Lorenzo Preve and Virginia Sarria-Allende
- Published in print:
- 2010
- Published Online:
- May 2010
- ISBN:
- 9780199737413
- eISBN:
- 9780199775637
- Item type:
- book
- Publisher:
- Oxford University Press
- DOI:
- 10.1093/acprof:oso/9780199737413.001.0001
- Subject:
- Economics and Finance, Financial Economics
Working capital management is one of the most important topics in corporate finance: it relates to the operating investment of a firm and the way managers choose to finance it. This topic, mostly ...
More
Working capital management is one of the most important topics in corporate finance: it relates to the operating investment of a firm and the way managers choose to finance it. This topic, mostly ignored by academics for years, is now gaining importance as we realize that financial markets are not as efficient as they were assumed to be, especially as firms expand outside the developed economies. This book provides a general framework that helps to understand working capital in a comprehensive approach, linking operating decisions to their financial implications and to the overall business strategy.Less
Working capital management is one of the most important topics in corporate finance: it relates to the operating investment of a firm and the way managers choose to finance it. This topic, mostly ignored by academics for years, is now gaining importance as we realize that financial markets are not as efficient as they were assumed to be, especially as firms expand outside the developed economies. This book provides a general framework that helps to understand working capital in a comprehensive approach, linking operating decisions to their financial implications and to the overall business strategy.
Lorenzo A. Preve and Virginia Sarria-Allende
- Published in print:
- 2010
- Published Online:
- May 2010
- ISBN:
- 9780199737413
- eISBN:
- 9780199775637
- Item type:
- chapter
- Publisher:
- Oxford University Press
- DOI:
- 10.1093/acprof:oso/9780199737413.003.0010
- Subject:
- Economics and Finance, Financial Economics
In this chapter, we discuss working capital management as a strategic tool. We provide an integrated view of working capital management policies, and of how they can be used to help improve firms' ...
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In this chapter, we discuss working capital management as a strategic tool. We provide an integrated view of working capital management policies, and of how they can be used to help improve firms' competitive position. We start by discussing the role of working capital management during the strategic planning and execution stages. We stress the importance of conducting a careful forecast of current assets and their respective financial needs, to ensure sufficient financing. Finally, we focus on how firms can use working capital policies to compete. That is, while financial needs for operation are difficult to control, being sensitive to market trends, firms can choose between aggressive and conservative working capital policies. We show that more conservative financing strategies might lead to lower returns during normal times but overcome more aggressive strategies during periods of market disorder.Less
In this chapter, we discuss working capital management as a strategic tool. We provide an integrated view of working capital management policies, and of how they can be used to help improve firms' competitive position. We start by discussing the role of working capital management during the strategic planning and execution stages. We stress the importance of conducting a careful forecast of current assets and their respective financial needs, to ensure sufficient financing. Finally, we focus on how firms can use working capital policies to compete. That is, while financial needs for operation are difficult to control, being sensitive to market trends, firms can choose between aggressive and conservative working capital policies. We show that more conservative financing strategies might lead to lower returns during normal times but overcome more aggressive strategies during periods of market disorder.
Lorenzo A. Preve and Virginia Sarria-Allende
- Published in print:
- 2010
- Published Online:
- May 2010
- ISBN:
- 9780199737413
- eISBN:
- 9780199775637
- Item type:
- chapter
- Publisher:
- Oxford University Press
- DOI:
- 10.1093/acprof:oso/9780199737413.003.0002
- Subject:
- Economics and Finance, Financial Economics
This chapter develops a useful definition and interpretation of working capital. We argue about the limitations of the standard definition, and suggest that by introducing a second, complementary ...
More
This chapter develops a useful definition and interpretation of working capital. We argue about the limitations of the standard definition, and suggest that by introducing a second, complementary concept, financial needs for operation (FNOs), a more comprehensive understanding of working capital can be achieved. A firm's FNOs are the level of operating investment needed for the company to operate its business. This investment can be financed using working capital and/or short‐term financial debt. Selecting the mix between these two is among the firm's most important strategic business decisions; therefore, the consideration of working capital in isolation will usually lead the manager astray.Less
This chapter develops a useful definition and interpretation of working capital. We argue about the limitations of the standard definition, and suggest that by introducing a second, complementary concept, financial needs for operation (FNOs), a more comprehensive understanding of working capital can be achieved. A firm's FNOs are the level of operating investment needed for the company to operate its business. This investment can be financed using working capital and/or short‐term financial debt. Selecting the mix between these two is among the firm's most important strategic business decisions; therefore, the consideration of working capital in isolation will usually lead the manager astray.
Lorenzo A. Preve and Virginia Sarria-Allende
- Published in print:
- 2010
- Published Online:
- May 2010
- ISBN:
- 9780199737413
- eISBN:
- 9780199775637
- Item type:
- chapter
- Publisher:
- Oxford University Press
- DOI:
- 10.1093/acprof:oso/9780199737413.003.0012
- Subject:
- Economics and Finance, Financial Economics
This chapter analyzes the cross‐sectional and time‐series variation in the patterns of working capital. By understanding how working capital policies compare across firms, industries, or countries, ...
More
This chapter analyzes the cross‐sectional and time‐series variation in the patterns of working capital. By understanding how working capital policies compare across firms, industries, or countries, and by analyzing how these policies evolve over time, we can better appreciate the role of a firm's working capital strategy. We suggest that sound institutional frameworks allow for less restrictive working capital management policies, since financial needs for operation are usually lower and easier to be financed with short‐term funds (relative to less developed contexts'). We comment on how these equilibriums are affected by peculiar macroeconomic conditions or financial crises. Finally, we also consider the effects of firm‐level financial distress on working capital.Less
This chapter analyzes the cross‐sectional and time‐series variation in the patterns of working capital. By understanding how working capital policies compare across firms, industries, or countries, and by analyzing how these policies evolve over time, we can better appreciate the role of a firm's working capital strategy. We suggest that sound institutional frameworks allow for less restrictive working capital management policies, since financial needs for operation are usually lower and easier to be financed with short‐term funds (relative to less developed contexts'). We comment on how these equilibriums are affected by peculiar macroeconomic conditions or financial crises. Finally, we also consider the effects of firm‐level financial distress on working capital.
Lorenzo A. Preve and Virginia Sarria-Allende
- Published in print:
- 2010
- Published Online:
- May 2010
- ISBN:
- 9780199737413
- eISBN:
- 9780199775637
- Item type:
- chapter
- Publisher:
- Oxford University Press
- DOI:
- 10.1093/acprof:oso/9780199737413.003.0003
- Subject:
- Economics and Finance, Financial Economics
In this chapter, we address the question of how a firm should finance its operation. More specifically, the chapter aims to help managers gain a better understanding of the relation between a firm's ...
More
In this chapter, we address the question of how a firm should finance its operation. More specifically, the chapter aims to help managers gain a better understanding of the relation between a firm's level of operating activity and working capital. Given that, from a managerial perspective, a certain portion of short‐term operating assets is to be considered long term, firms should select an accurate share of long‐term financing to ensure matching financing maturity to assets' average life. The chapter presents how the optimal financing choice is influenced by seasonality and growth.Less
In this chapter, we address the question of how a firm should finance its operation. More specifically, the chapter aims to help managers gain a better understanding of the relation between a firm's level of operating activity and working capital. Given that, from a managerial perspective, a certain portion of short‐term operating assets is to be considered long term, firms should select an accurate share of long‐term financing to ensure matching financing maturity to assets' average life. The chapter presents how the optimal financing choice is influenced by seasonality and growth.
Lorenzo A. Preve and Virginia Sarria-Allende
- Published in print:
- 2010
- Published Online:
- May 2010
- ISBN:
- 9780199737413
- eISBN:
- 9780199775637
- Item type:
- chapter
- Publisher:
- Oxford University Press
- DOI:
- 10.1093/acprof:oso/9780199737413.003.0011
- Subject:
- Economics and Finance, Financial Economics
In this chapter, we discuss the financing costs associated with working capital. Given that working capital is financed with both long‐term debt and equity, we identify the corresponding risk ...
More
In this chapter, we discuss the financing costs associated with working capital. Given that working capital is financed with both long‐term debt and equity, we identify the corresponding risk associated with each type of contract and explain that the compensation to investors should be different according to the type and size of the underlying risk. After determining the costs associated with these sources of funds, we combine these costs using the concept of weighted average cost of capital.Less
In this chapter, we discuss the financing costs associated with working capital. Given that working capital is financed with both long‐term debt and equity, we identify the corresponding risk associated with each type of contract and explain that the compensation to investors should be different according to the type and size of the underlying risk. After determining the costs associated with these sources of funds, we combine these costs using the concept of weighted average cost of capital.
Lorenzo A. Preve and Virginia Sarria-Allende
- Published in print:
- 2010
- Published Online:
- May 2010
- ISBN:
- 9780199737413
- eISBN:
- 9780199775637
- Item type:
- chapter
- Publisher:
- Oxford University Press
- DOI:
- 10.1093/acprof:oso/9780199737413.003.0004
- Subject:
- Economics and Finance, Financial Economics
In this chapter, we introduce the most commonly used ratios, classified according to four broad categories that are fairly standardized; in particular, we can organize a firm's financial statement ...
More
In this chapter, we introduce the most commonly used ratios, classified according to four broad categories that are fairly standardized; in particular, we can organize a firm's financial statement information into ratios to examine the firm's profitability, liquidity, operating efficiency, and financial leverage. We start by analyzing the way these ratios are built and how they should be interpreted. Next, we consider some other ratios, based on market data. Finally, we discuss how to realize a comprehensive financial analysis of a firm using these ratios.Less
In this chapter, we introduce the most commonly used ratios, classified according to four broad categories that are fairly standardized; in particular, we can organize a firm's financial statement information into ratios to examine the firm's profitability, liquidity, operating efficiency, and financial leverage. We start by analyzing the way these ratios are built and how they should be interpreted. Next, we consider some other ratios, based on market data. Finally, we discuss how to realize a comprehensive financial analysis of a firm using these ratios.
Lorenzo A. Preve and Virginia Sarria-Allende
- Published in print:
- 2010
- Published Online:
- May 2010
- ISBN:
- 9780199737413
- eISBN:
- 9780199775637
- Item type:
- chapter
- Publisher:
- Oxford University Press
- DOI:
- 10.1093/acprof:oso/9780199737413.003.0005
- Subject:
- Economics and Finance, Financial Economics
This chapter summarizes the factors a financial manager needs to take into account with respect to a firm's cash management policy. We begin with a brief discussion of the various motives for holding ...
More
This chapter summarizes the factors a financial manager needs to take into account with respect to a firm's cash management policy. We begin with a brief discussion of the various motives for holding cash. We introduce the transaction motive, the precautionary motive, the speculative motive, and the use of cash as a hedging tool. We then summarize the key variables that determine a firm's optimal cash balance. Next, we explain why a firm's cash collection policy and its cash conversion cycle matter for good cash management. Finally, we discuss how a firm can optimally invest its idle cash.Less
This chapter summarizes the factors a financial manager needs to take into account with respect to a firm's cash management policy. We begin with a brief discussion of the various motives for holding cash. We introduce the transaction motive, the precautionary motive, the speculative motive, and the use of cash as a hedging tool. We then summarize the key variables that determine a firm's optimal cash balance. Next, we explain why a firm's cash collection policy and its cash conversion cycle matter for good cash management. Finally, we discuss how a firm can optimally invest its idle cash.
Lorenzo A. Preve and Virginia Sarria-Allende
- Published in print:
- 2010
- Published Online:
- May 2010
- ISBN:
- 9780199737413
- eISBN:
- 9780199775637
- Item type:
- chapter
- Publisher:
- Oxford University Press
- DOI:
- 10.1093/acprof:oso/9780199737413.003.0007
- Subject:
- Economics and Finance, Financial Economics
In this chapter, we present some of the factors that influence inventory management practices. In the first section, we discuss different ways to measure inventory. We then discuss the main costs of ...
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In this chapter, we present some of the factors that influence inventory management practices. In the first section, we discuss different ways to measure inventory. We then discuss the main costs of holding inventory, such as carrying and shortage costs, and the most common method for managing inventory. Among the latter, we present a brief discussion of the best‐known approach for managing inventory, namely, the economic order quantity model. Finally, we discuss the use of inventory for hedging purposes and additional considerations related to optimal inventory levels.Less
In this chapter, we present some of the factors that influence inventory management practices. In the first section, we discuss different ways to measure inventory. We then discuss the main costs of holding inventory, such as carrying and shortage costs, and the most common method for managing inventory. Among the latter, we present a brief discussion of the best‐known approach for managing inventory, namely, the economic order quantity model. Finally, we discuss the use of inventory for hedging purposes and additional considerations related to optimal inventory levels.
Lorenzo A. Preve and Virginia Sarria-Allende
- Published in print:
- 2010
- Published Online:
- May 2010
- ISBN:
- 9780199737413
- eISBN:
- 9780199775637
- Item type:
- chapter
- Publisher:
- Oxford University Press
- DOI:
- 10.1093/acprof:oso/9780199737413.003.0001
- Subject:
- Economics and Finance, Financial Economics
We start the chapter by presenting a basic framework of corporate finance. Next, we provide an introduction to the main financial reports: the balance sheet and the income statement. We describe both ...
More
We start the chapter by presenting a basic framework of corporate finance. Next, we provide an introduction to the main financial reports: the balance sheet and the income statement. We describe both the primary individual characteristics of each financial report and the interaction between the two statements. This interaction is important as it allows one to get a more complete picture of a company's financial situation and business performance. Finally, we provide some basic measures of return. As a necessary complement, we also introduce the concepts of expected return and cost of capital.Less
We start the chapter by presenting a basic framework of corporate finance. Next, we provide an introduction to the main financial reports: the balance sheet and the income statement. We describe both the primary individual characteristics of each financial report and the interaction between the two statements. This interaction is important as it allows one to get a more complete picture of a company's financial situation and business performance. Finally, we provide some basic measures of return. As a necessary complement, we also introduce the concepts of expected return and cost of capital.
Lorenzo A. Preve and Virginia Sarria-Allende
- Published in print:
- 2010
- Published Online:
- May 2010
- ISBN:
- 9780199737413
- eISBN:
- 9780199775637
- Item type:
- chapter
- Publisher:
- Oxford University Press
- DOI:
- 10.1093/acprof:oso/9780199737413.003.0008
- Subject:
- Economics and Finance, Financial Economics
In this chapter, we take the buyer's perspective and focus on the financing that suppliers extend to their clients. We emphasize that decisions on the use of trade credit financing are important for ...
More
In this chapter, we take the buyer's perspective and focus on the financing that suppliers extend to their clients. We emphasize that decisions on the use of trade credit financing are important for working capital management because they influence the size of the operating investment a firm needs to finance in the financial market. We show that, even though trade credit may be expensive, there are various reasons that explain its use. Finally, we discuss how trade credit should be measured and provide information about the differences in the use of trade credit across industries and over time.Less
In this chapter, we take the buyer's perspective and focus on the financing that suppliers extend to their clients. We emphasize that decisions on the use of trade credit financing are important for working capital management because they influence the size of the operating investment a firm needs to finance in the financial market. We show that, even though trade credit may be expensive, there are various reasons that explain its use. Finally, we discuss how trade credit should be measured and provide information about the differences in the use of trade credit across industries and over time.
Lorenzo A. Preve and Virginia Sarria-Allende
- Published in print:
- 2010
- Published Online:
- May 2010
- ISBN:
- 9780199737413
- eISBN:
- 9780199775637
- Item type:
- chapter
- Publisher:
- Oxford University Press
- DOI:
- 10.1093/acprof:oso/9780199737413.003.0009
- Subject:
- Economics and Finance, Financial Economics
In this chapter, we analyze alternative sources of short‐term financing, as well as useful criteria for managing them. We start by considering criteria for selecting optimal debt maturity structures. ...
More
In this chapter, we analyze alternative sources of short‐term financing, as well as useful criteria for managing them. We start by considering criteria for selecting optimal debt maturity structures. Next, we present alternative sources of short‐term debt, such as bank financing, factoring, asset‐backed securities, letters of credit, commercial paper, and bankers' acceptances. We continue by describing the typical covenants established around debt contracts. Finally, we discuss the optimal number of creditors and the objectives that a firm should consider in order to make this particular choice.Less
In this chapter, we analyze alternative sources of short‐term financing, as well as useful criteria for managing them. We start by considering criteria for selecting optimal debt maturity structures. Next, we present alternative sources of short‐term debt, such as bank financing, factoring, asset‐backed securities, letters of credit, commercial paper, and bankers' acceptances. We continue by describing the typical covenants established around debt contracts. Finally, we discuss the optimal number of creditors and the objectives that a firm should consider in order to make this particular choice.
Lorenzo A. Preve and Virginia Sarria-Allende
- Published in print:
- 2010
- Published Online:
- May 2010
- ISBN:
- 9780199737413
- eISBN:
- 9780199775637
- Item type:
- chapter
- Publisher:
- Oxford University Press
- DOI:
- 10.1093/acprof:oso/9780199737413.003.0006
- Subject:
- Economics and Finance, Financial Economics
In this chapter, we discuss trade receivables and credit risk. We begin by providing a brief review of the main theories of trade credit. Next, we consider the credit risk embedded in firms' ...
More
In this chapter, we discuss trade receivables and credit risk. We begin by providing a brief review of the main theories of trade credit. Next, we consider the credit risk embedded in firms' investment in trade receivables, and discuss how to correctly assess and manage the credit risk inherent in clients' trade credit. We continue by presenting several tools that can help creditors mitigate the effects of clients' defaults. Then, we focus on alternative mechanisms that allow firms to specifically finance their investment in clients, namely, factoring and the issuance of collateralized debt. Finally, we briefly review how trade credit can be measured.Less
In this chapter, we discuss trade receivables and credit risk. We begin by providing a brief review of the main theories of trade credit. Next, we consider the credit risk embedded in firms' investment in trade receivables, and discuss how to correctly assess and manage the credit risk inherent in clients' trade credit. We continue by presenting several tools that can help creditors mitigate the effects of clients' defaults. Then, we focus on alternative mechanisms that allow firms to specifically finance their investment in clients, namely, factoring and the issuance of collateralized debt. Finally, we briefly review how trade credit can be measured.
