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Working capital

Working capital is the capital which is used to carry out the day to day business activities. After estimating fixed capital requirement of the business firm, it is necessary to estimate the amount of capital, that would be needed to ensure smooth functioning of the business firm. A business firm requires funds to store adequate raw material in stock. A firm would need capital to maintain sufficient stock of finished goods. In actual practice, goods are sold out in cash or on credit. Goods sold on credit do not fetch cash immediately. Firm will have to arrange for funds till the amount is collected from the debtors. Cash is also required to pay overheads. Since uncertainty is always a feature of business, some excess cash also should be maintained to meet unexpected expenses. Overheads : Overhead means indirect cost or expenses required to run a business. Overhead expenses include accounting fees, advertising, insurance, interest, legal fees, rent, repairs, taxes, telephone bills, travel expenditure, etc. Thus, a business firm will have to arrange capital for the following : a) For building up inventories b) For financing receivables and payables c) For covering day-to-day operating expenses. The capital invested in these assets is referred to as ‘Working capital’. The concept of working capital is viewed differently by leading authorities. Some authorities consider working capital as equivalent to excess of current assets over current liabilities. Gerstenbergh, defines it as, ‘‘The excess of current assets over current liabilities.’’ This approach refers to ‘Net Working Capital’. Gerstenbergh does not call it as working capital. He prefer red to call it as ‘circulating capital’. Other authorities viewed working capital equivalent to current assets. According to J. S. Mill, “The sum of current assets is working capital.” This approach has broader application. It takes into consideration all current assets, of the company. It refers to ‘Gross Working Capital’.