THE IMPORTANCE OF WORKING CAPITAL MANAGEMENT IN MANUFACTURING COMPANY

Introduction

1.0 Background Of The Study

Working capital which is incremental value of current assets over current liabilities is a very essential factor in corporate operations and survival. Its importance lies in the fact that it is the blood of any organization without which an establishment will cease to be a going concern.

Therefore, its strategic importance to corporate survival necessitates that it should be prudently managed in order to ensure its continuous presence and adequacy.

As much as inefficiency in working capital can lead to corporate deficit, over investment in working capital can equally be disastrous, since money that could have been profitably invested elsewhere to yield returns is being tied up. It is very important for the management of an organisation that investment in working capital should be optimized

Appropriate sources must be found, corporate working capital requirement and viable investment areas must also be found in order to invest in excess funds, which can be immediately realized and used to supplement the working capital base, whenever the need arises. This research paper focused its attention on working capital after having carefully considered the nature of working capital, its importance to management and its undiminished vantage of place in the finance structure and component, as well as its importance to corporate survival.

This research takes Nestle Nigeria Plc as its case study and intends to corroborate findings by analysis of three similar companies namely, Foremost Diaries Ltd., Cadbury Nigeria Plc and Nigeria Bottling Company Plc belonging to the Foods, Beverages and tobacco industry of the company chosen as case study.

1.1 Statement Of Problem

The inadequacies necessitating this investigation are highlighted below:

1. Lack of awareness as regards the importance of working capital management.
2. Inability of management to detect and normalize over or under investment in working capital.
3. Appropriate appreciation of the affects of over or under investment in working capital on corporate survival.
4. Inadequate knowledge of the rudiments of working capital management.
5. Ineffective follow up on the factor militating against affective management and control of working capital

This research study attempts to provide solution to these probing questions after having carefully analysed the data collected.

1.2 Objectives Of The Research

The keeping of optimum investment in current assets is of great significance to management due to the cost of both over and under investment in working capital. It is the purpose of the research to discuss upon the dynamics and modalities of working capital, its importance to corporate liquidity and survival and the degree of its requirements among various companies in the same industry.

It is also the purpose of the research to examine the effects of working capital over trading, that is, operating with sufficient working capital on corporate operations. It will also critically appraise those factors and variables affecting working capital itself as a financial concept.

This research also has it as its main objective to examine the working capital position of the food and beverages industries so as to keep management cadre in the company chosen as a case study in particular and the entire industry in general in highlighting the problems.

1.3 Significance Of The Research

This research is relevant in that it examine an area that is important to financial management as well as corporate survival. Its relevance also lies in the fact that it corroborates and improves findings in earlier researches embarked upon by eminent scholars.

Similarly, it is significant in that it will no doubt highlight the benefit and bottle necks associated with the management of working capital. This will contribute to the existing knowledge and also assist the management of the chosen company (Nestle Nigeria Plc) in the maintenance of adequate working capital.

1.4 Hypothesis Formulation

1. Ho: That working capital management is not importance.
   H1: That working capital management is important.
2. Ho: That management cannot detect and normalize over or under investment in working capital.
   H1: That management can detect and normalize over and under investment in working capital.
3. Ho: That over or under investment in working capital has no effect on corporate survival.
   H1: That over or under investment in working capital has effect on corporate survival.
4. Ho: That there are no rudiments of working capital management.
   H1: That there are rudiments of working capital management.
5. Ho: That there are no factors militating against effective management and control of working capital.
   H1: That there are factors militating against effective management and control of working capital.

1.5 Research Questions

1. Research questions shall be drawn to test the awareness of the working class that is mainly connected with the application of working capital?
2. Questions shall also be drawn on the effectiveness of working capital for the smooth running of manufacturing business.
3. Whether over or under investment in working capital can easily be detected and normalized.
4. Questions shall be asked on whether there are factors militating against the effectiveness of management and control working capital.
5. Also to test whether there is a possibility of obtaining working capital required from the bank through overdraft, commercial papers, Bankers Acceptance, Bills of Exchange etc

1.6 Scope And Limitations

This research studies focus its attention on the management of working capital in the foods and beverages industry taking Nestle Nigeria plc as a case study.

The scope of the period covered by the research is five (5) years namely 2005 to 2009. As a back up for the evaluation of the secondary case study, companies shall be made of three additional companies selected from food and beverages industry such as :

Foremost Diaries ltd, Cadbury Nigeria plc and Nigerian bottling company plc.

The four companies in aggregate, will be deemed to be representative of the industry especially in the area of analyzing working capital.

This research is limited on its scope on the premises that it took only four companies as being representative of the entire food and beverages industry. The reason for this decision is in the inadequacy of time and finance available to cover all the companies included in the industry.

The research is also limited due to the inability of management to provide needed statistics like cash budget which they considered to be too confidential. This confidentiality also affects other information regarded as “classified”.

1.7 Historical Background Of Nestle Nig.Plc

Nestle Nigeria Plc is associated with Nestle Group, renown worldwide for its quality products like Maggi, Milo, Nutrend, Cereals, Nido, Nescafe, Nestogen, Lactogen etc.

Nestle Nigeria Plc started simple trading operations in Nigeria in 1961 and has today grown into reputable manufacturing and marketing company.

It is a publicly quoted company listed since 1978 on the Nigerian Stock Exchange with over 9,000 Nigerian Shareholders participating in 60% of the company’s equity 40% of the company’s equity is owned by Nestle Ltd of Switzerland. Nestle Nigeria Plc identifies itself with the aspiration of Nigeria towards economic and social progress and has made on a continuous basis important investment in the various field of its activities.

Nestle Nigeria Plc is in the Food Industry and its operations span the agricultural, industrial and commercial sectors of the economy, bringing benefits to each sector. To achieve its goals, the company relies on a cadre of skilled human resources, applying modern management method and a progressive competitive personnel and social policy.

Nestle Nigeria Plc aim at optimizing its long term profitability and as a result ensure the continuity of the company, rather than attempting to maximize short term profit. In pursuing the above aims, the company has always insisted on high standard in the quality of its products and high standards of integrity and efficiency.

Nestle Nigeria Plc receives continues technical assistant from Nestle Ltd, Switzerland particularly in the field of new improved productions processes and equipment, research into raw materials and development of new product, constant quality assurance, latest management techniques and continuous training of staff.

The company trademark is an house hold name, which promotes the popularity and acceptability of the company products by the consumers and have contributed to the growth and success of the company.

1.8 Definition Of Terms

Within the context of carrying out the research work, here are certain words that have connotative meaning with respect to working capital management in manufacturing organizations. These terms used are given their respective definition some of which are the Inventory, Economic order quantity (EOQ) etc.

i. Inventory:

This relates to the stock of goods in the store. It comes in form of raw material work in process and finished goods of Nestle Nigeria Plc.

ii. Economic Order Quantity (EOQ):

This is the optimal quantity that is needed in an organization for effective production of goods and services. The EOQ involve the existence of required quantity to avoid delaying production.

iii. Working Capital:

The word “Working Capital” consists the excess of current assets over current liabilities. It involves that amount by which current assets outstays current liabilities.

Mathematically it is described as CA – CL

Where CA = Current Assets

CL = Current Liabilities

iv. Working Capital Turnover:

It involves number of times or rapidly of which the Current Assets exceed the current liabilities. This involves the ratio of sales to working capital.

v. Stock Turnover:

Stock turnover describes the number of times goods (Stock) change hands i.e rapidity of stock with relevance to its production and sales. It is the ratio of cost of goods sold to average stock.

vi. Primary Data:

The word “Primary” denotes nearly existing or established data and information obtained from a direct source. Basically, primary data has to do with new data. This can be mainly from questionnaires.

vii. Secondary Data:

The word “Secondary” data relates to already existing data that is used for the purpose of the study. It comes in form of textbooks, notes and past books.

1.9 Determinations Of Credit Worthiness

In determining the credit worthiness of a customer prudent credit manager must consider the following factors:

Character:

The characters of the customers must be considered. This can be generally through inquiring into the probability that the credit customers will honour his/her obligation.

It bothers majorly on the moral factor of repaying debt. Credit manager can verify this getting a guarantee from the proposed credit customer bank.

Capacity:

The credit manager should also access the credit customer capacity to pay up his debt as they fall due. Capacity determining involves the evaluation of the business records of the customers through ratio analysis to determine his liquidity and relative solvency.

Capital:

It is worth mentioning that the credit managers in other to be efficient have to be conversant with all other creditors without capital/equity base of the customer to be able to know the corrections of his financial standing and the degree of credit that can be granted to him.

Collateral:

Since the granting of credit is synonymous with the granting short term loan. It is essential that the potential credit customer should get collateral security which he may be ready to offer as a pledge to secure the credit. The credit manager and customer must be able to ascertain the quality and adequacy of these pledge assets before attempting grant credit.

Condition:

Prudent debt managers have to take into consideration the general trend in the economy so as to be able to determine:

1. Its impact on the economy as to the urgency with which it needs its money.
2. Its impact on the prospective credit and customer in relations to hours it affects the ability to pay.

Collective Policy:

This refers to the process by which the company seeks to obtain payment of receivable. The collection policy of a prudent credit manager and controller seek to balance between the pressures to avoid excessive investment on receivable and maintaining customer’s goodwill. It should seek to expand sales to the profit at which increment sales equal at which incremental sales equal incremental costs. The determination of incremental sales and incremental costs can be done by the credit manager through the application of:

1. Ratio Analysis
2. Ageing of Accounts Receivables

Financial Debtors:

A company may have quoted a big amount of receivable and may be in some need for cash, such an organization requires ways in which the debt can be easily realized without necessarily forcing the debtor to pay. The various methods of achieving these objectives is referred to as the method of financing account interaction.

They include interaction:

Factoring:

The company can arrange to sell the account receivable unit rightly to a factor (ration specializes in purchasing receiving) for an amount less than the face value of the debt.

The differential amount will then be the commission paid to the factor for his waiting till the debtors pay up as well as that of bearing the risk of default by debtors. Factoring account receivable can be with and without resource. Factoring with resource implies that inability for default by debtors in the long fun will devolve back to the company who will then pay off the factor. Without resource factoring implies that the factor alone bear the risk of default debtors.

Credit Insurance:

The company can also insure its receivable with an insurance company in order to indemnify itself against the risk of default by the debtors. The company will be paying a given amount to the insurance company as premium and claim the sum assured upon default.

Captive Finance Company:

Management may also decide to use captive finance company or professional debt collectors to chase the debtors around and if possible institute a legal action against them to recover the debt. A fee is usually charged by such captors based on percentage of the amount collected.

This will save the company a lot of administrative effort usually spent in casting receivable.

Pledging:

The Company can also pledge its receivable as collateral security with financial institution to get loan (Just as any other asset can be pledged).

Consignment:

Management can decide to appoint the prospective customers as consigned and treat goods dispatched to them as a consignment rather than a sale.

The impact of this is that are with the customer (now consignees) are still earned by the company and the consignees is only but an agent who must represent the interest of his principle (consignor) and result all the revenue less allowed partly expenses immediately sales are made only a commission (ordinary or delcredere) is paid to the consignees.

Cash Only Basis:

A company may decide that the problems associated with the granting of credit to customer outweigh in its own perception the associated benefit.

The option available to such an organization is adopt a cash only basis.

Cash Management:

Cash is a medium of exchange which a bank accept for deposit and immediate credit to the depositor’s account. Cash include currency an personal cheques, bank drafts, money order as well as money on deposit with banks. In essence, the general characteristic of cash is that it must be:

1. A medium of exchange
2. Be immediate