CURRENT ASSETS MANAGEMENT VALUE BASED WORKING CAPITAL DECISIONS

CURRENT ASSETS MANAGEMENT: VALUE BASED WORKING CAPITAL DECISIONS (2/5) 21 st October 2009 @ 4 pm Current assets management: value based working capital decisions

CURRENT ASSETS MANAGEMENT: VALUE BASED WORKING CAPITAL DECISIONS n E-mail: GRZEGORZ. MICHALSKI@UE. WROC. PL n www: HTTP: //MICHALSKIG. UE. WROC. PL/ n ph. : 0048503452860 n Next lecture: 28 th October 2009. 2 Current assets management: value based working capital decisions

How changes in curent assets influence value? CS: Inventory period = 35 days, Accounts receivable period = 26 days, accounts payable period = 20 days, Cash Revenues = 1440 ooo, T=19%, calculate: n Assets, if FA = 800 n Capital Involved n FCF 0, FCF 1 -n, FCFn n IRR n Cost of Capital if D/(D+E) = 40%, kd = 10% & ke = ? k. RF=7%, km=17%, n NPV What will change if IP (OKZAP) is shorter? Longer? What will change if ARP (DSO) is shorter? Longer? What will change if APP (OOSZw. D) is shorter? Longer? 3 Current assets management: value based working capital decisions

Cash cycle & Operating Cycle 4 Current assets management: value based working capital decisions

Liquid assets level & Firm Value n n 5 Current assets management: value based working capital decisions

Current assets management: value based working capital decisions

Liquidity level & Profitability 7 Current assets management: value based working capital decisions

Liquidity level & Value of Liquidity Where: vi = intrinsic (internal) value of liquidity, vm = market value of liquidity, pp 1 = liquidity level (1) for vi > vm ppopt = optimal liquidity level for vi = vm 8 Current assets management: value based working capital decisions

Liquidity level & Value of Liquidity Where: vi = intrinsic (internal) value of liquidity, vm = market value of liquidity, pp 2 = liquidity level (2) for vi < vm ppopt = optimal liquidity level for vi = vm 9 Current assets management: value based working capital decisions

Liquidity measurement n current ratio: current assets to current liabilities Example: Calculate Current Ratio if: Inventory = 60, Accounts receivable = 80; Accounts payable = 50; Cash and near cash = 4 10 Current assets management: value based working capital decisions

Current assets management: value based working capital decisions

Liquidity measurement n quick ratio is current assets without inventories to current liabilities Example: Calculate Quick Ratio if: Inventory = 60, Accounts receivable = 80; Accounts payable = 50; Cash and near cash = 4 12 Current assets management: value based working capital decisions

Short-term Financial decisions – NWC policies. Flexible or Restrictive policy n The size of the firm’s investment in current assets is determined by its NWC financial policies. —Flexible policy actions include: keeping large cash and securities’ balances; n keeping large amounts of inventory; n granting liberal credit terms. n —Restrictive policy actions include: keeping low cash and securities’ balances; n keeping small amounts of inventory; n allowing few or no credit sales. n 13 Current assets management: value based working capital decisions

Costs of Investments in Working Capital n Need to manage the trade-off between carrying costs and shortage costs. n Carrying costs increase with the level of investment in current assets, and include the costs of maintaining economic value and opportunity costs. n Shortage costs decrease with increases in the level of investment in current assets, and include trading costs and the costs related to being short of the current asset. — For example, sales lost as a result of a shortage of finished goods inventory. 14 Current assets management: value based working capital decisions

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Working Capital [WC] & WC financing Alternative Asset Financing Policies 18 Current assets management: value based working capital decisions

Working Capital [WC] & WC financing Alternative Asset Financing Policies 19 Current assets management: value based working capital decisions

Working Capital [WC] & WC financing Alternative Asset Financing Policies 20 Current assets management: value based working capital decisions

Example NWC-1 a. 21 Current assets management: value based working capital decisions

Current assets management: value based working capital decisions