Updated July 19, 2023

Definition of Working Capital Management Importance

Working capital management is the system developed by the company’s direction to manage the company’s net working capital so that the working capital provides healthy working capital ratios and a better financial situation for the company to attract potential investors and stakeholders.

Explanation

A company’s working capital is the excess of the current assets the company holds over the current liabilities and debts. Working capital management becomes important for the Management of the company because the healthier working capital of the company shows that the company is in a better position to handle the current obligations of the company and shows a reliable future scenario. The Management of the working capital helps the company to track the live changes in the working capital as well as manage the effective current assets ratio over the current liabilities of the company and utilization of any over and above idol funds of the company for increasing the net performance of the company.

Importance of Working Capital Management

There are lots of key importance of the working capital management for the company, and some of them are as follows:

The Management of the working capital of the company helps in maintaining the stability of the company. As we know, the company’s working capital ensures the business’s daily functioning by keeping the healthy current assets over the current liabilities of the company. In this scenario, the Management of the working capital plays a crucial role, as the negative working capital of a company may result in distrust in the stakeholders and can halt the continuation of daily business activities.
As the working capital includes two major financial parts of a company – The Current Assets & The Current Liabilities, the Management of the working capital extends to the Management of the current assets and current liabilities of the company. Simply put, the Management of the working capital also includes the Management of the Accounts Payable, Accounts Receivables, cash & cash equivalents, and inventory management. All of these parts relate to the daily running of the business.
The Management of the above-defined parts of the working capital can benefit the company’s performance. The Management of the Accounts payable helps the company to make timely payments for the daily required purchases made by the company. It enables the company to comply with any legislative rules and laws. In the same way, the Management of the Accounts receivable and the cash & cash equivalents ensures the collection of funds over the period and maintains the proper balance for the smooth running of the business activities.
The working capital management of the company enables the company to manage and maintain an adequate and sufficient amount of working capital for the company which also helps in the trustworthiness of the company’s performance and helps the company in case the company requires the sanction of some loans for its business projects or operation of the business. The assets held by the company are also a basis for the sanction of the loan amount. Still, the loan sanctioned on the basis of the net-working capital of the company increases the reputation of the company within the public. It may even boost the company’s market share in the case of a registered public company.
The proper Management of working capital also enables the company to identify idle funds in case they are available and put them to good use for the company’s benefit. As the working capital ensures the day-to-day running of the business, which helps maintain the company’s healthy cash flow with the relevant cash outflow. The shortage of cash is a deteriorating situation for the company, but at the same time, an overflow of cash inflow is also not healthy for the company. The idle funds available with the company could be found during the evaluation of the working capital ratio of the company, where the balance of the current assets of the company and the current liabilities of the company are measured. The idle funds are not generating any returns for the company. In that case, the company can invest those funds in good investments and earn some good returns for the company, or the same could be used in the expansion of the business further.
Working capital management helps the company track the regular changes in the working capital of the company. The continuous increase in the working capital denotes that the company funds are blocked either in the investments or the accounts receivable, which triggers the immediate action on recovery of the amount and putting the amount in the use of the business. Same the continuous decrease in the working capital denotes the continuing building up of liability and a relatively lower rate of increase in current assets, which also triggers the event where the Management of the company needs to look at the business’s operating cycle and maintain it.

Conclusion

The company’s working capital plays a big role in day to day running of the business as well as the long-term running of the business. The increase in goodwill of the industry through the proper Management of the working capital of the company helps in the long run of the business as well as maintaining a good proportion of the market shares. The optimization of the working capital over the period of time increases the profitability of the business and helps in better functioning of business operations, and helps in maintaining the core competitive advantage over the other companies. So the Management of the working capital is necessary as it could either lead to success in the business in the future or bankruptcy in case of no proper management of the working capital.