Examine the key reasons why a business may not want to hold too much or too little working capital. Provide two (2) examples that illustrate the consequences of either situation.
Working capital is used by the firm to determine its ability to meet the short term obligations. The issues considered here are the current assets that include the cash receivables, the cash and cash equivalents as well as the inventory to have a picture of the available current asset. Firms hold the working capital for three major reasons
The first is the transaction needs. These are the cost that are payable at regular basis on a routine manner. They include the monies that the firm collects on a routine basis which are usually very predictable. The second reason of holding working capital is the precautionary scenarios. This includes the need to meet unexpected future cash payments or to meet unforeseen fluctuation in the inflows. Thirdly, firms hold working capital for speculative reasons. This is meant to give the firm a bargaining power in situation of bargaining purchases and opportunities (Brigham & Ehrhardt, 2014)
The right amounts to be held as the working capital depends with the industry and the nature of the activities of the firm. If the services are involved and no much cash payments are needed, lower working capital will be needed. If the firm holds too much working capital, the effect is having idle funds that are not earning any returns (Michalski, 2014). Having too low cash on the other hand implies financial difficulties in the meeting the current obligations and may lose out on some bargains
From the scenario, analyze TFCâ€™s cash budget to determine key methods in which the budget may be optimized (e.g., by renegotiating terms and conditions on some of its payables, etc.). If you believe that there is room for improvement, recommend key strategies for TFC to use in order to optimize its cash budget. If you do not believe that this is the case, provide a rationale for your response.
From the scenario, it is important to shorten the dayâ€™s sales outstanding as well as changing the schedule for dividend payouts. The firm also needs to take care of the discounts offering to the customers. This is because the large portion of customers, at 45 percent take advantage of the discounts since they are offered a month to pay the dues. Almost half of the customers are paying their dues in the moth that do not match with the month of the expense. TFC therefore need to concentrate on improvement of pay performance and the cash collection enhancement for proper cash budgeting.
Brigham, E. F., & Ehrhardt, M. C. (2014). Brigham, E. Financial Management: Theory and Practice, 13e, 13th Edition. (13 ed.).
Michalski, G. (2014, april). value-based working capital management. Retrieved from www.palgraveconnect.com/pc/doifinder.10.1057/97811…