1. Estimating Working Capital Requirement Using Operating Cycle Method
X Ltd Co. wants to estimate its working capital using the operating cycle method when:
- Estimated sales 20,000 units @ $5 P.U.
- Production and sales will remain similar throughout the year
- Production costs: Materials – 2.5 P.U., Labor 1.00 P.U., Overheads $17,500
Customers are given 60 days of credit and 50 of days credit from suppliers. The 40-day supply of raw materials and a 15-day supply of finished goods are kept in store.
The production cycle lasts 20 days. All materials are issued at the start of each production cycle. One-third of the average working capital is kept as a cash balance for contingencies.
|Total Op. Exp. For the Year||$|
|R.M. 20,000 x 250||50,000|
|Labor 20,000 x 1||20,000|
|Period of Production cycle||Days|
|Material storage days (pds.)||40|
|Finished goods storage (pds.)||15|
|Production cycle storage (pds.)||20|
|Av. collection (pds.)||60|
|Less: average payment (crs.)||50|
(c) No. of operating cycles in the year = 365 / 85 = 4.3
(d) Working capital = 87,500 / 4.3 = $20,349
Add: Reserve for contingencies 1 / 3 = 6,789 / $27,132
2. Using Working Capital Method
|Raw materials (needed)||10,000|
|Average credit givers:|
|Local sales 2 weeks credit||1,56,000|
|Outside sales 6 weeks credit||6,24,000|
|Time lag payment:|
|For purchase (4 weeks)||1,92,000|
|For wages (2 weeks)||5,20,000|
Contingencies allowances = 15%
Required: Calculate the amount of working capital.
|Stock of Store||$16,000||$26,000|
Account Receivables (Drs)
Local sales = (1,56,000 x 2) / 52 = $6,000
Outside sales = (6 x 6,24,000) / 52 = $72,000
Less: Current Liabilities
Accounts Payables (Crs.) = (1,92,000 x 4) / 52 = $14,770
O/S Wages = (5,20,000 x 2) / 52 = $20,000
Add: 15% for contingencies = 10,385
Total working capital required = $79,615
3. Using Cash Forecasting Method
John Trading Co. has asked you to prepare a working capital forecast using the following information:
- Issued share capital: $400,000
- 8% deb.: $1,50,000
- Fixed assets are valued at $300,000
- Production: 100,000 units.
- Expected ratios of cost to selling price are: R.M. 50%, Wages: 10%, Overheads: 25% = 85%
Raw materials remain in stores for 2 months, finished goods remain in stores for 4 months, the credit allowed by crs. is 3 months from the date of delivery of goods (Rm), and the credit given to Drs. is 3 months from the date of dispatch.
The production cycle is 2 months. Additionally, the sale price per unit is $6, and production and sales are uniform throughout the year.
4. Using Projected Balance Sheet Method
Libro Ltd. has $350,000 share capital, $70,000 G.R., $300,000 fixed assets, $30,000 stock, $97,500 Drs., and $15,000 Crs.
The company proposes increasing the business stock level by 50% at the end of the year. Credits are doubled and it is proposed that machinery worth $15,000 should be purchased.
Estimated profit during the year is $52,500 after changing $30,000 depreciation and 50% of profit for taxation. Advance income tax is estimated at $45,000. Credits are likely to be doubled, 5% dividends will be paid, and 10% dividends are to be proposed for the next year.
Drs. are estimated to be outstanding for 3 months. The sales budget shows $750,000 as sales for the year to make a working capital forecast by the projected balance sheet method.
|(i) Sh. cap.||Fixed assets||300,000|
|Cap. (Given)||350,000||350,000||M. proposed purchase||15,000|
|Res. and surplus||70,000||Less dep.||315,000|
|Less dividend 10%||52,500||285,000|
|+ Profit after tax||105,000||70,000||Stock 30,000 + 50% add. drs. 15,000||45,000|
|Less proposed div. 10%||35,000||Adv. tax 45,000||187,500|
|+ (k) 15,000||30,000|
|O/D (balance figure)||25,000||170,500|
Speak to a Financial Advisor
Finance Strategists works hand in hand with only the top-notch financial advisors in the country. Speak with a financial advisor in Haverhill, MA today to discuss about your finance queries. If you are outside the area, get a list of the areas we serve by checking out our financial advisor page.