Question

Pankaj is engaged in Warehousing-Business. Identify the working capital requirements of Pankaj stating the reason in support of your answer. Pankaj is also planning to start his Transport business.
Explain any two factors that will affect his fixed capital requirements.

Answer 1

Factors determining the working capital requirement

(i) Nature of business A trading business needs less amount of working capital because there is no processing of goods. On the other hand, the working capital requirement would be more in case of manufacturing business where raw materials are converted into finished goods.

(ii)Scale of operation A large-scale organisation requires a large amount of working capital as compared to small-scale organisation because the quantum of inventory, debtors and cash required is generally high.

(iii)Seasonal factors Business operations are affected by seasonal changes. As during peak season higher are the level of activities and higher the requirements of working capital, on the other hand, during lean season requirements of working capital will be lower.

(iv)Production cycle It cycle is the time span between the receipt of raw materials and their conversion into finished goods. Length of production cycle affects the working capital requirement. If the duration of the production cycle is longer, the working capital requirements to meet day to day expenses would be higher and vice-versa.

Warehousing can be a significant demand on capital and the point needs to be reinforced, that two things dictate the number, size, and configuration of a warehouse network. Firstly the customer service offer, as that quite simply dictates how close to customers stock must be held, and secondly the supply base. If supply is close and consistent then less buffer stock may be required. If the suppliers are overseas and their service is inconsistent, this can drive higher buffer stock and warehouse capacity. It’s not brain surgery.

Facility Ownership should also be considered. The outsourcing of warehouses is probably now at about 80-85%. Therefore, 15% of businesses for whatever reason are choosing to own and operate their own warehouses. Many for good reason of course, because they see it as a core part of their business. However, for those businesses that do not need to own their warehouses, most will buy, design, build and leaseback. When warehousing needs are generic, the rental will usually make sense.

Factors affecting fixed capital requirements- ( any two )

(i) Nature of business The type of business has a bearing upon the fixed capital requirements, e.g. a trading concern needs lower investment in fixed assets compared with a manufacturing organisation, since it does not require to purchase plant and machinery, etc.

(ii) Growth prospects Higher growth of an organisation generally requires higher investment in fixed assets. Even when such growth is expected, a company may choose to create higher capacity in order to meet the anticipated higher demand quicker. This entails larger investment in fixed assets and consequently larger fixed capital.

(iii)Diversification If a firm diversify its operations, its fixed capital requirements increases.

(iv) Level of collaboration Usually organisations show each other’s facilities as it is feasible and reduces the level of investment in fixed assets, e.g. PNB bank may use ATM of Andhra Bank.