IB Business and
Management
3.3 Working Capital
Learning Outcomes
• Define Working Capital and explain the Working
Capital Cycle
• Prepare a cash-flow forecast from given information
• Evaluate strategies for dealing with liquidity
problems
What is Working Capital?
• The funds available for day-today operations of an
organisation
• It is used as a measure of both
a company's efficiency and its
short-term financial health
• A firm with insufficient working
capital is said to have liquidity
problems
Working Capital = Current Assets - Current Liabilities
Working Capital Questions…
• What are the day-to-day running costs of a
business likely to be?
• What will happen if a business can’t afford to
pay these running costs?
• What is a ‘Current Asset’?
• What is a ‘Current Liability’?
Current Assets
A current asset is an asset which can either be
converted to cash or used to pay current
liabilities within 12 months
What are these assets likely to be?
Current Assets = Cash + Stock + Debtors
Current Liabilities
Current liabilities are the liabilities (debts) of the
business that are to be settled within the fiscal year
Who might a business owe money to?
Likely current Liabilities =
Overdrafts
Short term loans
Creditors
Unpaid Tax
Unpaid Dividends
Accrued utilities charges
So why is working capital so
important?
Insufficient working
capital is a bigger
cause of business
failure than a lack of
profitability
Are there any other
benefits of having
plenty of working
capital available?
Benefits of good working capital
management
•
•
•
•
•
Enhanced goodwill
Less reliance on borrowing (less interest to pay)
Easier to obtain finance
Ability to respond to opportunities
Ability to face crises
Working Capital Cycle
How long might
each of these
stages last?
Which businesses
are likely to have
long working
capital cycles?
What would the
problems be of a
long working
capital cycle?
How could
businesses reduce
the length of their
working capital
cycle
Predicting the future……
CASH FLOW FORECASTING
What is Cash?
• Cash includes all the money
a business has in coins and
notes
• It also includes money which
they have in the bank
What is Cash Flow?
Cash Flow is concerned
with:
The timings and amounts
of cash inflows and cash
outflows
Task – 2 minutes
You have 2 minutes to
think about where a
business might
receive money
You have 2 minutes to
think about what a
business might need
to spend money on
These are called Cash
Inflows/Receipts
These are called Cash
Outflows/Payments
Write them on the board
Cash Sales
Loans
Owners Capital
Grants
Debtor payments
Rental Income
Interest
Cash purchases
Paying creditors
Pay Production Costs
Buy Equipment
Loan Repayments
Tax payments
Dividends
CASH FLOW VS PROFIT
Cash Flow Vs Profit
• In the long term businesses should be
aiming to make a profit…..
• However in the short term having enough
cash is more important.
Cash flow and profit Are NOT
the same!!!!
Profit
Profit = Revenue – Costs
Cash Flow
Net Cash Flow = Cash
Inflows – Cash Outflows
Revenues and costs are
recorded at the time of
the transaction
Inflows and outflows are
recorded at the time the
cash transfer occurs
Imagine a business had the following inflows/outflows in
April………………..
Cash Sales
Loans
Owners Capital
Grants
Debtor payments
Rental Income
Interest
Cash purchases
Paying creditors
Pay Production Costs
Buy Equipment
Loan Repayments
Tax payments
Dividends
Look at these cash flows……. Would each of these types of
inflow/outflow be included in the profit calculation for
April?
Task
Look at the following and decide whether
they would immediately affect cash
flow/profit or both…..
Receiving a bank loan
Cash Flow
Profit
Both
Making a cash sale
Cash Flow
Profit
Both
Making a credit sale
Cash Flow
Profit
Both
Purchasing stock with cash
Cash Flow
Profit
Both
Paying wages
Cash Flow
Profit
Both
Receiving a government
grant
Cash Flow
Profit
Both
Buying stock on credit
Cash Flow
Profit
Both
The value of a car
depreciates
Cash Flow
Profit
Both
A debtor settles his account
for goods purchased last
month
Cash Flow
Profit
Both
The business buys a new
vehicle by cheque
Cash Flow
Profit
Both
Tax bill is paid to the
government
Cash Flow
Profit
Both
A building is sold for more
than was paid for it
Cash Flow
Profit
Both
NET CASH FLOW
Net Cash Flow?
• NET CASH FLOW is the difference between the
cash coming into and going out of the business
and can be POSITIVE or NEGATIVE
• Net Cash Flow = Cash Inflows – Cash Outflows
Positive Net Cash Flow
Negative Net Cash Flow
Cash flow forecasts
• A cash flow forecast is
a financial document
that predicts what the
firms inflows and
outflows will be over a
period of time
Why is it useful for a firm
to produce a cash flow
forecast?
Why do businesses need to forecast
cash flow?
• They may need to produce a cash flow forecast as
part of a business plan
• Allows the firm to spot any months when there will
be a cash shortage and give them time to take
action or plan for this
• Provides targets for the firm….. If real cash flow is
different from what is forecasted they need to
investigate why
• Can spot any times where there are cash surpluses
and decide what to do with these
An Example
Open Balance
Jan
Feb
Mar
Apr
May
Jun
£150
-£50
£50
£450
£1450
£1250
£1000
£1000
£1500
£1200
£1200
£1500
Inflows
Sales
Grant
Total Inflow
£1000
£1000
£1000
£1500
£2200
£1200
£1500
Wages
£500
£500
£500
£500
£500
£500
Stocks
£500
£400
£600
£500
£900
£400
Electric
£200
Total Outflows
£1200
£900
£1100
£1200
£1400
£900
Net Cash flow
-£200
£100
£400
£1000
-£200
£600
Closing Balance
-£50
£50
£450
£1450
£1250
£1850
Outflows
£200
Activity – Ben’s Burger Bar
• Using the question sheet and the blank cash flow
sheet attempt fill in the titles for inflows and
outgoings on the table
Now try entering the information that you
have been given into the cash flow
forecast
Total up the Inflows for each month and
enter into the Total Inflows cell
Total up the Outflows and enter into the
Total Outflows cell
Now Work out the Net Cash flow for each
month by subtracting the Total Outgoings from
the Total Incomes.
Net Cash flow =Total Income – Total Outgoings
Finally- Now fill in the Closing Balance by
adding the Net Cash flow to the Opening
Balance.
The Closing Balance becomes the
opening balance for the next month.
Fill in the missing figures
Jan
Feb
March
April
10,000
19,2008
21,300
22,800
Sales
5,000
6,000
5,000
7,000
Bank Loan
8,000 1
13,000
6,000
5,000
7,000
Rent and Rates
1,000
1,000
1,000
1,000
Raw Materials
1,500
1,900 3
1,500
2,000 5
Wages
1,000
1,000
1,000
1,000
Utilities
300
0
0
300
Total Outflows
3,800 2
3,900
3,500 4
4,300
Net Cash Flow
9,200
2,100 6
1,500
2,700
Closing Balance
19,2007
21,3009
22,800
25,500
10
Opening Balance
Inflows
Total Inflows
Outflows
Now for some IB Questions
Warning! Pick a cash flow
question with caution!!
Cash flow questions can be
time consuming
Usually only 6 marks
available to construct a whole
cash flow forecast from
scratch
Task – 10 mins
• Complete the cash flow forecast for Rizzo Fashions
So…. What could cause a business to have cash flow
problems?
CASH FLOW PROBLEMS
(AND HOW TO FIX THEM)
How could each of these factors
lead to cash flow problems?
Overtrading
Not keeping
enough
retained
profit
Poor
Profitability
Overstocking
Money tied
up in fixed
assets
Causes of
cash flow
problems
Lack of
planning
(too much
inventory)
Poor credit
control
Seasonality
Unforeseen
changes
What could be done
to prevent these
issues causing a
problem?
Task - Pairs
•
•
•
•
Evaluating solutions to cash flow problems
Each pair will be given some causes to focus on
Discuss some solutions and fill in the google doc
Share your solutions with the class
Improving Cash flow
•
•
•
•
•
•
•
•
•
•
Reducing costs
Increasing selling price
Increasing sales
Increasing retained profits
Renting rather than buying
Borrowing money- arrange an overdraft or loan
Delay paying bills as long as possible
tighten up on credit given
Debt Factoring
Reducing stock levels
Homework Task – 25 mins
• Answer all parts of the NPF Question