Working Capital Assessment - Operating Cycle Method (Hindi) - YouTube

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Namaskar, my name is Mukul

And you are welcome to the Asset Yogi

Where we unlock the knowledge of finance

I have done a series on working capital in which we have covered 5 videos.

We understood the concept of working capital

What is the operating cycle of a business?

We saw how you can manage working capital?

And how can you manage finance for working capital?

Many subscribers requested me to make videos on how working capital

is assessed? How much is the requirement of working capital in a business?

There are 5 methods for this.

We will cover all five methods in a separate video.

In this video, we will discuss the operating cycle method.

I have already discussed the operating cycle of working capital with you.

In this video, we will see,

Once we've calculated the operating cycle

so how can we analyze our working capital requirements from that?

So keep watching the video till the end.

Let's go straight towards the blackboard

For assessing the requirements of working capital

Five methods are used

The first is the operating cycle method.

The second is the drawing power method, turnover method,

MPBF method which we call Maximum Permissible Bank Finance

and the fifth is the cash budget method.

So I will make videos on all these methods one by one

In this video, we will see what the operating cycle method is.

For the operating cycle method, first, we have to understand

the operating cycle of working capital.

In how much time does our cash get converted into cash again?

After converting into the whole business cycle.

Let's do a quick recap

I have already made a detailed video on

operating cycle.

If you want then you can watch that video of mine.

We'll do a quick recap.

First, you purchase raw materials

You'll definitely need cash for purchasing raw materials

Once you got the raw material then it goes to work in progress

It will take some time in manufacturing. After that, it will be converted into finished goods

The finished goods are not sold immediately.

Whoever your customers are whether they are wholesalers or retailers

They may take some money from you on credit. This means they will take

goods on credit and will pay later. So your sales are not made immediately

After that, you will get cash. You get bills receivables

So the cash takes time to convert

Other than this, your cash

You can take credit from the supplier also

From whoever supplier you are purchasing the material

You can take supplier credit from him also.

So you don't have to give the cash to the supplier immediately

You can give it after some time.

And you can use the remaining cash for purchasing the raw material.

If we want to calculate the time period of the operating cycle

Then how will we calculate it? We will find out the time of every component

And then we will add them. Assume you require 30 days of raw materials

For buying and storing it. We will assume that it requires 10 days in work in progress

for manufacturing it. The finished goods are not sold immediately

You have to store them in the warehouse for, let's say 20 days.

The payments are not made immediately.

Your retailers or wholesalers do not make the payment immediately.

They demand a credit period of 30 days from you.

After that, after 30 days you get the cash.

Along with that, you do not make payment to your supplier immediately.

You also demand a 30 days credit period from him

So how will we calculate the operating cycle in this?

Your operating cycle will be a time of raw material

plus work in progress plus finished goods

So this was the time for inventory. You will add debtors to it.

Debtors are account receivables

And all these that you are adding When you add inventory and accounts receivable

Then they become your current assets minus creditors' time

These are your current liabilities

And you will deduct the supplier's credit

So we will calculate the operating cycle quickly in this

You will add 30 days of raw materials

10 days of work in progress

20 days of finished goods + 30 days of debtors

Minus the time period of the creditor. You will deduct that.

The cash to cash cycle here is of 90 days

But you will also pay after 30 days

So you will deduct these 30 days too.

Subtract 30 from 30

The remaining time is 60 days

So your turnover is done in 60 days

The cash comes to you in 60 days

So this is your operating cycle.

So if we want to calculate the operating cycle for the year

What will be the number of cycles per annum?

So what will you do? The total number of days is 365 in a year

You will divide that by the time of the operating cycle.

365 days/ 60 days= 6

There are 6 operating cycles in a year

You turn around your business approximately 6 times.

How much soever money you have

From goods manufacturing to selling the goods

You do this around 6 times a year

So if we take the example of annual turnover

Let's say you have a turnover of around 1.5 crores

I have written it as 150 lakhs

Out of that, your operating expenses

The expenses during the whole process

It is 120 lakhs in total This means 1.2 crores.

So how do we calculate the working capital requirement

This is your formula.

Annual operating Expenses/number of cycles

This means if you divide operating expense the by number of cycles

Then you will get your operating expenses for one cycle.

You want that right? You basically want to know the expense of the whole cycle.

That is your working capital. So if we calculate in this case

120 lakhs / 6

So your working capital requirements will be 20 lakhs

So in this way, you can calculate your working capital requirements

by operating cycle method. This means you need 20 lakhs Rs

in every 2 months to run your operations. And when you do it 6 times

Then it will become 120 lakhs

And your operating annual expense will be 1.2 crores.

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