RAC measures are therefore useful as a management tool, in that they link short-term policy with long-term decision making. As a management tool, this metric makes explicit the interrelatedness of decisions relating to inventories, accounts receivable and payable, and cash. It includes buying of raw material and selling of finished goods either in cash or on credit. For example, a company that pays its suppliers in 30 days but takes 60 days to collect its receivables has a working capital cycle of 30 days. Positive Working capital is essential for your company to meet its continuous operational needs. Besides this, the lead times in production should be lowered to reduce Work in Process IP and similarly, the Finished Goods should be kept on as low http://www.albawaba.com/business/pr/mashreq-al-islami-sets-pace-11th-islamic-business-finance-awards-916158 level as possible to avoid over production—see Supply chain management ; Just In Time MIT; Economic order quantity EOQ; Economic quantity Debtors management. Positive working capital generally indicates that a company is able to pay off its short-term liabilities almost immediately. This 30 day cycle usually needs to be funded through a bank operating line, and the interest on this financing is a carrying cost that reduces the company’s profitability.
Credit.olicy of the firm: Another factor affecting working capital management is credit policy of the firm. Understand Yahoo’s acquisition strategies and how the company has been able to make so many acquisitions. Increases in working capital, on the other hand, suggest the opposite. Therefore, companies strive to reduce their working capital cycle by collecting receivables quicker or sometimes stretching accounts payable. For example, a company may do significantly more business over the holidays, resulting in large pay-offs at the end of the year. These types of businesses raise money every time they open their doors, then turn around and blow that money back into inventory to increase sales. Companies with negative working capital may lack the funds necessary for growth . also called net current assets or current capital.