
research which kind of data base needs while it may include documents of research firm,
questionnaire data record in data summery sheets, interview records etc.reseacher can be
check the reliability by multiple sources of evidence. For the instance, the questionnaire is
collected and implicates to data summery sheets for purpose in the research testing and audit
financial statement are got and reviewed for investigation of firm financial performance. We
found that manager of firm have more knowledge regarding firm problems and research
subject. We can get reliable information from the managers of the research firm. We are
design the interview question and conduct with the manager and after that evaluate the
manager answer to question in the questionnaire. I checked that manager of firm has good
command of both language and technical term that I have used during the interview or
research finding. There are steps in validity like internal or external validity, content validity,
construct validity, generalisation etc.content validity mean coverage of the questionnaire and
responses to questions in the interviews whether they are into same direction while
constructive validity mean how extent findings obtained from use of the conceptual frame
work around which tests are designed. Construct validity refers to set up correct operational
testing and measurement whether the information gathering devices evaluate the factors
intended to be evaluate in the case study. We can also construct validity by compared the
relations between empirical findings of research with supporting theories.
Chapter 4
54
Analysis and Finding
4.1 Introduction
In this chaper, our basic objective is the comparison of conceptual background and empirical
results from j.k mills ltd managers by questionnaires and interview. The focus unit of our
case study is j.k spinning mills ltd and its internal and external working capital
management’s. we will also identify or discusses specific methods of primary and secondary
data collection approach and way of data analysis’ collect the information on the manager
opinions on the working capital management’s was asked the manager what kind of approach
they using in managing the working levels of investment and financing as well as operations
of procurement and selling of goods in the markets. Manager were asked that how they apply
the effective and efficient working capital approach. In the interview and proper observation
show the existence of looks at whether are policies, system and procedure completely or
clearly applied by the j.k mills ltd with regard to the working capital operation and levels in
business organisation and it will help to create the value of firm. Major issue is that managers
should have required managerial empowerment to manage the working capital operation and
levels. Managerial empower refers that manager power or authority regarding decision of
policies, system and procedure of working capital operation and its level.
4.2 Finding and Analysis
Questionnaire is design for j.k spinning mills ltd managers. We found that j.k spinning mills
ltd is well aware the importance of working capital management in current dynamic business
environment by interview, proper observation and response of the questionnaire. the manager
of the j.k spinning mills ltd well understand and believed that effective and efficient working
capital can play important role to enhance the value of firm and give them competitive edge
in the globe markets. According j.k spinning mills manager, it can be playing the role to
manage the liquidity and bankruptcy of the firm. According to the manager price of product
is main issue in current uncertain environment. China and India offer the products in cheap
price as compared to Pakistan. Therefore Pakistan is struggling in the price war in globe
market. But efficient and effective working capital management can play the role to manage
the cost and price of the products. According the manager good working capital management
enable the business organisation to make linkage with their partners or customers by the
effective and efficient transaction. According to procurement manager, it can play the role to
55
control the inventory management and make the production smoothly .after the interview and
response of the questionnaire I found that j.k spinning mills ltd is not running any proper
system for working capital management and no proper planning for investment decision.
Accounting system in j.k spinning mills ltd is base on accrual accounting system. Most of
decision is taken by senior board of director or unskilled owners.j.k spinning mills ltd has
purchase or commercial department but they do not have skilled management (academic
background) for logistic activities and procurement. According to manager, their jobs are
mostly related paper work and provide the information to owner or advice to owner regarding
finance matters but decision is based on the end of owners. Managerial empowerment can be
make the system success and create the value of the firm.
4.2.1 Interview Finding
The interview questions are planned to demonstrate the questionnaire. Roughly 10 semi-
structured interviews with finance manager has been conduct in concern firm (spinning mills
ltd).the finding and response of interviews are in secret disclose which are certain and
guaranteed. Basic objective of interview questionnaire required the only manager opinion on
relevant subject. Primary and secondary data evidence is attached in appendix. Questionnaire
are design to asked the manager of j.k spinning mills ltd that what working capital
management approach they use to make system success and how they are use the approach
and what kind problems the face for application of appropriate management approach and
they solve their problems.anwer of the question are directly and indirectly identify that
although j.k spinning mills ltd understands the importance of effective and efficient working
capital management but they do not have proper apparatus or vision for policies, procedure
and system for working capital management operations and its level of investment. Interview
finding are that,Business organisation has knowledge and understanding regarding working
capital management and its significance for business performance.Most of spinning mills like
j.k mills ltd not taking any steps and measure to create the system for appropriate working
capital management’s.
4.2.2 Questionnaire Data
56
All questions in the questionnaire are given us a number of alternatives answers and finish up
others .I measured the answers on basis of five points likert scales (likert and Murphy
1967).these five point indicate the positive and negative answers of managers like 5 indicate
very positive, 4 indicate positive, 3 mean average and 2 mean negative and 1 very negative’s
got all the responses by telephone calls in j.k spinning mills with finance manager. There are
number of question answer in questionnaire as primary data of research study.
1. What do you think working capital role in success of an organization?
Working capital management play an important role in the success of an organization if an
organization fails to mange working capital appropriately it may face many problems in term
of liquidity and solvency. If working Capital of a company becomes negative the
organization feels many problems in managing its creditors and if payments are not made to
supplier with in time they may refuse to supply goods to the company hence it may lead to
the stoppage of a company. Hence working capital management plays an important role in
the success of an organization.
2. How your organizations get benefits from effective and efficient working capital
management?
If the working capital of a company is properly managed it means company is in a strong
position. It has sufficient amount of working capital to fulfil its current needs. It might easily
negotiate with suppliers and may take discounts from them. Further it has enough amounts of
funds available for the payment of its day to day expenditures (operating expenses) the
company will be running efficiently and successfully it will build up a confidence with
buyers, suppliers and employees. Everybody will feel pleasure to make business with a
company that is effectively managing its working capital.
3. Do you think working capital management is important for good performance of a
company?
As stated above to keep the company in fluent position the working capital of a company
needs to be managed appropriately. An effective and good working capital management helps
an organization in its smooth running of day to day matters. As the company has enough
working capital in hand so there is no problem with the company to tackle with buyers,
suppliers and expense creditors.
57
4. What is investment policy regarding inventory, cash, and receivable?
Company has properly devised investment policy regarding inventory, debtors and cash.
Companies usually determines its inventory turnover ratios and try to maintain it within a
reasonable limits it always tries to have minimum required investment in inventory as no
organization could afford its funds to be sunk in inventory and as it will have to faces
problem in maintenance of its solvency. Similarly company has devised its policy regarding
investment in debtors and had made efficient debtor management policies. It tries to maintain
its inventory turnover ratio to 18 times which mean that debtors are recovered within 20 days
because if there is increase in debtor turnover by 10 days a huge amount of funds remain
invested in debtors company had to pay mark-up on these funds. Similarly company has also
investment policy regarding cash whenever it has surplus cash available with the company it
is used to pay costly short term finance of the company which consequently reduces the
borrowing cost of the company.
5. What is financing policy in management of cost of financing?
Company has devised proper financing policy which is devised by the company G.M
Finance, CFO and Director Finance whenever there is a need of excess finance its cost is
determined and also decided whether it will be acquired through debt finance or equity
finance the cost of both sources of finance are compared with each other and which is
cheaper and easily available source of finance is taken by the company in all cases it is tried
to keep the cost of finance at minimum.
6. Does working capital management help to prevent the firm from bankruptcy?
If company is properly maintaining its working capital then there is no danger of insolvency
of the company as the working capital of the company is properly managed the organization
will be facing no problem from its suppliers, creditors and financers this is because
organization will have sufficient resources available to comply with the need of these peoples
and hence there will be no danger of insolvency.
7. What are problems you face in managing working capital and how you solve those
problems?
Actually time is important factor to pay the obligation and our business are based on credit.
Some time we have problems to manage the cash due to delay the payments from the buyer.
58
We cannot take discount from supplier and make further investment in assets due to
deficits.goverment rules and regulation or tax policy is also big problems in managing the
working capital of firm result lack of liquidity. We can manage the cash by account
receivable and account payable like increase number of day from supplier and decrease the
days from buyer payments. Market competition is another issue effecting the management of
working capital. We can manage the working capital by conceptual frame work (policy,
procedure and operations).
8. Does working capital management sustain the cash flow and profitability?
Yes, working capital management can play the role to create or enhance the value of firm.
Cash is important part of working capital and its work like blood in business organisation.
Inflow and out flow of cash can be manage by effective and efficient working capital
management. Main reason of our firm losses in last year is lack of working capital.practicaly
working capital management can help to decrease cost and increase the sales result
profitability.
9. do you think external working capital management play role in enhance value of the
firm?
I think external working capital management can play the significance role make the co-
relation between firm and its supplier or buyers. The positive relationship between firm and
concern parties can be reduce the transaction costs and cost is important factor to create value
of firm. Value chain approach is also play role to make transaction cost effective and
manager can enhance value of firm by using the value chain approach to control the inter-
firm transaction cost of working capital operation or levels.
Chapter 5
59
Conclusion and Recommendation
5.1 conclusions
In the first four chapters, we establish the research objective and defined our the conceptual
and empirical issues, literature review of relevant theory, conceptual frame work and design
the methodology for research and we gathered the empirical data and analysed the case of j.k
spinning mills ltd at Faisalabad in Pakistan. In this chapter, we conclude the research on
working capital management and its relevant issue. We conclude that working capital levels
of investment, operation and finance can play the role to enhance value of firm. It is very
important in spinning sector in developing country where very limited level of investment
and financing facilities. Manager can be control the surplus shortage by consideration on
working capital management. This empirical study shows that j.k spinning mills ltd has no
clear place intention policy in working capital management levels and its operation in
business organisation. We conclude that value chain is very important for spinning sector to
make transaction cost effective but most of firm are not using value chain approach. This
study shows that ownership status has effect on the decision of working capital levels,
operation and financing and manager are not fully empowered to make the decision on
working capital levels and its operation result firm loss. We conclude that most of manager
has not academic background. We conclude that government law and tax policy is also
prohibited the value creation and increase of sales of firm. Too much tax is main issue in cost
effective transaction or price of the product result firm cannot compete in globe market. After
analysing the primary and secondary data of the research, roughly aim and objective is
achieved. Finally we concluded that effective and efficient working capital management can
create value of the firm.
5.1.1 Limitations
In this research limitation was found which are to be explaining. Working capital
management is a big topic which basis on numbers of explanation and ideas. I have not
records where I can collect the data about research firm buyer and suppliers therefore I could
not get the clear picture of inter-firm relationships. My research study is limited only the case
of spinning sector in Pakistan because of limitation it is not possible for me to find and
analyse situation in other business sector in Pakistan. Research has been narrow due to time
limitation but it still needs more discoveries. It was quite difficult for me to get short time
60
period for questionnaire answer from j.k spinning mills ltd manager because it is based in
Pakistan and I was conducting the interview by telephone. One of basic reason of limitation
of the research is uncertain business situation and most business man does not know clear
future position their firm.
5.2 Recommendation
We are recommended in this section that manager can be used our conceptual model into
practical implication of working capital management levels and operation policies to create
the value of firm. For the instance, managers need to improved their existing working capital
policies and practices at investment levels and operations. This study show that they are only
concentrates on the custody but they should need to concentrate on value creation aspect of
working capital management. So, managers have to recognize policies that can reduce cost of
transaction (purchase and selling activities) and similarly reduce the carrying costs of levels
of receivable, inventories and cash.however,managers have to reduce the unnecessary
investment in working capital assets in support of long run investment which comprise great
impact on production ability and profitability of firm. Managers have to evaluate cost of short
term debt on working capital level of financing and find cheapest sources of finance. Instead
of bank overdraft which is more risky, managers need to establish the credit agreement with
trade buyer and supplier and it can be possible by convince the trade parties to co-operate in
giving the credit with joint beneficial terms. Firm have to establish policies of contact,
contract, control for appropriate credit standard which can be helpful to increase sales and
reduce cost of transactions. The Business organisation has to establish the mechanism to
empower the managers to make the decision on working capital. Managers can be evaluate
the firm financial performance by budgeting or accounting ration internally and externally by
checking the customer satisfaction or using inter-firm benchmark on financial performance.
these recommendation are not only for spinning sector of Pakistan but other business
organisation can be enhance the profitability with minimum risk by using the our conceptual
frame work on working capital management.
61
Chapter 6
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Appendix (A)
Questionnaire:
Company: J.K Spinning Mills Ltd.
Q1. what do you think working capital role in success of an organization?
Q2.How your organizations get benefits from effective and efficient working capital
management
Q3. Do you think working capital management is important for good performance of a
company?
Q4. What is investment policy regarding inventory, cash, and receivable?
Q5. What is financing policy in management of cost of financing?
Q6. Does working capital management help to prevent the firm from bankruptcy?
Q7. What are problems you face in managing working capital and how you solve those
problems?
Q8. Does working capital management sustain the cash flow and profitability?
Q9. do you think external working capital management play role in enhance value of the
firm?
66
Appendix (b)
Responses of the managers (Questionnaire)
Sources base: data collection from the firm manager
Legend: response of manager indicate the number,5 mean very positive,4 mean positive,3
mean neutral,2 mean negative 1 mean very negative.
Cash Management- Response of Finance Manager (j.k mills) ltd
Motive of Cash of the Cash Holding
Transaction 5
Speculative 2
Bank compensating 3
Precautionary 4
Objective for budget forecasts
Requirement 5
Control liquidity 4
Control cash 4
Plan short-term requirement 3
Plan long-term requirement 3
Forecasting approach
Past experience 5
Forecast sales 4
Management opinion 3
Market research 1
cash Flow Approach
Payments and receipts 5
Adjusted net income 3
Cash Flow Objective
Requirement 5
Improve cash forecast 3
Cash control 2
Cash Control approach
1.Payments 1
Voucher system 3
67
Bank reconciliation 5
Petty cash system 1
2.Collection 2
Customer payment system 3
Collection deposit daily 4
Inventory management-responses of finance manager
Objective of inventory Management
Keep production smoother 5
Safeguard against shortage 5
Reducing ordering cost 5
Reducing holding cost 4
Cost of holding inventory
Clerical cost of record keeping 3
Security cost 2
Handling 1
Property taxes 1
Insurance 1
Opportunity cost of capital investment 3
Energy(heat and light) 1
Importance of holding cost of material 5
Managing the cost material handling
Use the economic order 5
Buy just time in production 3
Minimise the inventory level 3
Costing method of material inventory
FIFO 3
LIFO 3
Average costing 1
Valuation method material inventory
Lower of average cost or market 4
Market or replacement cost 2
68
Average cost 1
Account Receivable Management- Responses of Finance Manager
Account receivable management Manager
responses
Reason for not selling on credit
Customer do not ask for credit 2
The firm does not want extend the credit 5
Lack of information on credit application 3
High uncertainty of pay back 5
Source of information for screening credit applicants
Prior experience 5
Financial statement 5
Visits to customer 4
Personal contact with the applicants credit 5
Customers payment history 5
Credit term
Open account no discount 5
Open account with discount 3
Promissory note 3
Seasonal dating 3
Standards to screen credit applicants 2
Measures taken to collect overdue receivables
One time sale approach 5
Repeat sales approach 3
Measure taken to collect overdue receivables
Telephone call 5
Collection by employee 4
Extend credit period 2
Send the reminder 3
Personal visit 1
Take legal action 3
69
Reducing the level of receivables
Stop the selling on credit 3
Revise the credit policy 3
Revise credit standards 4
Make customers pay outstanding debts 5
Monitoring credit customer
Using the letters of credit 5
Using draft letters 4
Risk of uncollectable 5
Managing short-term financing-responses of finance manager
Managing short-term financing Manger
responses
Source of short-term financing
Long-term debt 2
Short-term debt 5
Overdraft 3
Trade creditors 5
Secured borrowing 3
Retain earnings/equity capital 5
Accruals 5
Factors influencing levels of financing
Sales growth 5
Availability of credit 5
Credit policy 5
Seasonal sales 3
Price level of inputs 5
Operating efficiency 3
Costs of financing
Bank services charges 5
Interest expenses 5
70
Managing the working capital operation (J.K Group Mills ltd)
Purchase management Manager
responses
Purpose of purchase policy
Decreasing inventory holding cost 5
Decreasing purchasing order costs 4
Take the benefits of cash discount 5
Take benefits of quantity discount 5
Meet seasonal production requirements 3
Term of purchasing
Cash 1
Credit 5
Managing purchasing cost of contract, contact,control.
Routine contract agreements 5
Term known in advance 5
Employing lawyers 1
Choosing the cheapest channel 5
Employing purchasing agents 3
Managing by trust 3
Routine control agreement 4
Objective of purchase forecast
Get safety stock 5
Meet the production demands 5
Determine inventory usage during leads time 3
Know the quantity on hand and on order 5
Based used the forecast purchase
Past experience 5
Forecast sales volume 3
Purchasing staff opinion 3
Management opinion 3
Reason for not purchasing on credit
Firm does not have credit policy 2
71
Lack of information on credit supplier 1
Supplier do not provide the credit 5
No tradition of credit sales 2
Sales Management Responses
of manager
Sales terms
Credit 5
Cash 2
Objective of sales policy
Expand the market 5
Satisfy customer demands 5
Decrease the inventory holding costs 2
Decrease the inventory ordering costs 3
Meet the seasonal sales requirement 2
Credit sales standard
One time 3
Repeat sale 5
Objective sales forecasting
Forecast safety stock needs 3
Forecast inventory usage 4
Forecast future demand 4
Forecast quantity in hand and on order 5
Based used to forecast sales
Past experience 5
Management opinion 3
Sales staff opinion 3
Managing the selling cost of contact, contract, control
Choosing the cheapest channels 5
Employing sales agents 2
Routine control agreement 5
72
Term known advance 5
Employing the lawyers 1
Routine control agreement 3
Performance evaluation of working capital decision-responses of financial manager(j.k
spinning mills ltd).
Performance evaluation of working capital decision Responses
finance
manager
Specific criteria applied
Comparing past with the present performance 5
Comparing actual with expected performance 3
Accounting based performance evaluation
1.liquidity
Current ratio 5
Quick ratio 5
2.activity
Inventory turnover 4
Receivable turnover 3
Overall working capital ratio 3
3.asset structure 3
Cash to working capital 5
Inventory to working capital 4
Working capital to total assets 2
4. profitability
Gross profit margin 5
Net profit margin 4
Return on working capital investment 2
Return on total assets investment 2
Determinants of performance
73
Fixed asset investment 3
Fixed asset financing 3
Working capital investment 5
Short-term financing 5
Availability of skilled labour 4
74
