The working capital in a certain enterprise may be classified into the following types.
- Initial working capital
- Regular working capital
- Fluctuating working capital
- Reserve margin working capital
- Permanent and Temporary Working Capital
- Long Term working capital
- Short term working capital
- Gross Working Capital
- Net Working Capital
Table of Contents
Initial working capital
The capital, which is required at the time of the commencement of business, is called initial working capital. These are the promotion expenses incurred at the earliest stage of formation of the enterprise which include the incorporation fees. Attorney’s fees, office expenses and other preliminary expenses.
Regular working capital
This type of working capital remains always in the enterprise for the successful operation. It supplies the funds necessary to meet the current working expenses i.e. for purchasing raw material and supplies, payment of wages, salaries and other sundry expenses.
Fluctuating working capital
This capital is needed to meet the seasonal requirements of the business. It is used to raise the volume of production by improvement or extension of machinery. It may be secured from any financial institution which can, of course, be met with short term capital. It is also called variable working capital.
Reserve margin working capital
It represents the amount utilized at the time of contingencies. These unpleasant events may occur at any time in the running life of the business such as inflation, depression, slump, flood, fire, earthquakes, strike, lay off and unavoidable competition etc. In this case greater amount of capital is required for maintenance of the business.
Permanent and Temporary Working Capital
The Operating Cycle creates the need for Current Assets (Working Capital). However the need does not come to an end once the cycle is completed. It continues to exist.
To explain the continuing need of current assets, a distinction should be drawn between temporary and permanent working capital.
Business Activity does not come to an end after the realization of cash from customers. For a company, the process is continuing, and hence, the need for regular supply of working capital. However, the, magnitude of Working Capital required is not constant but fluctuating.
To carry on a business, a certain minimum level of working capital is necessary on a continuous and uninterrupted basis. For all practical purposes, this requirement has to be met permanently as with other fixed assets. This requirement is referred to as permanent or fixed working capital.
Any amount over and above the permanent level of working capital is temporary, fluctuating or variable working capital. The position of the required working capital is needed to meet fluctuations in demand consequent upon changes in production and sales as a result of seasonal changes.
Both kinds of working capital are necessary to facilitate the sales proceeds through the Operating Cycle.
Long Term working capital
The long-term working capital represents the amount of funds needed to keep a company running in order to satisfy demand at lowest point. There may be many situations where Demand may fluctuate considerably. It is not possible to retrench the work force or instantly sell all the inventories whenever demand declines Due to temporary reasons.
Therefore the value, which represents the long-term working capital, stays with the business process all the time. It is for all practical purpose as permanent as fixed assets.
In other words, it consists of the minimum current assets to be maintained at all times. The size of the permanent working capital varies directly with the size of Operation of a firm.
Short term working capital
Short-term capital varies directly with the level of activity achieved by a company. The Volume of Operation decides the quantum of Short-term working capital. It also changes from one firm to another; from cash to inventory from inventory to debtors and from debtors back to cash. It may not always be gain fully employed. Temporary Working capital should be obtained from such sources, which will allow its return when it is not in use.
Gross Working Capital
Gross working capital refers to the firm’s investment in current assets. Current assets are those assets which can be converted in to cash with in an accounting year and includes cash short term securities, debtors bills receivable and stock.
Net Working Capital
Net working capital refers to the difference between current asset and current liabilities. Current liabilities are those claims of outsiders, which are expected to mature for payment within the accounting year and include creditors, bills payable and outstanding expenses. Net Working capital can be positive or negative. A positive net working capital will arise when current assets exceed current liabilities.