Working Capital planning and management

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In this topic we will discuss about:
.Data Verification Sources
.Notice
.Essential Guidelines
.Discussions about working capital and its concept and theories
Data Verification Sources
1 = Theories and problems in financial management by M.Y khan and P.K Jain third
edition
2 = Wikipedia the free encyclopedia (http://en.wikipedia.org/)
3 = www.investopedia.com
Notice
In case of any query please send feedback from home page (www.oopine.com)
Essential Guidelines
(back to top)
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Discussions about working capital (WC) and its concept and theories (back to
top)
This topic will cover three main theories of Working Capital (WC) that are
(I) Profitability risk trade-off
(II) Financing Mix and
(III) Determination of level of WC
(I) Profitability risk trade-off
This concept is simple to understand suppose two firms with same cash to invest
if one firm use its own cash to buy assets and other use debt financing for this
then this means which firm use its own cash its more cash is freeze in the shap
e of assets so this firm will not enjoy to use that cash for profitable opportun
ities like the other firm which use debt to finance the assets but the firm whic
h use debt is actually handling more risk than the other because of low current
ratio so that is the basic concept that describe that one has to decide between
risk and profitability as more profit will encounter more risk and vice versa we
will further discuss this topic in details
(II) Financing Mix
This concept describe that portion of Current Assets financed by Current Liabili
ties and long term liabilities should be appropriate and this describe that Curr
ent assets or their core portion should be financed by long-term liabilities and
 purely temporarily and seasonal requirements should be financed by short-term l
iabilities this approach is called high profit, high risk financing mix.
Other approach is called Conservative approach according to this approach the wh
ole portion of current assets should be financed through long-term loans and sho
rt-term loans should only be used in emergency situations this approach is also
called low risk, low profitability approach.
None of the approach is suitable to be adopted by an entity there should be a go
od mix of these two approaches according to the nature of the entity and many ot
her factors
(III) Determination of level of WC
No doubt that when there is some operation then there is need of some current as
sets (cash, inventory etc) but how much current assets particularly cash is need
ed by an entity it depends upon the cash Or operating cycle of the entity and ca
sh cycle means that how much it take time to convert cash into inventory of fini
shed goods and inventory to receivables and receivables into cash please see cas
h conversion cycle at the following link
http://en.wikipedia.org/wiki/Cash_conversion_cycle
Suppose a situation where this cycle was possible to complete instantaneously th
en no need to maintain current assets but in practical it is nearly in-existent
Practical Problems and solutions:
(back to top)
Formulas to determine value of different items in Current Assets
Raw material inventory:
(BP * PUCRM *AIHP)/ N
Where:
BP = Budgeted production (units) for a given period
PUCRM = per unit cost of raw material(s)
AIHP = average inventory holding period (month or days)
N = number of months or days for given period like for a year 12 months (365 day
s)
Work-in-process inventory:
(BP * EWCPU *AWTS)/ N
Where:
BP = Budgeted production (units) for a given period
EWCPU = Estimated work-in-process cost per unit
AWTS = average work-in-process time span (month or days)
N = number of months or days for given period like for a year 12 months (365 day
s)
Finished goods inventory:
(BP * MCC *FGHP)/ N
Where:
BP = Budgeted production (units) for a given period
MCC = Manufacturing cash costs (Means no non-cash cost like depreciation should
be included)
FGHP = Finished goods holding period (month or days)
N = number of months or days for given period like for a year 12 months (365 day
s)
Formulas to determine value of different items in Current liabilities
(back to top)
Trade creditors:
(BP*PURMR*CP)/ N
Where:
BP = Budgeted production (units) per period
PURMR = per unit raw material requirements
CP = credit period limit
N = number of months or days for given period like for a year 12 months (365 day
s)
Note: Proportional adjustments should be made for cash purchases of raw material
Direct wages:
(BP*DLCPU*ATL)/ N
Where:
BP = Budgeted production (units) per period
DLCPU = Direct labor cost per unit
ATL = Average time-lag in payment of wages
N = number of months or days for given period like for a year 12 months (365 day
s)
Cash overheads:
(BP*PUOC*ATL)/ N
Where:
BP = Budgeted production (units) per period
PUOC = per unit over-head cost
ATL = Average time-lag in payment of over-heads
N = number of months or days for given period like for a year 12 months (365 day
s)
Note: different overheads should be calculated based on different bases like sel
ling overheads should be calculated on units sold etc

Determination of working capital requirements

(back to top)
(A) Estimation of current assets
Minimum desired cash and bank balance
Add:
Inventory;
Raw material,
Work-in-process,
Finished goods
Debtors
Expenses paid in advance
Total
(B) Estimation of current liabilities (CL):
Creditors for materials
Add:
Creditors for expenses;
Wages
Manufacturing expenses
Selling overheads
Total
Net working capital = total of A less Total of B (NWC) (A-B)
Note: Advance payment will recorded as asset
This structure is very important so you should understand it carefully t
o apply in practical problems
Another concept in this scenario is
Determination of Cash Cycle:
As we already discussed a little about cash cycle now in more simple term let as
sume that today
is 01-01-2010 and we have cash in hands now we are going to purchase inventory t
hen we will process that inventory and then sale the finished goods and after we
will receive payment from customers. In fact we have cash 01-01-2010 and when w
e will purchase material we have also cash in our hands until we pay it to the c
reditors and once we pay to creditors time start from now to measure cash cycle
length it simply means that now we have inserted cash into operations and a time
will come when we will again receive that cash again then time period involved
between cash outflow to inflow is called cash cycle let us suppose an example
Date (DD-MM-YY) activity
01-01-2010 purchase material on credit
22-01-2010 inventory put into process
05-02-2010 inventory turns into finished goods
11-02-2010 paid to the creditors in full
05-03-2010 finished goods sold at credit sale
30-04-2010 all debtors paid
From the data above we can calculate cash cycle the first thing we have to do is
to calculate the time span between different activities measured in days so
Activity activity after
Time span
Purchase material on credit N/A
N/A
Inventory put into process after inventory purchasi
ng 21 days
Inventory turns/ convert into finished goods after putting into proce
ss 14 days
Paid to the creditors in full after inventory purchasi
ng 42 days
Finished goods sold at credit sale after conversion
28 days
All debtors paid after sale
56 days
We are almost done now just we have to simply add and subtract amounts and we kn
ow that the period until we did not receive money will be included into cash cyc
le period and that is
Cash holding activities days
Inventory holding period 21
Work in process 14
Finished goods holding period 28
Receivable outstanding 56
Total 119
Total our amount remains out-side for 119 days but we pay our creditor after 42
days so these days should be excluded as we recorded total period of operation p
lus receiving amount from debtors but cash we pay later that’s why cash cycle is
(119-42) 77 days.
We can also calculate cash operating cycle if related items within balance sheet
and income statement are given consider the following data
($)
Receivables
400
Trade payables
200
Average raw material held
100
Average WIP inventory
130
Average finished goods inventory
200
Sales (80% credit)
3000
Material usage
2000
Material purchases (all on credit)
1800
Production cost
2300
Cost of sales
2500
Form the above data we can also calculate working capital requirements first we
will write down the original structure and then will put values after calculatio
ns
Description
Days
Raw material holding period
18
Add: WIP holding period
21
Add: Finished holding period
29
Add: Debtor’s outstanding period
61
Less: Creditors payments lag
(41)
Total cash cycle
88
Calculations:
Raw material holding period: (Average inventory holding period within stock unti
l used in production)
(Average inventory held* / Material Usage) * Number of common intervals in a per
iod (days/weeks/months/years etc)
*[(average inventory = opening inventory + closing inventory)/ 2]
(100 / 2000) * 365 = 18.25 or 18 days
Note: if material used is not available in data then material purchased will be
used as good approximation of material used
WIP holding period: (Average WIP holding period within process until converted i
nto finished goods)
(Average WIP inventory / cost of production) * Number of common intervals in a p
eriod (days)
(130/2300) * 365 = 20.63 or 21 days
Note: if production cost is not available in data then cost of goods sold will b
e used as good approximation
Finished Goods holding period: (Average FG holding period until sale)
(Average finished goods inventory/ Cost of sales) * Number of common intervals i
n a period (days)
(200 / 2500) * 365 = 29.2 or 29 days
Debtor’s outstanding period: (Average Debtor’s holding period until cash receive
d)
(Average debtors outstanding/ credit sales) * Number of common intervals in a pe
riod (days)
[(400) / (3000*0.8)]* 365 = 60.83 or 61 days
Creditor’s holding period: (Average creditor’s holding period until cash paid)
(Average creditors outstanding / credit purchase) * Number of common intervals i
n a period (days)
(200/1800) * 365 = 40.56 or 41 days
Case 1: (all amounts in $) (back to
top)
From following data determine Working Capital Requirements
($)
Annual sales
360
Cost of production including depreciation of 30
300
Raw material purchases
176.25
Monthly overhead expenses
7.50
Anticipated opening stock of raw materials
35
Anticipated closing stock of raw material
31.25
Inventory Norms in months (holding/ processing period):
Raw material
2
Work-in-process
0.5
Finished goods
1
The firm enjoy credit of 15 days on its purchase, and allow one month as credit
period to its debtors also company has received an advance of $3.75 on sales ord
er minimum desired cash balance is $2.5
(Assume continuous production throughout the year)
Solution:
(back to top)
(A) Estimation of current assets
Minimum desired cash and bank balance
2.50
Add:
Inventory;
Raw material,
Opening
35
Add purchases
176.25
Less closing stock
31.25
Annual Consumption
180
Two month material requirement [(180/12)*2]
30 Work-in-process (excluding depreciation): (180*+90**) = [(270 +
90) *0.5)]/ 12 15 Finished goods 270/ 12
22.50
Debtors 270/ 12
22.50
Expenses paid in advance
0.00
Total
88.75
* = Total material consumption
** = Monthly over-heads * number of months (7.50*12 = 90)
Means total manufacturing expenses
(B) Estimation of current liabilities (CL):
Creditors for materials [(176.25*0.5)/ 12]
7.34
Add:
Creditors for expenses;
Wages
Manufacturing expenses
Selling overheads
Total creditors for expenses
0.00
Advanced payment received from debtors
3.75
Total
11.09
Net working capital = total of A less Total of B (NWC) (A-B)
(88.75 – 11.09)
77.66

Case 2: (all amounts in $) (back t

o top)
ABC Company sells its products @20% profit on sales and provide you the followin
g data to determine working capital required by the company after adding 10% mar
gin
Sales (at 3 month credit) 1000
Raw material 300
Waged paid (Time-lag is 0.5 months) 240
Manufacturing expenses paid (1 month in arrear) 300
Administrator expenses paid (1 month in arrear) 120
Sales promotion expenses (half yearly in advance) 50
Company is enjoying one month credit from the suppliers of raw material and main
tains raw material stock sufficient for 2 months also company maintains finished
goods stock that is sufficient for 1.5 months
Minimum desired cash level is $25

Solution:
(A) Estimation of current assets
Minimum desired cash and bank balance 25
Add:
Inventory;
Raw material, (300/12)*2 50
Work-in-process, (No work-in-process inventory mentioned)
0.00
Finished goods (0.8*sales = 1000*0.8* = (800/12)*1.5 *20% profit on sal
es) 100
Debtors [(800/12)*3] 200
Expenses paid in advance (sales expenses) (50/2
) 25
Total 400
(B) Estimation of current liabilities (CL):
Creditors for materials (monthly consumption * credit limit in months = [
(300/12)*1] 25
Add:
Creditors for expenses;
Wages [(240/12)*0.5] 10
Manufacturing expenses [(300/12)*1] 25
Selling overheads (Paid in advanced) 0.00
Administrator expenses [(120/12)*1]
10
Total 70
Net working capital = total of A less Total of B (NWC) (A-B)
(400-70) 330
Add 10% margin (330*1.1) 363

Case 3: (all amounts in $) (back to

top)
A newly formed firm submitted to the bank following data to issue loan for its w
orking capital requirements
Sales 525
Less cost of goods sold * 382.50
Gross profit 142.50
Less administrative expenses 35
Selling expenses 32.50 67.50
Profit before tax 75.00
Provision for tax 25.00
* Cost of goods sold figure is derived as follows
Material used 210
Plus: wages and manufacturing expenses 156.25
Depreciation 58.75 215
425
Less stock of ending finished goods inventory (10%)
42.50
Cost of goods sold 382.50
The figure given above relate only to those goods that are finished not those th
at are in process, units equal to 15% of the year production are in process, req
uiring on average, full material but only 40% of other expenses. Company believe
s in keeping the material inventory sufficient to fulfill the requirements for 2
months and minimum desired cash balance is $10
All expenses are paid 1 month in arrear; suppliers of material extended 1.5 mont
h credit; sales are at 20% cash and rest at 2 month credit; 70% of the income ta
x has been paid in advance quarterly installments
You are required to calculate the working capital requirements with 10% margin f
or contingencies
Solution:
(A) Estimation of current assets (see detailed explanation and notes (1.3) for c
alculations)
Minimum desired cash and bank balance 10
Add:
Inventory;
Raw material, [(210/12)*2] 35
Work-in-process,
Raw material (210*0.15*100%) 31.50
Wages and manufacturing expenses (156.25*0.15*40%)
9.375 40.8750
Finished goods (42.50 – (58.75*0.1) 36.625
0
Debtors 52.1667
Expenses paid in advance 0.00
Total
174.6667
(B) Estimation of current liabilities (CL):
Creditors for materials [(210/12)*1.5] 26.25
Add:
Creditors for expenses;
Wages and manufacturing (156.25/12)*1
13.0208
Administrative expenses (35/12)*1 2.9167
Selling overheads (32.50/12)*1
2.7083
Total 44.8958
Net working capital = total of A less Total of B (NWC) (A-B)
(174.6667-44.8958) 129.7709
Add 10% margin for contingencies (129.7709*1.1) 142.7480
Explanation and notes (1.3) (back to
top)
(A) Estimation of current assets
Minimum desired cash and bank balance this amount is mentioned in ques
tion
Add:
Inventory;
Raw material, company keeps 2 month requirements as stock so t
otal material used
Through-out the year is of $210 then for
two months (210/12)*2
Work-in-process (WIP), mentioned that 15% of go
ods finished is in WIP
Material: WIP contains 100
% material
Wages and manufacturing expenses: WIP inventory contains 4
0% of these expenses
Finished goods value $42.50 of finished goods contains depreciation that should
be deducted and we know that this value is 10% of the total value so 10% deprec
iation should be deducted
Debtors total sales is of $525 but we have to calculate the total cash cost for
the sales that is calculated as follows
Cost of goods sold
382.50
Less non-cash items cost
Depreciation
58.75
323.75
Add: administrative expenses
35
Selling expenses
32.50
Total cash expenses on sales
391.25
Sales are 80% on credit that means 313 (391.25*0.8) is on credit and for
one month 313/12 = 26.0833 as mentioned above that sales are at 2 month credit
means 26.0833*2 = $52.1667 for two months here always remember to calculate the
cash cost for sales not value of the sale for debtors
Expenses paid in advance other expenses paid in advance will be included
but tax paid in advance will not be included
(B) Estimation of current liabilities (CL):
Creditors for materials these creditors are paid 1.5 month in arrear and we know
the total amount of the material used per month (210/12)
Add:
Creditors for expenses; as mentioned that all expenses are paid in one month arr
ear so denominator is 12 as 12 months in year (wages + manufacturing expenses+ s
elling overheads)
(Continued…………..)
Please read Working Capital planning and management (part-2) as this topic is co
ntinued

Case 4: (all amounts in $) (back to

top)
ABC Company sells goods in domestic market on a gross profit of 25% (excluding d
epreciation) its estimates for the next year are as follows:
Sales: Home market at credit of 1 month
150
Export at credit of 3 months selling price 10% below home market
70
Material used (credit period allowed 1 months)
60
Wages paid (in 0.5 month arrear)
45
Manufacturing expenses (cash) paid in arrear of 1 month
70
Depreciation of fixed assets
10
Administrative expensive paid in arrear of one month
15
Sales promotion expenses (payable quarterly in advance)
10
Income-tax payable in 4 installments one of them is advance payment
20
Company keeps stick of raw material and finished goods that would enough to fulf
ill requirements for 1 month, minimum desired cash balance is $3
You are required to calculate needs for working capital after adding 20% margin
for contingencies
Solution:
(A) Estimation of current assets (see detailed explanation and notes (2.4) for c
alculations)
Minimum desired cash and bank balance
3
Add:
Inventory;
Raw material,
5
Work-in-process,
0.00
Finished goods 15.833
Debtors
Domestic market
9.375 export market
58.33
Expenses paid in advance
2.5
Total
94.0383
(B) Estimation of current liabilities (CL): (see detailed explanation and notes
(2.4) for calculations)
Creditors for materials
10
Add:
Creditors for expenses;
Wages
1.8750
Manufacturing expenses
5.8333
Administrator expenses
1.25
Selling overheads
0.00
Total
18.9583
Net working capital = total of A less Total of B (NWC) (A-B)
(94.0383 – 18.9583)
75.08
Detailed explanation and notes (2.4) (back to top)

(A) Estimation of current assets

Minimum desired cash and bank balance this is already mentioned in the
question
Add:
Inventory;
Raw material, material enough for one month operation is held as inventory and
for the whole year total material worth $60 is required do for one month compan
y need 60/12 = 5
 Work-in-process, no WIP inventory is mentioned in question
Finished goods total cash cost at finished goods is for working capital
purpose
Material used
60
Wages paid
45
Manufacturing expenses
70
Administrative expensive 15
Total 190
Total cost at finished goods is 190 for 12 month
s and for 1 month
It is 190/12 = 15.833
Debtors For home market debtors outstand for 1 month and sales I sat 25% profit
so the cost of goods sold is 1-.025 = 0.75 and for whole year the cash cost of g
oods is 150*0.75 = 112.50 and for 1 month It is 112.50/12 = 9.3750, For foreign
market it is mentioned that selling price 10% below home market so if we first c
onvert into home market price value by dividing it by 90% (100-10) we will get 7
0/0.9 = 77.78 and now we know that at home market there is 25% profit so 77.78*0
.75 = 58.33 is cash cost for sales in export market
Note: in such questions one is limited to relay upon sales figure but if
units sold or unit sale price is given then this figure also can be drawn from
that figures but no doubt the figure will be same
Expenses paid in advance sales promotion expenses are paid in advance and
as this is quarterly in advance for one quarter these would be 10/4 = 2.5 and
as
(B) Estimation of current liabilities (CL):
Creditors for materials total material required for 12 months is of $60 and $5 f
or one month, credit limit is 2 months so 2*5 = $10 creditors outstanding
Add:
Creditors for expenses;
Wages wages are paid 0.5 month in arrear and total for 0.5 months are (45/12)*
0.5 = 1.8750
Manufacturing expenses manufacturing expenses are paid 1 month in arrear and fo
r one month these are 70/12 = 5.8333
Administrator expenses these expenses are paid in arrear of 1 month are require
ment for one month is 15/12 = 1.25
Selling overheads these are paid in advance and are added
in current assets

Case 5: (all amounts in $) (back to

top)
You are provided with the following information by ABC Company
100% capacity (Units)
100
Standards cost per unit
($)
Material (maintained 2.25 month stock credit limi
t is 1 month) 40
Direct labor and variable expenses (time lag in payment is one month)
20
Fixed manufacturing expenses (credit limit is for 1 month)
6
Depreciation on fixed assets
10
Fixed administrative expensive (credit limit is for 1 month)
4
Total
80
Selling price per unit is expected @ 96 per unit after incurring $5 (80% variabl
e) and debtors are allowed 1 month credit limit selling expenses in first two ye
ars production and sales are estimated as follows
Year production (units)
sales
1 50
42
2 75
70
After considering the information provided above calculate working capital requi
rements for year 1 and year 2 respectively while minimum desired cash balance is
$50
Solution: (year 1)
(A) Estimation of current assets (see detailed explanation and notes (3.5) for c
alculations)
Minimum desired cash and bank balance
50
Add:
Inventory;
Raw material,
375
Work-in-process,
0.00
Finished goods
640
Debtors
301
Expenses paid in advance
0.00
Total
1366
(B) Estimation of current liabilities (CL): (see detailed explanation and notes
(3.5) for calculations)
Creditors for materials
197.92
Add:
Creditors for expenses;
Wages
83.33
Manufacturing expenses
50
Administrative expenses
33.33 Selling overheads
25
Total
389.5767
Net working capital = total of A less Total of B (NWC) (A-B) (1366-389.5767)
976.4233
Detailed explanation and notes (3.5) (back to top)
(A) Estimation of current assets
Minimum desired cash and bank balance: This is mentioned in the question
Add:
Inventory; Raw material, raw material of $40 is for one unit of finished go
ods and $2000 for 50 units and this is the requirement for whole year but invent
ory to be maintained is for 2.25 months that will be of (2000/12)* 2.25 = $375
cost
Work-in-process, no WIP is mentioned in question
Finished goods total cash cost at one unit of finished goods is
Material:
40
Direct labor and variable expenses
20
Fixed manufacturing expenses (100*6)/50
12
Fixed manufacturing expenses (100*4)/50
8
Total
80
(Note: Always fixed expenses are assigned based on 100% capacity)
So $80 is standard cost for one finished goods unit and total for the 1st year i
s 50*80 = $4000 and for ending inventory of 8 units is 8*80 = 640
Debtors sales for the whole year is 42 units and we have calculated cash cost of
the units sold and total cost associated with units sold is
Unit cash cost of finished goods = $80
Selling expenses
Fixed (5*0.2*100)/50 = 2 as 20% is fixed and should charg
ed at full capacity
Variable (5*0.8*50)/50 = 4
Total = 6
And total cash cost associated with units sold is 80+6 = $86 for 1st yea
r and for 42 units this is $3612(for whole year) and as credit limit for debtors
is for one month so for one month it is $301 (3612/12)
Expenses paid in advance no such expenses mentioned
(B) Estimation of current liabilities (CL):
Creditors for materials in this section always remember that how much material i
s consumed is not related but how much material purchased is related here so
Material used (50*40) 2000
(Material for 2.25 month is stocked) Add: ending inventory (2000/12)*2.25
375
Less: opening stock 0.00
Total material purchased 2375
This 23750 for whole year but as credit limit from creditors is for 1 month so 2
375/12 = $197.92 is amount outstanding for one month
Add:
Creditors for expenses; (credit limit related to expenses is 1 month)
Wages units produced * direct labor per unit =
(50*20)/12 83.33
Manufacturing expenses all are fixed so (100*6)/ 12
50
Administrative expenses all are fixed so (100*4)/ 12
33.33
Selling overheads
Fixed ((5*0.2)*100)/ 12
8.33
Variable ((5*0.8)*50)/ 12
16.67 25
Solution: (year 2)
(A) Estimation of current assets (see detailed explanation and notes (3.5) for c
alculations)
Minimum desired cash and bank balance
50
Add:
Inventory;
Raw material,
562.50
Work-in-process,
0.00
Finished goods
961.6476
Debtors
490
Expenses paid in advance
0.00
Total
2064.1476
(B) Estimation of current liabilities (CL): (see detailed explanation and notes
(3.5) for calculations)
Creditors for materials
265.6250
Add:
Creditors for expenses;
Wages
125
Manufacturing expenses
50
Administrative expenses
33.33 Selling overheads
33.33
Total
507.2850
Net working capital = total of A less Total of B (NWC) (A-B) (2064.1476 - 507.28
50) 1556.8626
Detailed explanation and notes (4.5) (back to top)
(A) Estimation of current assets
Minimum desired cash and bank balance: This is mentioned in the question
Add:
Inventory; Raw material, raw material of $40 is for one unit of finished go
ods and $3000 for 75 units and this is the requirement for whole year but invent
ory to be maintained is for 2.25 months that will be of (3000/12)* 2.25 = $562.
50 cost
Work-in-process, no WIP is mentioned in question
Finished goods total cash cost at one unit of finished goods is
Material:
40
Direct labor and variable expenses
20
Fixed manufacturing expenses (100*6)/75
8
Fixed manufacturing expenses (100*4)/75
5.33
Total
73.33
(Note: Always fixed expenses are assigned based on 100% capacity)
So $73.33 is standard cost for one finished goods unit and total for the 2nd yea
r is 75*73.33 = $5499.75 and for ending inventory it will be
Cost of opening inventory (8*80)
640
Cost of current inventory (75*73.33)
5499.75
Total cost
6139.75
For ending inventory (6139.75/83)*13 (8+75-70 = 13) 961.6476
Debtors sales for the whole year is 70 units and we have calculated cash cost of
the units sold and total cost associated with units sold is
Unit cash cost of finished goods = $80
Selling expenses:
Fixed (5*0.2*100)/ 75 = 1.33 as 20% is fixed and should charged at fu
ll capacity
Variable (5*0.8*50)/ 75 = 2.667
Total = 4
And total cash cost associated with units sold is 80+4 = $84 for 2nd yea
r and for 70 units this is $5880 (for whole year) and as credit limit for debtor
s is for one month so for one month it is $490 (5880/12)
Expenses paid in advance no such expenses mentioned
(B) Estimation of current liabilities (CL):
Creditors for materials in this section always remember that how much material i
s consumed is not related but how much material purchased is related here so
Material used (75*40) 3000
(Material for 2.25 month is stocked) Add: ending inventory (3000/12)*2.25
562.50
Less: opening stock 375
Cost of total material purchased 3187.50
This amount $3187.50 is for the whole year but as credit limit from creditors of
expenses is for 1 month so
3187.50/12 = $265.6250 is amount outstanding for one month
Add:
Creditors for expenses; (credit limit related to expenses is 1 month)
Wages units produced * direct labor per unit =
(75*20)/ 12 125
Manufacturing expenses all are fixed so (100*6)/ 12
50
Administrative expenses all are fixed so (100*4)/ 12
33.33
Selling overheads
Fixed ((5*0.2)*100)/ 12
8.33
Variable ((5*0.8)*75)/ 12
25 33.33
Case 6: (all amounts in $) (back to
top)
Consider the following data
($) ($)
Sales
1000
Less: cost of sales
Material (at credit)
600
Other costs
200 800
Profit
200
Following working capital ratios expected to apply
Inventory days
30 days
Receivables days
60 days
Payable days
40 days
Compute working capital required
Solution:
As we are required to determine working capital requirement means how much amoun
t the entity needs to which above data relates
Raw material inventory remains 30 days in stock in a year means at average it re
mains
30/365 = 0.0822 days and total cost for this inventory is $6 so total cost of av
erage inventory outstanding is 600*0.0822 = 49.31 or $49
Receivables remain outstanding for 60 days in a year and at average 60 / 365 = 0
.1644 days and total sale is for $1000 so average debtors outstanding is 1000 *
0.1644 = 164.40 or $164
Trade payables are outstands for 40 days a year and at average 40/ 365 = 0.1096
and total cost of material purchased is $600 so average outstanding payables are
600 * 0.1096 = 65.76 or $66
So total working capital required is 49+164-66 = $147
Hint: so such type of questions and cases always remember that the ratio given i
n days relate to whole period and cost of others items relate to one time
Additional Notes
• Where there is mentioned about expenses that means overheads, administra
tor and selling expenses we have to wither a particular amount is related to exp
anse or not like buying material is not an expense as we are buying an asset
• Creditors for material include vendor of raw material and components i.e
. the raw material for that entity

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