Working capital management decision is one of the most important decisions taken by the corporate finance rather than the other two decisions which deal with capital structure and capital budgeting. Working capital management has impacts in the current assets and liabilities. Hence considered a significant concept as it influence organizations liquidity and profitability. Working capital management has been consisted as an administration of marketable securities, inventories, receivables and the current assets as a mean of cash. (Van Horne, 1977).
In order to prevent the stoppage of short term obligations, organizations effectively engage in managing and planning the current liabilities and current assets. This process helps to get rid in investing on obsolete assets. (Eljelly 2004).
The secret to improving working capital management lies mainly in executing the basic blocking and handling of business management more effectively: Allocating the right information in a timely manner, eliminating working efficiencies, leveraging the 80/20 rule, and tending to customer care (Stephen M.Payne, Wiley periodicals, INC 2002). As a result, in the ground of financial management, working capital management has been considered as very vital and a sensitive area in the organizations. (Joshi, 1994).
Though, there are firms in under pressure to deal with working capital due to the lack of commitments and understandings in determining the elements of working capital. Factors such as growth of the firm, size of leverage, size of capital, finance, operating expenditure, industry characteristics, and financial environment would determine the working capital (Horrigan 1965). Thus working capital management requires an adequate forecasting of the working capital levels and engages in monitoring the progress in order to identify the deficiencies from the pre determined working capital targets. However an organization should have a flexible working capital management policy which can accommodate dynamic business conditions and various changes in the competitive environment (AICPA 1992).
Osisioma (1997) illustrates, In order to meet matured obligation on working capital management, the firms should have an eye on maintaining a balance in current liabilities and current assets according to the regulation adjustments.
An effectively designed working capital programs helps to free cash from a organization's balance sheet and arranges it for more industrious endeavors such as reducing debt, financing research and development, or financing acquisitions. (Stephen M.Payne, Wiley periodicals, INC 2002). Osisioma further demonstrates, an efficient working capital management has to consist a suitable bond between the elements of a firm's working capital to build a valuable blend which ensures capital competence.
Working capital management is actually a blend of many necessary components such as receivables, debtors, cash, marketable securities of inventories and redeemable. However the mixes of these components differ according to different types of businesses and industries. In order to manage working capital efficiently, two elements such as necessary components and desirable quantities should exist. Thus, Working capital management has to be accurate about the desirable quantities of each and every elements in the working capital are on hand for management.
Three components of working capital management
Working capital management comprise of the revenue cycle, the expenditure cycle and the Supply Chain Management cycle. Working capital management is more than a numerical gameit covers on virtually every business process in the above-named cycles. The most successful working capital management programs are wide-reaching accomplishments that touch on every feature of the business enterprise. Those that do not are likely to fall short or achieve suboptimal results.A holistic view of working capital management with its three components can be illustrated using the following diagram.
As per the above illustration, the revenue cycle which includes sales processing, order fulfillment, billing, cash collection, dispute management and cash management. This can be theoretically known a customer- to- cash. Afterward expenditure or Procure-to-Pay cycle would cover all possible expenditure from development of purchasing strategy, budgeting, forecasting. Ordering and receiving goods and services. Finally supply chain management or forecast- to- fulfill cycle would consist of development of a supply chain strategy, anticipating demand, scheduling, production, warehousing and delivery. (Stephen M.Payne, Wiley periodicals, INC 2002).