THE CONCEPT OF ZERO WORKING CAPITAL

Posted Date : 08-Jun-2011 , 01:23:57 am | Posted By CASANSAAR print

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n today’s world of intense global competition, working capital management is receiving increasing attention form managers striving for peak efficiency the goal of many leading companies today, is zero working capital. Proponent of the zero working capital concept claims that a movement toward this goal not only generates cash but also speeds up production and helps business make more timely deliveries and operate more efficiently. The concept has its own definition of working capital: inventories+ receivables- payables. The rational here is (i) that inventories and receivables are the keys to making sales, but (ii) that inventories can be financed by suppliers through account payables.

Companies use about 20% of working capital for each sale. So, on average, working capital is turned over five times per year. Reducing working capital and thus increasing turnover has two major financial benefits. First every money freed up by reducing inventories or receivables, by increasing payables, results in a one time contribution to cash flow. Second, a movement toward zero working capital permanently raises a company’s earnings.

The most important factor in moving toward zero working capital is increased speed. If the production process is fast enough, companies can produce items as they are ordered rather than having to forecast demand and build up large inventories that are managed by bureaucracies. The best companies delivery requirements. This system is known as demand flow or demand based management. And it builds on the just in time method of inventory control.

Clearly it is not possible for most firm to achieve zero working capital and infinitely efficient production. Still, a focus on minimizing receivables and inventories while maximizing payables will help a firm lower its investment in working capital and achieve financial and production economies.

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