Working Capital, Cash Inflows and Cash Outflows

Working Capital

It is the minimum amount of money which is required to run the project.

In financial accounting Working Capital is

(Current Assets - Current Liabilities)
# where
# Current Assets includes cash, inventory(which includes raw material, etc)
# and account receivables.

In corporate financing, Working Capital is

[(current asset which is the minimum capital required to run the business
 + account receivables) - (account payables)]

What is Cash Outflow (COF)? it is an expense occured in all the project activities like infrastructure, salaries, land value etc. We should always avoid sunk costs such as R&D costs in cash outflows.

Note: Cash Outflows are always negative numbers.

What is sunk cost and when we should avoid them?
Sunk cost is something which is already spent and cannot be retrieved. We should always avoid sunk costs in the project costs (Cash Outflows) unless there is a value for the sunk cost in the market. For example, land value of project, R&D expense of the project should not be considered in the project costs.

What is Cash Inflow? Cash Inflows can be computed in number of ways:

#1. CI = PBDIT-Tax;

#2. CI = PAT+Interest+Depreciation

Corporate Financing takes Cash Inflows a bit different from financial accounting – The factors we need to consider are:

  • We take depreciation as 0 because there is no actual cash involved in depreciation.
  • We take interest also as 0 just like we have started company with 100% equity. Even if there is actual interest we do not consider the interest.
  • Then we calculate tax separately, at the time of calculating tax, we consider depreciation.

Depreciation and Working Capital
At the start of the company/project we need to have working capital, and at the end of the project/company or after the life of the project we will get back the working capital that we initially started through salvage value of the remaining assets. Salvage value of the asset is 5% of the actual asset value.


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