Financial management

Since the business should atleast  be capable of earnings so much revenue has to be able to meet its cost of capital and to finance its growth ,cost of capital of a firm constitutes a crucial factor in most financial decisions. It is  relevant both to capital budgeting and capital structure planning, the main areas in financial management. In Capital budgeting decisions, cost of capital may be taken has the discounting rate .Obviously ,if a particular project gives an internal rate of return higher than its cost of capital, it should be an attractive opportunity. Capital structure decisions, the cost of capital is an important consideration along with the risk factor . For example loan maybe cheaper but it entails higher risk of  cash insolvency as also of variation in the earnings per share due to the financial leverage effect. It is therefore essential that the cost of each source of funds is carefully considered and compared with the risk involved in it.

The cost of capital of a firm refers to the the cost that a firm incurs  in retaining the funds obtained from various sources (i.e equity shares, preference shares ,debt, retained earnings)   Components of cost of capital The overall cost of capital of a firm consists of the cost of various segments of the total funds,which maybe identified as follows: Cost of debt capital i.e.debentures and loans from various institutions Cost of preference capital Cost of equity capital Cost of retained earnings

Let us discuss the sources of Financing working capital one by one: Trade credit Text refers to an arrangement where by the supplier of raw material, components, stores and spares parts ,finished goods, allow the customers to pay their outstanding balances within the credit period allowed by them. Generally suppliers grant credit for period of 3 to 6 months and thus provide certain funds to finance current assets .The availability of trade credit depends upon various factors such as nature and size of firm ,status of the firm,activity level of the firm policy of trade credit suppliers ,prevailing economic conditions etc. Trade credit may be allowed in the shape of open account of bills payable.The major advantage of trade credit include ready availability ,absence of issue formalities etc. The major limitation trade credit is that it involves loss of cash discount which could be earned if payments were made within 7 to 10 days from the date of purchase .This loss is regarded has cos...

Working capital requirements of an enterprise depend on a variety of factors. These factors affect different Enterprises differently and  vary from time to time. These factors are shown below: Nature of business the working capital need sir basically influential by nature of the business the proportion of current assets total assets measures the relative requirements working capital of various industries Size of the business the size of the business also affect the working capital needs size may be measured in terms of the scale of operations larger the scale of operations Raja will be the form working capital requirements small of the scale of operations smaller will be the forms working capital requirements Manufacturing cycle  manufacturing cycle also affects the working capital news needs manufacturing cycle refers to the time gap between the purchase of raw materials and the production finished goods lost at the manufacturing cycle larger will be the forms working ...

Optimum working capital can be can be determined  only with reference to particular circumstances of a specific situation. An optimum working capital is dependent upon the business situation as such and the nature and composition of various current assets. A company having short conversion cycle like a vanaspati manufacturing company may have a     lower current ratio. On the other hand ,a company having longer conversation cycle like heavy equipment manufacturing company may have higher current ratio since it has to  carry  large inventories and debtors.

Operating cycle is the duration of time half time between acquisition of surprise and collection of cash from receivables Operating cycle in a trading firm is the length of time required  to convert cash into inventory into  finished goods  to convert Inventory of finished goods into receivables  to convert receivables into cash   Operating cycle in a manufacturing firm is the length of time required:  to convert cash into inventory of raw materials  to convert Inventory of raw materials into work in progress  to convert inventory off work in progress into finished goods  to convert Inventory of finished goods into receivables  to convert receivables into cash

Meaning of working capital Working capital refers to funds required to be invested in the business for a short period usually up to 1 year. It is also known as short-term capital or  circulating capital. Purpose of working capital Working capital is required to meet day to day operating expenses and for holding stocks of raw materials, spare parts ,consumables ,work in progress and finished goods and book debts. More specifically working capital is needed : To holder stock of raw materials for such a period so as to facilitate  uninterrupted supply of raw materials to production process  to hold a stock of work in progress for process period  to hold stock of finished goods for such a period so as to meet the demands of customers on continuous basis and sudden demand from some customers  to grant credit to its customers for marketing and competitive reasons  to hold cash balances to meet the manufacturing office and administrative selling and ...