Working Capital means the portion of capital invested in short-term assets of a firm. It is the excess of current assets over current liabilities.
Factors which determine the working capital requirements are as follows:
(i) Length of Operating cycle/Production cycle: Operating cycle refers to the length of the manufacturing cycle, i.e., the periods taken to convert raw materials into finished products. Longer period means more working capital requirement and vice versa.
(ii) Credit policy/Credit allowed: If liberal credit terms are given and a liberal policy is followed, then the company would require more working capital as there is less cash inflow and vice versa.
(iii) Nature of business: Manufacturing firm requires higher amount of working capital as compared to a trading organisation, to convert raw materials into the finished goods.
(iv) Scale of operations: Large amount of working capital is required by firms operating on a large scale of operations in terms of debt, inventory, etc. as compared to the small scale firms.
(v) Seasonal factor: Higher amount of working capital is required by the organisation during its peak season as the level of activities is higher as compared to the lean season.
(vi) Business cycle: During boom period, when sales are high, higher amount of working capital is required as compared to the depression period.
(vii) Credit availed: If it is difficult to avail credit by the firm (on its purchases) from suppliers, then higher amount of working capital is required.
(viii) Availability of raw material: Higher lead time (i.e. time lag between the placement of order and actual receipt of the materials) and interrupted availability of raw materials will raise the requirement of working capital.
(ix) Operating efficiency: Less requirement of working capital will be there in a firm in the presence of best sales effort, ideal debtors turnover ratio and higher inventory turnover ratio.
(x) Level of competition: Working capital requirements will be more if level of competition is high.
(xi) Inflation: At a higher late of inflation, working capital requirement will also be higher
(xii) Growth prospects: If an organisation has planned for higher growth prospects then its requirement for working capital will be higher.
