Page 148 - DMGT409Basic Financial Management

Unit 8: Working Capital Management

Notes

Notes Symbols used in the formulas:
BP = Budgeted Production (in units)
RMC = Raw Materials Cost per unit
ARM HP = Avg. Raw Materials Holding Period
EWIP = Estimated Work-in-Process cost per unit

ATSWIP = Avg. Time Span of Work-in-Process inventory
CGP = Cost of Goods Produced (excluding depreciation) per unit
FGHP = Finished Goods Holding Period
BCS = Budgeted Credit Sales in units

CS = Cost of Sales (excluding depreciation) per unit
ADCP = Avg. Debt Collection Period
CPAS = Credit Period Allowed by Suppliers
DWC = Direct Wages Cost per unit
LPW = Lag in Payment of Wages

OHC = Overhead Cost per unit of production
LPOH = Lag in Payment of Overheads

Estimation of components of current assets and current liabilities:
1. Estimation of Current Assets:
(a) Investment in Raw Materials Inventory: BP (in units) × RMC per unit × ARM HP
(months/days) ÷ 12 months/365 days.
(b) Investment in Work-in-process Inventory: Work-in-process cost (permit) is proportionate
share of the cost of direct materials and conversion costs. Conversion costs include
labor and manufacturing overheads costs excluding depreciation, since it is out
of pocket cost. Generally, raw materials cost is fully considered, if there is no
information about the raw materials requirement. With regards to the share of labor
and overhead cost, it is based on the work completion stage.

Example: If the work is completed to the extent of 50 per cent then only 50 per cent labour
cost and overhead cost is taken into consideration for estimation of work-in-process cost. If there is
no information about the completion stage then the option is left out to the estimation of working
capital (it is better to consider that work completion stage is 50 per cent).
BP (in units) × EWIP per unit × ATSWIP (months/days) ÷ 12 months/365 days

(c) Investment in Finished Goods Inventory: BP (in units) × CGS per unit × FGHP (months/
days) ÷ 12 months/365 days.
(d) Investment in Debtors: BCS (in units) × CS per unit × ADCP (months/days) ÷
12 months/365 days.
(e) Cash and Bank Balance: Maintenance of minimum working capital includes a minimum

cash balance, but it is very difficult to calculate minimum cash balance required.

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