Question

Explain briefly any four factors which affect the working capital requirement of a company?

Answer 1

Factors affecting working capital:

• Nature of Business
  

The basic nature of a business influences the amount of working capital. A trading organisation and a service industry firm usually needs a smaller amount of working capital as compared to a manufacturing organisation. -

• Scale of Operations
  

Organisations which operate on a large scale, their quantum of inventory and debtors required is generally high. Such organisations, therefore, require large amount of working capital as compared to the organisations which operate on a lower scale.

• Business Cycle
  

Different phases of business cycles affect the requirement of working capital by a firm. In case of a boom, the sales as well as production are likely to be larger and, therefore, larger amount of working capital is required. As against this, the requirement for working capital will be lower during the period of depression, since the sales as well as production will be less.

• Seasonal Factors
  

Some of the businesses have seasonal operations. During peak season, larger amount of working capital is required because of higher level of activity.

As against this, the level of activity as well as the requirement for working capital will be lower during the lean season.

• Production Cycle/Operating Cycle
  

Production cycle is the time span between the receipt of raw material and their conversion into finished goods. 4

Some businesses have a longer production cycle while some have a shorter one. Duration and the length of production cycle affect the amount of funds required for raw materials and expenses.

• Credit Allowed '
  

Different firms allow different credit terms to their customers. These depend upon the level of competition that a firm faces, as well as the credit worthiness of their clientele.

A liberal credit policy results in higher amount of debtors, increasing the requirement of working capital.