Page 147 - DMGT409Basic Financial Management

Basic Financial Management

Notes 8.4 Estimation of Working Capital

Determination of Working Capital

Working capital required is calculated based on the assumption that the production or sales is
carried on evenly throughout the year and all costs accrue similarly. Exclusion of depreciation is

necessary from sales price since it is out of profit costs [it does not involve cash outflow. In other

words, computation of working capital required is based on the cash cost only.
Working capital is equal to the current assets minus current liabilities. In other words, working
capital consisting two components, such as current assets and current liabilities. Hence, for
estimation of working capital, there is a need to follow the following Four-step procedure:
1. Estimation of cash cost of the various current assets required by the fi rm.
2. Estimation of spontaneous current liabilities of the fi rm.
3. Compute net working capital by subtracting the estimate current liabilities (step 2) from
current assets (step 1).
Add some percentage (given in the problem) of net working capital if there is any contingency or
safety working capital required, to get the required working capital.

Notes Statement of Working Capital Needed
Particulars Amount (in `) Amount (in `)
A. Estimation of Current Assets:
(i) Raw materials XXX
(ii) Work-in-process
Raw materials (full cost) XX
Direct labour (to the extent of completed stage) XX
Overheads (to the extent of completed stage) XX XXX
(iii) Finished goods inventory XXX
(iv) Debtors XXX
(v) Cash balance required XXX
Total Current Assets
B. Estimation of Current Assets:
(i) Creditors XXX
(ii) Expenses
Overheads XX XXX
Labour XX
Total Current Liabilities XXX
C. Working Capital (A-B) XXX
Add: Contingency (Percentage on working capital) XXX
D. Working Capital Required XXXX

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