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Overtrading

  1. 1. Working Capital Management  Working capital is the cash needed to pay for the day to day operation of the business  Working capital calculated like below Current Assets Current Liabilities Working Capital  Stocks  Debtors  Cash  Investments  Trade Creditors  Dividends  Taxation  Short term Loans
  2. 2. Working Capital Cycle
  3. 3. When Working Capital mismanaged? Cash Flow Problems  Main Causes of Cash flow problems Low profits or Losses Over- Investment in Capacity Too Much Stock Allowing Customers too much Credit Over Trading Unexpected Changes Seasonal Demand
  4. 4.   
  5. 5.  Mr. Silva has set up a business 2 years ago. His annual turnover is Rs.200,000 and annual profit is Rs.18,000. He operates with a bank OD of up to Rs.25,000. His working capital is sufficient to steadily expand the business.  Then he get a contract to supply Business A.(with d excitement of increasin sales) The order is for Rs.40,000 a month for two years. He will be paid 75 days after delivery. The first month Business runs smoothly. Suppliers start delivering as promised. The only problem is that he is short of space. The second month Things still look good. He has made the first delivery to Business A. He increases her overdraft. The third month Silva has problems. He has made more deliveries to Business A but His overdraft is at the limit. He is getting calls from unpaid suppliers.
  6. 6. The fourth month Silva in hot seat. Can’t pay all His suppliers. Some stopped delivering and some are threatening legal action. He thinks that he will be fine because he is still supplying Business A. The fifth month His overdraft is Rs.40,000 over the limit. 3 suppliers start legal action. The bank refuses to pay cheques. Then first payment from Business A arrives on time. The sixth month The next Business A payment does not arrive on the due day. He cannot fulfill any more orders. The bank demands that the overdraft be repaid within seven days.
  7. 7.  Debtors  Increasing credit sales volume  Extended credit sales period  Increasing and excessive reliance on trade payables  Increase in short term borrowings  Cash  Increasing sales without corresponding increase in profit  Lack of cash in hand or at bank Symptoms of Over Trading ……
  8. 8.  Creditors  Stocks are ordered earlier and need to be paid for before they are sold  Extended trade payable periods  Inventory  Increasing inventory days  More stock required to meet sales demand Increasing the length of working capital cycle!!
  9. 9.  Internal causes  Poor management of operations  Production problems  Poor marketing decisions  External causes  Economic  Financial failure:
  10. 10. Investigation of overtrading….  Stock (inventory) days  Debtor (trade receivable) days  Creditor (trade payable) days  Current ratio  Quick ratio  Gross profit margin  Net profit margin  Return on capital employed
  11. 11. Examples for Over Trading ….. o Seylan Bank PLC o Next Clothing Retailer o Sock Shop
  12. 12. o Borrowing or increasing in capital to increase current assets - cash o Sale of non-trading assets o Tightening terms of credit granted to customers o Negotiating longer credit terms from major suppliers o Setting new payment terms o Offering discounts for prompt payments o Automated payments o Invoice discounting or Factoring o Negotiating terms with suppliers o Improve inventory control o Lease/hire purchase assets o Introduction of new capital o Reduce distribution of profit o Cost cutting
  13. 13. Anyone can think that overtrading sounds like a good thing, but actually it isn’t – the key to a healthy business is to get a good balance between under trading and overtrading Borrowing Money Shrinking profits Late payments Over Expansion Depletion of Working Capital Accountant Impact on financial Health and Business…..
  14. 14. Discipline Cycle !!! Discipline Consistency Patience Profits & Success
  15. 15.  Overtrading means trying to grow quickly without having the financial strength .  Overtrading can be a very big problem for companies, especially SME.  This is common in start- ups and expanding businesses  Over-trading can be a problem for many firms when the economy moves out of a recession.  If company is growing, It’s vital that you have excellent financial management information in place to keep the business on track and prevent problems arising.

Notas del editor

  • Tight/set new payment terms/offer discount..Negotiate longer credit period from supp/improve inventory control

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