Lawrence Sports Working Capital Policy Paper

Working Capital Policy

The goal of a company is to create value for its shareholders. In order to create this value, the company has to create a competitive advantage to exploit inconsistencies in the market in which it operates; both its trading and financial environments. As such, Lawrence needs to develop a comprehensive strategic, financial, and implementation plan to facilitate a successful Working Capital Policy, while fully leveraging existing resources and making their bottom line more profitable while managing risks and events that would threaten the success of the endeavor.

Working capital management involves decisions with regard to levels of cash, receivables, and inventory. Too much working capital is costly, reducing profitability and return on capital. However, too little can also be costly in terms of lost opportunities and the company may suffer increases in cost of capital due to too little cash if it cannot pay bills on time (Gilbert, and Reichert, 1995). Working capital policies involve a tradeoff between the risks of having too low a level versus the costs of having too high of one.

Financial strategy is defined as "having two components: the raising of funds needed by an organization in the most appropriate matter; and managing the employment of those funds within the organization" (Bender & Ward, 2002, p. 4). Lawrence's viability relies on its ability to successfully manage receivables, payables, and inventory. By reducing the amount of funds tied up in existing assets, Lawrence would be able to reduce financing costs.

Working capital is defined as "the difference between current assets and current liabilities" (Gilbert and Reichert, 1995). To determine cash requirements, Lawrence will need to build projections for accounts receivable, payables, and inventories. Lawrence will then need to compare their actual amounts to the figures they have forecasted. The increase in current liabilities (accounts payable) is then subtracted from the increase in current assets (accounts receivable and inventories) (Bender & Ward, 2002). The difference represents the amount of money Lawrence will need. If a business buys from suppliers and/or sells to customers on terms, as in the case of Lawrence, then the availability of working capital is dependent on cash flow timing. In most instances, businesses business will experience a cash flow gap between the time cash is required and the time cash is received from customers paying on terms (Largay and Stickney, 1980).

There is a business truism that a sale isn't a sale until it has been paid for, but in practice, most businesses find they have to give some level of credit to their customers so they do not lose sales to competitors who will allow the customer time to pay. However, allowing a customer a period of credit is a business risk as the cash from sales is the lifeblood of an organization. If a customer delays paying for the goods they have been supplied with (as is the case with Mayo), this can cost the organization money, especially if they have to borrow to fund the business while waiting for payment (as is the case with Lawrence). At worst, it could stretch the cash flow to the point where the business could fail (which Lawrence is facing).

The objectives of a credit policy needs to include good cash flow to reduce and maintain "debtor days" (Hill, Sartoris, and Ferguson, 1990, p. 83); minimal bad debts; good customer service; clear management information, and a robust risk management plan (Hill, Sartoris, and Ferguson, 1990). Good credit management is an essential component of corporate strategy and all Lawrence staff needs to be aware of the policy to ensure that it is consistently maintained. Proper implementation ensures that the revenue recorded from sales translates itself into cash according to the terms of credit that is extended to business customers (Hill, Sartoris, and Ferguson, 1990). The extension of credit is not an automatic right of customers, but rather a tool to aid in the selling of products; a tool that adds an element of risk that an organization will not be paid.

A vast array of forces, including globalization, changing demographics, shifts in consumer demand, resource scarcity, environmental pressures, technology advances, governmental regulation and activism are current reshaping markets, industries, and products. While companies must anticipate and react to these forces through their strategies and plans, special attention must e paid to how they will affect supply.

Without negotiation strategies, customers often focus on accepting a ready solution which may not meet their needs, rather than exploring new alternative solutions sharing mutual commitments in that customers may change their business practices in order to fit the product (Bender and Ward, 2002).

Like all good business relationships, establishing open and personal contact with credit representatives at the beginning of a trading relationship goes a long way in dealing with future negotiations or unforeseen problems. Had Lawrence had this personal contact with their suppliers, they may have been able to discuss their situation open and honestly and not find themselves in the position of stretching their vendor payments and putting a strain on those relationships along with risking the losing or reduction of their credit line.

Best practices derive business measures from business objectives rather than merely from the financial reporting line items. Leading budgeting practices focus on creating the correct measures by relating costs to value creation. This is done by identifying and isolating discretionary programs for value based analysis; identifying budget costs by program and non line item detail; relating resource charges (Bender and Ward, 2002).

Operating control usually involves quantitative and qualitative assessment that captures the nuances of a business. Of these, financial control systems