FACTORS AFFECTING WORKING CAPITAL NEEDS OF FIRMS
A large no. of reasons influences the working capital requirements of firms. a number of them are as follows:
1. Nature of business
Working capital needs of a firm are mainly influenced by the nature of its business. Financial and Trading firms have a small investment in fixed assets, but need a large sum of money to be invested in working capital. Some manufacturing businesses also need working capital substantially, while public utilities will require very limited investment in working capital.
2. Production policies
The working capital requirements of a business differ with several production related decisions like - automation Vs labor intensive process, maintenance of steady production policy Vs varying production policy etc. Where automation may need limited working capital investment, labor intensive production process necessitates heavy investment in working capital. in the same way, where a steady production policy necessitates high level of working capital investment, a unstable production policy may involve fluctuating investments in working capital.
3. Length of the manufacturing process
The working capital requirement of a firm may also depends on the length of the manufacturing process. If it is shorter, it needs lower investment in working capital and if it is longer, it requires heavy investment in working capital
4. Credit policy
If the credit policy (credit terms offered to the customers of the business) of the business is liberal, it may requires a heavy investment in working capital while if it is stringent, it may necessitate a lower investment in working capital.
5. Rapidity of turnover
If the turnover rate of the firm is high, lower investment in working capital is implied and vice versa.
6. Seasonal fluctuations
Whenever the requirement of the company's product is seasonal, during off season, it is low and during on season, the working capital investment is heavy.
7. Fluctuations of supply
Higher levels of supply requires higher investment in working capital and vice versa
8. Economic conditions
During boom time, the working capital requirement of the firm raise along with the need to finance both fixed assets and current assets. And during depression, level of working capital requirements of a firm also will fall.
9. Availability of credit
The working capital requirements of a firm are also affected by the credit terms offered by the creditors. If they are lenient, the working capital requirement is limited and vice versa.
10. Operating efficiency and performance
The operating efficiency of the firm related to the best possible utilization of resources at smallest amount of costs. Better utilization of resources get better profitability and thus assists in releasing the pressure on working capital as a high net profit margin contributes towards the working capital.
Profits are cash equivalents and as such, when profits are more, working capital is said to be more and vice versa.