Capital Management: What is it and How Does it Work?

Techniques of Effective Management of Working Capital 

Working capital is the money used by firms to manage their daily operations. It can also be referred to as the difference between current liabilities and current assets. Businesses use a number of techniques to manage their working capital. However, the most common techniques are referred to as working capital financing policy where a business focuses on both short-term and long-term financing to lower the amount of its working capital (Abiodun & Samuel, 2014). The technique is effective because it ensures prudence use of capital to achieve the set goals and objectives while at the same time it ensures minimum use of working capital. Cash flow forecasting is another technique where the business estimate and predict the amount of cash it can use to run a business within a given period of time. It takes into consideration the market cycle, the actions of competitors, and the possible loss of value to customers. In addition, some businesses also create contingency plans in order to manage working capital. Contingency helps in dealing with unexpected events that may affect the operations and performance of a business. Working capital financing policy is the most effective techniques because it can easily be implemented while at the same time it is futuristic. Cash flow forecasting and contingency plan, on the over hand, cannot easily be implemented because they are based on estimation (Abiodun & Samuel, 2014). 

Evaluation of Alternative Capital Project 

The alternative capital project generally refers to other options that can be used to implement the original capital project. Every project capital always has its alternatives, which can be used to achieve the same project goals and objectives. Project sponsors and managers always evaluate the available alternatives to determine whether they can be used to achieve the same at a cheaper cost and within the given timeframe. One of the main advantages of the alternative project is that they are cheaper compared to the original projects. At the same time, they can easily be implemented within time. Nevertheless, many alternative capital projects are not up to the required standards because of the desire to reduce cost and save time. Hence, project management and sponsors should be cautious when deciding on alternative capital projects (Abiodun & Samuel, 2014). 

Risks Associated with Capital Projects 

Capital projects are associated with a number of risks. Poor leadership is one of the main risks that can affect successful implementation of capital projects. In many cases, project management gets excited in the beginning of a project. However, the excitement may end when the hard work begins, especially when it involves turning up on a regular basis for meetings, which may affect the management of a project. Another major risk is a lack of enough resources, especially due to abrupt changes or when a disaster strikes during the implementation of a project (Hall, 2001). This always happens due to inadequate project planning. The conflict between the project management and project sponsor can also pose threat to the implementation of capital projects, particularly when it comes to decision-making. Lack of effective communication is always the cause of conflict between project management and customers. In addition, the conflict can be due to poor team dynamics. 

Decision-making Factors with regards to Lease and Buy 

Many individuals or organization are always in a dilemma when it comes to making decisions on whether to lease or buy a property. Some of the factors that should be considered cost, available budget, changes in technology, and the need to control the property. Cost is the most important decision factor because of the financial constraints that are faced by various businesses and individual. The lease is known to be cheaper in short-term but expensive in the long-term. Therefore, the lease can be a better option in short-term projects, but not in long-term projects. The technological factor is also important because some technologies can be rendered obsolete within a short period of time. In the case where an organization wants to have full control of a property, it is advisable to buy and not lease a property. Hence, a number of factors must be considered before leasing or buying a property (Hall, 2001). 

Effects of Financial Strategies on Cost of Capital 

In order to get the most out of financial resources and to ensure sustainability, businesses should effectively management their funding and financing sources, which is possible through financial strategies. Nevertheless, financial strategies that are used to increase interest rates end up increasing the cost of debt and capital. At the same time, the strategies aimed at enhancing payout rations always leads to an increase in the cost of capital. As a result, financial strategies that are formulated by the business end up affecting the cost of capital (Graham, 2000). 

Analysis of benefits and Risks of Debt Financing 

Many organizations, to some extent, rely on debts to finance their operations and activities. However, debt financing has both benefits and risks. One of the main benefits of debt financing is that it gives borrower to maintain the autonomy of running his or her business. The lender does not participate in the decision-making and management of the borrower’s business. A tax deduction is also another benefit of debt financing because the principal and interest payments considered to as expenses and are deducted from business income tax (Graham, 2000). However, the possible fluctuation of interest rate due to macroeconomic conditions can increase the cost of debt. There is also the risk of losing a property used as collateral in case of default in repayment. 

References 

Abiodun, S. A., & Samuel, O. L. (2014). A Comparative Analysis on Working Capital Management of Brewery Companies in Nigeria. International Journal of Finance and Accounting , 3 (6), 356-371. 

Graham, J. R. (2000). How big are the tax benefits of debt?. The Journal of Finance , 55 (5), 1901-1941. 

Hall, J. H. (2001). Risk analysis and evaluation of capital investment projects. South African Journal of Economic and Management Sciences , 4 (2), 398-411.