Chapter 13 • Management of working capital
Figure 13.3
Financing
the business
The more permanent elements (non-current assets and fixed working capital) should
generally be financed by long-term sources. The fluctuating element of working capital
should be financed from short-term funds.The use of accounting ratios in the management of working capital
Accounting ratios are widely used in the management of working capital. Some of the
ratios used are:l the current ratio (current assets/current liabilities);
l acid test (quick assets) ratio (liquid assets/current liabilities); and
l no credit period (liquid assets/average daily cash running costs).You may care to look back at Chapter 3 for more details of these ratios.
Probably, managers can best use these ratios for monitoring the actual liquidity
position and comparing it constantly with some standard or target figure, taking steps
to correct any significant deviations. The standard might be one that emerges from
within the business, or an industry average, or perhaps some combination of the two.
One way or another, businesses should actively seek to maintain liquidity and the
confidence of short-term trade payables that they will be paid.13.5 Overtrading
The problem
A particular business, in particular circumstances, will have particular working cap-
ital requirements, though precisely what these are is a matter of managerial judgement.
For example, the management of a retailer, with a particular level of demand for its
merchandise, will decide on a level of inventories requirement. If demand were to
alter, a different level of inventories holding would normally be required. A doubling
of the level of demand would not necessarily imply a need to double inventories
levels, but it would normally imply a need for a significant increase in the amount of