Question

Discuss the need and importance of working capital.

Answer 1

Every company needs working capital to meet its short-term expenses. It keeps the business going. The following points highlight the need for working capital:

1. Continuity in Business Operations: Working capital keeps the business operations going. It is needed to purchase raw materials, to pay the workers and staff and also to pay for recurring expenses like electricity and power bills, rent, etc.
2. Dividend Payment: Working capital is needed to pay a dividend to the shareholders. The payment of dividend takes place on a yearly or half-yearly basis.
3. Repayment of Long-Term Loans: Working capital is also used to repay long-term loans and debentures.
4. Increases Creditworthiness: A company that pays its creditors on time has a positive reputation in the credit market. Such a goodwill helps a company to obtain raw materials on credit. It can also get loans and advances from the banks. The dealers will also be willing to give money to such companies. Hence, working capital increases a company's creditworthiness.
5. Boosts Efficiency and Productivity: The company that faces no working capital problems provides better working conditions and welfare facilities to its workers. It also can maintain its machines in good condition. It can afford to spend money for training and development of its workers. All such steps boost the efficiency and productivity of the company.
6. Helps to Fight Competition: Working capital helps the company to fight its competitors. It can be used to advertise and for sales promotion. The company can also afford to give longer credit terms to the customers.
7. Helps to Withstand Seasonal Fluctuations: Working capital is required throughout the year. But sales may be seasonal in nature. If the sales are low, the money inflow is less. Therefore, liquid cash is required to pay wages to workers and to meet other expenses. So, it helps the company withstand seasonal fluctuations.
8. Increases Goodwill: The company that meets the needs of its working capital without any difficulty earns a good reputation in the labour and capital markets. This happens because the company pays wages and salaries to the employees and the suppliers of raw materials, etc., on time. Thus, it also helps increase the goodwill of the company.