WORKING CAPITAL MANAGEMENT AS A TOOL FOR COST MINIMIZATION AND PROFIT MAXIMIZATION

CHAPTER ONE

INTRODUCTION

1.1 BACKGROUND OF THE STUDY

Capital can be classified into two broad categories based on tenure viz. long term and short term capital.

The long term capital of firms is committed to investment in fixed assets. It includes shareholders’ funds and long term loans. On the other hand, short term capital is applied for investment in current assets such as cash, marketable securities and short- term credits. Current assets are usually acquired very often in varying quantities depending on the demand structure for the firm’s product. Each time a decision to acquire current assets is taken, finance becomes inevitable.

However, it does not necessarily mean that cash has to be paid each time an order for recurrent production input is placed, rather it implies that just like in the case of fixed assets, every decision on current assets has financial implications. For instance, a firm has to decide how much of the material used for production of goods and services are to be on credit or on cash and carry basis. it also has to determine what proportion of its sale has to be on credit. Also both the optimum and minimum stock levels for raw materials and work-in-progress (WIP) have to be determined and maintained at a given point in time.

Orjih (2001:85) refers to working capital as a firm’s investment in short –term assets cash, marketable securities, trade debtors and stock, less current liabilities used to finance the current assets. He stated that working capital management therefore means the planning and controlling of both current asset and current liabilities. It involves the administration of cash receivables, inventories, marketable securities and the current liabilities.

He also discussed the two aspects of working capitals the “gross working capital: This means that the firm’s investment in current assets. Current assets are those which can be converted in to cash within an accounting year and they

Include cash, short term securities, and debtor’s bills receivable and stock. Net working capital- this refers to the difference between current assets and current liabilities. Current liabilities are those of outside is which are expected to mature for payment within an accounting year.Net working capital can be positive or negative. It is positive when current assets exceed current liabilities and negative when current liabilities exceed current assets.

Davidson (1984:401) defined “working capital as “current assets less current liability”. He also defined it as “circulating capital”.

Weston &Brigham (1977:142) defined working capital management as “management decision on the amount of capital invested in various current assets and how this investment is to be financed”. It is fundamental and of great importance to a business as it enables the organization conduct its activities from free financial embarrassment.

Working capital management also aids the management to avoid the losses consequent upon incurring commitments below or above its capacity in ordinary course of business.

Retrof (1982:249) said that a firm should always maintain a sound working capital position for it to have enough to run its business activities. Both excessive as well as inadequate working capital position are dangerous from firm’s view point.

Excessive working capital means idle fund which means no profit for the firm, while inadequate working capital renders the firm unable to avail attractive credit opportunities and drastic reduction in the rate of return on total investment. The firm losses its reputation and capital base could be eroded, there by affecting the organizations credit worthiness.

Just as blood is life wire of any human being, the working capital of any company is the pivot around which its day-to-day operations revolve. it cuts across all departments and functions of an organization to the extent that all the organizational activities would ground to a halt of the working capital were not properly managed.

Therefore, the need for a sound and realistic working capital policy for a manufacturing from like Anambra Motor Manufacturing Company (ANAMMCO) becomes imperative

A BRIEF HISTORY OF ANAMMCO

The Anambra motor manufacturing company (ANAMMCO) was incorporated in 1977 as a private limited liability company. It was established in line with a joint venture agreement which the government entered with Daimler Benz Ag of Germany, now Daimler chyler AG (DCH) of Germany as the technical partners. The shareholding structure is presented as follows in table below:

Table 1: shareholding structure of Anammco

Shareholder’s percentage(%)

Daimler 40

Federal ministry of finance incorporated 35

Other investors 25

Source: National council on privatization secretariat bureau of public enterprises investment opportunities in Nigeria Auto motive industry.

According to the term agreement, the plant is to assemble/ manufacture Mercedes Benz brands of trucks and buses of different models and capacity.

The joint venture agreement provided some protection of the company through import restriction.

The company was to assemble commercial trucks and buses with payloads of 2.5 tons and above. The company started production of vehicles with pay load of 5 tons and above. The plant was commissioned on July 8, 1980 with actual production starting in 1981.

It has an installed capacity of assembling 750 vehicles per annum on all a single shift.

The plant is located at Enugu and preliminary inspection inspection revealed that the facilities were in good technical condition, which indicated a high standard maintenance. This actually reflected in the award to the company of 150900l certificate for total quality management.

Anammco is the second surviving vehicle plant in the country. It is producing at 10% of its installed capacity as clearly indicated in the company’s appendix 1.

1.2 Statement of The Problem

The present world economic hazard coupled with economic policies being operated in the nation has led to a situation where many business organizations have to fold up. Others barely survive by thriving on very lean financial and material resources. This is due to the mere fact that procurement of capital to finance their daily operations is increasingly becoming difficult. However, the efficient management and control of working capital can generate a considerable amount of internal financing.

The project topic seeks to analyze the Anambra motor manufacturing company’s (ANAMMCO) working capital and its segment. The study uses ration analysis as a measure of efficiency of working capital management. The topic will equally determine the extent to which the profitability of the company is dependent on the level of its working capital management, using the percentage ratio measurement.

1.3 Purpose of The Study

The objective of any study undertaken is to contribute to the development and growth of its case study. The purpose of this study includes:

  1. a) To show how working capital management can affect the profitability of the company.
  2. B) To examine the contribution made by the working capital management on the activities of a manufacturing company, with particular reference to ANAMMCO.
  3. C) To illustrate the ways in which working capital management can be used as a tool for cost minimization.
  4. D) To recommend where necessary and appropriate alternative working capital management technique practical and procedure to ANAMMCOs top officials.

1.4 Significance of The Study

This work, working capital management as a tool for cost, minimization and profit maximization will assist biz organization on their operations and enable them to formulate a working capital management that is suitable for their business environment in order to optimize the profit of their operations.

It is hoped that factors that defy the smooth operation of the company in an area of working capital will be identified. This will go a long way to aid the management in future planning of an ideal working capital management. Finally, it is hoped that recommendations of this work would be of great importance to the other manufacturing companies that may adopt them to suit their goals. This research work also intended to provide a base for further researches inthe area of working capital management, the government will benefits as efficient and effective working capital will bring about increase in profits which is taxable, and can also be used for expansion and employment criteria.

1.5 Research Questions

1 How does working capital management contribute to the activities of a manufacturing organization?

2 Does working capital management affect the profitability of a manufacturing concern?

3 Does working capital management lead to cost minimization in an organization?

4 What are the alternative working capital management techniques?

These questions when answered will show how well working capital management contribute s in serving as a tool for cost minimization and profit maximization in ANAMCCO.

1.6 Statement of Hypothesis

In other to determine the contribution, efficient working capital management had made towards the performance and growth of the company, it is important to test the following hypothesis:

H0: The profitability of a company does not depend on the level of company’s working management capital.

H1: The profitability of a company is dependent of the company’s working capital management.

H0: Working capital management is not a tool for management control in a business concern.

H1: working capital management is a tool for management control in a business concern.

H0: Ineffective working capital management has no effect on production.

H1: Ineffective working capital management is the cause of inefficiency in production.

1.7 Scope of the Study And Its Limitation

In the process of conducting this research topic, the researcher’s examination will only be concentrated on the case study of ANAMMCO. This research work will cover working capital management. The researcher intended as much as possible to conduct an adequate researcher but could not be achieved due to some constraints. Based on the developing nature of the nation’s economy and high demand of adequate working capital, there is every indication that there are constraints to the validity of the conclusion reached.

This study is limited by certain constraints required to write of, the cost incurred in making this project a success. Such limitations are as follows.

1) Lack of fund required to cover the cost of transportation, materials for working and typing the project and binding it.

2) Time factor: the time allotted for the completion of this study is too short for more objective of the results. An extension of the time given should be encouraged. The researcher is suggesting that project topic should be approved for the writer starting from the first semester of the academic session.

3) Co-operation from the staff of the company: The researcher, if not for the help of friends and well the company and libraries could have been so difficult. The management and staff thought that the researcher was about to carry out espionage to other competitors. It took the researcher some time to convince the management that the research is strictly for academic purpose.

4) Lack of exeat to leave school for research materials and to make more enquires.

1.8 Definitions of Terms

The following terms are defined in the contexts which are used in this research work:

1 Working capital management: This refers to the administration of current assets and current liabilities.

2 Working capital: Excess of current asset over current liabilities. It is also defined as capital available for day- to –day operations.

3 Current Assets: cash and other assets that are expected to turn into cash if sold or exchanged within the normal operating cycle of the firm usually one year.

4 Current liabilities: A debt or obligation that must be discharged within one year.

5 Gross working capital: This means that firms investment in current assets.

6 Net working capital: This refers to the difference between current assets and current liabilities.

7 Liquidity: Refer to the available of cash or near resources for meeting company’s obligations.

8 Profitability: Accounting for profit relation to asset used in business operation.

9 Cash flow: cash receipt less disbursement from a given assets or group of assets for a given period.

10 Effectiveness: This is the extent to which a predetermined goal or objective is achieved.

11 Efficiency: The extent to which inputs are used in relation to a given of output.

12 Re-order time: The time at which new stock is due for procurement.

13 Economic Order quantity: This is the optimum order quantity for an item of stock, which will minimize cost.

14 Spontaneous financing: Sources of financing that arises from ordinary business transaction.

15 Accounting: net liquid assets computed by deducting current liabilities from current assets.

16 Working capital is the cash available for day to day operations of an organization. One borrows cash to be able to buy assets or to pay for obligations.

REFERENCES

Davidson S.(1984) Management Accounting, Japan: Sauder’s

international.

Orji, J (2001) financial management, Enugu: Splash media

organization.

Retrof J V(1982) Small Business Management, New-York: MC Gram

Hall.

Weston, J.E and Brigham. E. (1972) Management Finance, Usa:

Wilhos Dryden

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