Category: Finance

“Are you a small business owner in India looking for ways to reduce your tax burden and invest in your company’s growth? Have you heard about the tax incentives provided under the Startup India Action Plan?” This blog post will explore how these incentives can help small businesses like yours succeed and thrive in the competitive business environment.

Tax incentives are provisions in the tax code designed to encourage certain economic activities. They can take many forms, including exemptions, deductions, credits, and preferential tax rates. Governments can need tax incentives to promote economic development, support specific industries, and encourage innovation.

There are two ways for small businesses in India to get tax, interest, and credit benefits from the government:

1. Registration under the Startup India Action Plan (SIAP) through the Department for Promotion of Industry and Internal Trade (DPIIT)
2. Udyam Registration Portal by Ministry of Micro Small and Medium Enterprises

Udyam Registration does not provide any specific tax benefits for businesses. However, it may give some tax benefits depending on the nature of the business. Read about these incentives in detail below.

[adinserter block=”3″] [adinserter block=”4″]

Udyam Registration Portal

The Udyam Registration Portal is an online platform that allows startups to register with the government and access the benefits and support measures provided by the Central Government of India. The portal is open to all startups that meet the eligibility criteria. In addition, the portal includes a private limited company, partnership firm, or limited liability partnership operating for less than seven years. To register on the portal, startups must provide details about their business, including their products or services, target market, and growth plans.

Startup India Action Plan (SIAP)

The Startup India Action Plan is a government initiative launched in 2016 to promote and support the growth of startups in India. The initiative provides a range of support measures to help startups get off the ground, including access to funding, mentorship and networking opportunities, and regulatory support. One of the critical ways the Startup India Action Plan helps startups is through tax incentives.

[adinserter block=”3″] [adinserter block=”4″]

Tax Benefits under SIAP

The Startup India Action Plan provides tax benefits to eligible startups. These include income tax exemptions on profits for up to 7 years, capital gains tax exemptions, and tax deductions on expenditures incurred on research and development. These incentives can help startups retain more of their profits, invest in growth and expansion, and reduce the overall tax burden on the company.

Tax exemption under Section 80IAC of the Income Tax Act 1961 (IT Act)

Eligibility

1. Must be recognised as an eligible startup by the DPIIT
2. Must meet the conditions in Section 80IAC of the IT Act.
3. Must obtain a certificate from the Inter-Ministerial Board by submitting Form I with supporting documents.
4. The Inter-Ministerial Board may review the application and either grant a certificate or reject it.

Benefits

1. An eligible startup can claim a deduction of 100% of its business profits for three consecutive assessment years out of five years starting from the year incorporated the startup. 
2. This deduction can be claimed for any three consecutive assessment years in five years starting from the year the eligible startup is incorporated.

Tax on Employee Stock Options (ESOPs) deferred for eligible startups under section 156(2) of the Income Tax Act 1961

Eligibility

1. Must be recognised as an eligible startup by DPIIT.

Benefits

1. Can defer Income tax on ESOPs from the time they exercise them.
2. From the financial year 2020-21, the TDS will not be deducted, nor the tax is paid when filing an Income Tax Return for the year the ESOPs were allotted.
3. The tax liability for ESOPs arises within 14 days from
   1. The end of the relevant assessment year (48 months after the end of the assessment year)
   2. The date the employee sells the ESOP shares
   3. The date the employee stops working for the company allotted the ESOPs
4. The startup’s liability to deduct tax at source (TDS) on the ESOPs is also deferred.

Angel tax exemption under section 56(2)(viib) of the IT Act

Eligibility

1. The company must be an eligible startup by DPIIT.
2. The company must be a private or public company or limited liability partnership (LLP) on or after April 1, 2016, and before March 31, 2023.
3. Paid-up share capital and share premium after issuing or proposing to issue shares is less than INR 25 crore.
4. Has not invested in any assets listed in clause 4(iii) of the G.S.R. notification 127 (E) for seven years from the latest financial year’s end in which shares were issued at a premium.
5. Must file a declaration in Form 2 with DPIIT seeking exemption from section 56(2)(viib) before issuing shares. This declaration is forwarded to the CBDT(Central Board of Direct Taxes) for approval.

Benefits

1. Section 56(2)(viib) of the Income Tax Act (IT Act) levies a tax on your private company. Taxing occurs when it issues resident shares at a value above the fair market value of the shares. This tax is considered “income from other sources”.
2. This tax is exempt for eligible startups that meet certain conditions.

[adinserter block=”3″] [adinserter block=”4″]

Availing Tax Exemptions under Section 80-IAC of the IT Act:

Startups registered on the Udyam Registration Portal and meeting the eligibility criteria can avail of tax exemptions under Section 80-IAC of the Income Tax Act. This provision allows startups to claim exemptions on their profits for up to 7 years. To claim the exemption, startups must apply to the DIPP (which means Department of Industrial Policy and Promotion) and provide evidence of their eligibility. 

The Inter-Ministerial Board setup by the DIPP validates Startups for granting tax-related benefits. The Board comprises the following members:

1. Convener,(Additional Secretary, Department of Industrial Policy and Promotion)
2. Representative of Ministry of Corporate Affairs, Member
3. Representative of the Ministry of Electronics and Information Technology, Member
4. Representative of the Department of Biotechnology, Member
5. Representative of the Department of Science & Technology, Member
6. Representative of Central Board of Direct Taxes, Member
7. Representative of Reserve Bank of India, Member
8. Member (Representative of the Securities and Exchange Board of India)

Documents required to apply through the Form-1 for the tax exemptions under section 80-IAC of the IT Act are

1. Copy of Memorandum of Association and Board Resolution (if any)
2. Copies of Annual Accounts (Updated financial statements – Balance Sheet and Profit & Loss statement, certified by CA – for the last three financial years
3. Copies of income tax returns for the last three financial years
4. Updated Pitch deck and Video

[adinserter block=”3″] [adinserter block=”4″]

Availing Angel Tax Exemption under Section 56(2)(viib) of the IT Act:

The Angel Tax Exemption is an Income Tax Act provision allowing startups to claim exemptions on investments received from angel investors. To avail of this exemption, startups must be registered on the Udyam Registration Portal and meet the eligibility criteria, which include being a private limited company or a limited liability partnership that has been in operation for less than seven years. In addition, startups must also provide evidence of the investment received from the angel investor, such as a copy of the investment agreement.

Subject to the fulfilment of additional prerequisites, a qualified startup must file a legally signed statement in Form 2. The DPIIT shall transmit such declaration to the CBDT upon receipt. Other documents needed are

1. Form of the declaration on letterhead;
2. Section 140 of the IT Act requires the declaration to be digitally signed by a person authorised to verify the return of income.

The Startup India Action Plan is a valuable resource for startups in India, providing a range of support measures, including tax incentives, to help them grow and succeed. By registering on the Udyam Registration Portal and availing of the tax exemptions and deductions provided under the initiative, startups can reduce their overall tax burden and retain more profits to invest in growth and expansion.

Profit maximisation and wealth maximisation are two different approaches to business. The main focus for any business is profit maximisation, but many people need to realise that wealth maximisation is just as important. So, what’s the difference between the two? And which one should you focus on? The article will help you understand the terms in detail.

[adinserter block=”3″] [adinserter block=”4″]

Difference between profit maximisation and wealth maximisation

Understanding the difference between profit maximisation and wealth maximisation, requires understanding the concepts of profit and wealth.

Wealth relates to and reflects your whole financial condition and net worth, whereas profit refers to the amount of money you make on an investment or business enterprise.

Increasing profits is always a desirable thing. However, there are some circumstances where raising earnings and relying primarily on them could be harmful to the company’s health and, in the long term, negatively impact total wealth.

Profit maximisation and wealth maximisation are the two main goals of financial management. As the name suggests, profit maximisation refers to increasing a company’s profits, whereas wealth maximisation strives to raise an entity’s value.

Because profit serves as a gauge of efficiency, maximising profit is the company’s primary goal. On the other hand, the goal of wealth maximisation is to increase the stakeholders’ value.

[adinserter block=”3″] [adinserter block=”4″]

What is Profit Maximisation in Financial Management?

For any business that seeks to maximise its earnings, the profit maximisation principle is a crucial idea to comprehend. Finding the most profitable manner to produce goods or deliver services is profit maximisation in financial management. It simply means to increase the company’s profitability.

One of the most specific goals of every business is profit maximisation or maximisation of surplus value. In general, profit in accounting and business jargon refers to the portion of the money that remains after revenue surpasses the costs involved in production.

Here, cost refers to the money spent on production, while revenue refers to the money a business makes from selling its products and services. In other words, this profit can be viewed as the long-term net benefit received by shareholders from a corporation.

What is Wealth Maximisation in Financial Management?

Maximising wealth is something that both people and companies should strive to do. 

Profit maximisation is the goal of every business owner, even though wealth maximisation is the company’s goal.

In other words, wealth maximisation aims to increase the owner’s wealth, whose value is determined by the stock price. As a result, maximising wealth differs from maximising profit.

Profit Maximisation vs. Wealth Maximisation: Comparison Table

Details	Wealth Maximisation	Profit Maximisation
Principle	The definition of this term is the management of financial resources to raise the value of the company’s stakeholders.	It is described as the management of financial resources to boost the company’s profit.
Puts more emphasis on	Emphasises long-term stakeholder value growth for the business.	Prioritises short-term profit growth for the company.
Risk	It takes into account the risks and ambiguity that the business model of the organisation implies.	The company’s business model’s inherent risks and unpredictability are not taken into account.
Application	It contributes to increasing a firm’s value, which could result in the company gaining more market share.	It assists in achieving efficiency in the day-to-day operations of the firm to maximise profitability.
Understanding Time Patterns of Returns	Yes	No

Financial reporting gives you an insight into the financial performance of a business during a certain period. Tracking business metrics allows you to stay up-to-date with your business activities. If your business is not earning enough profits, you must know about it. 

Regular financial checks can keep you on top of your business affairs. You can use these insights to make proper decisions for the further growth of your company.

What is Financial Reporting

Financial reporting is the practice of reporting a company’s financial performance and information over a period of time, typically quarterly or annually. 

In financial reporting, companies record expenses, incomes, and other financial activities. The reports are generated using financial statements which help you gauge the direction in which the business is going in.

Businesses compile the data from different accounts to generate a comprehensive financial statement. Financial reports are made available for the stakeholders and the public to provide them with a good idea of the company’s financial situation as well as help them forecast its prospects. People who deal in stock markets can buy or sell shares based on this information.

[adinserter block=”3″] [adinserter block=”4″]

Objectives of Financial Reporting

1. Track cash flow

You need to know the sources of income and expenses of your business. You also need to know whether your business is generating a profit or incurring a loss. These criteria are important to measure the success of your business. You will also get a fair idea of whether your business will break even or you will have to take loans to cover your expenses.

2. Providing information

When you have investors investing in your company, they have to know the financial status of your business to know how well their investments are being used. Financial reporting generates reports that give them the option to decide whether they wish to invest more in your company or withdraw their investments.

3. Analyse assets and liabilities

Every company has a set of assets and liabilities. It is important to analyse them periodically and monitor any changes in them. These changes can affect the performance of your business. Financial reporting helps you understand what kind of performance you can expect from them and what you can do in case of future changes.

Documents Included in Financial Reporting

Financial reporting is done by generating various financial statements. These statements include the income statement, profit and loss statement, and balance sheet. There may be other disclosures detailing particular transactions. Some companies also issue cash flow statements. 

A company can display any or all of its financial statements on its website, which the investors and public can easily access.

[adinserter block=”3″] [adinserter block=”4″]

Importance of Regular Financial Reporting

It is important to perform financial reporting regularly because of the following points:

1. It checks the income and expenses of your business

Tracking your funds is one of the most important parts of a business. Financial reporting allows you to monitor the income and expenses of your business. It is important to do this regularly for managing debt and allocating funds to appropriate areas. It also allows you to make plans on spending and borrowing.

Regular financial reporting also helps companies remain transparent about their financial dealings. Any investor can track a company’s assets and liabilities using its financial statements. Finally, financial reporting is necessary to measure business metrics which allow investors to check how their investments are being used and how a company is managing its debts.

2. It provides information to key people

Shareholders, high-level executives, and investors use financial reporting data to study the performance of a company and make further decisions. They use this data for making investments, planning budgets, and so on. A company must maintain transparency in its financial dealings so that the people involved can make the correct decisions. A company can invite further funding from investors only if they can show their performance accurately using financial reporting.

3. It ensures accounting compliance

Financial reporting includes using certain processes that all companies have to follow. These processes form a part of the mandatory accounting regulations. The financial reports generated by following these processes are presented in a particular format. This helps ease reading a report by any person in any financial or non-financial organisation. Financial reporting also helps you calculate taxes easily. It ensures your business follows tax regulations and other financial reporting regulations.

4. It supports financial analysis

Financial reporting allows you to analyse business decisions. Financial statements are used to study the performance of your business. They allow you to study important financial data. Financial statements like balance sheets and profit and loss statements help you analyse financial data over several years and identify areas of profit or loss. Financial reporting allows you to create a spending plan and make accurate forecasts about your company’s performance.

[adinserter block=”3″] [adinserter block=”4″]

Different Types of Financial Statements

A document that shows the financial details and transactions of a company is called a financial statement. There are several financial statements generated in financial reporting. These statements are used by the company and the stakeholders to measure its performance. The government and accountants use these documents to calculate taxes.

There are four main types of financial statements:

1. Income statement

An income statement is also known as a profit and loss statement. It declares the company’s income, gains, expenses, and losses. The statement shows how much the company earned or lost during a certain period. It is useful for the shareholders to calculate how much the company’s net worth is.

2. Balance sheet

A balance sheet shows the total assets and liabilities of a company. It also includes your current equity status. A balance sheet can be used to quickly calculate assets minus liabilities. Usually, balance sheets are generated quarterly to evaluate the performance of a company. These reports may include the data of annual balance sheets as well. A balance sheet also allows you to calculate your current debt coverage and liquid asset.

3. Cash flow statement

A cash flow statement is used to measure the rate at which a company uses its funds to manage debts. It also shows how a company is generating income to support expenses. A cash flow statement can be analysed to study how efficiently the current revenue-generating practices are working, the spending patterns, and what can be done to generate more income.

4. Statement of earnings

Though a balance sheet shows the shareholders’ equity, larger companies might prefer to disclose this data on a separate statement. The statement includes the amounts the stakeholders and owners have invested in the company. It also includes the company stocks and securities, which generate income for the company.

Who Can Benefit From Financial Reporting 

Financial reporting is a process that allows businesses to analyse and review financial statements and make decisions that might affect the financial standing of the company. It also provides financial institutions with the proper documentation needed to analyse compliance, study debt management, and issue credit.

Several people and organisations study financial reports to assess the performance of a company. They are:

1. Investors and shareholders

Investors and shareholders hold a share of the company stock. Hence, they must have access to the financial statements to check the company’s performance and how the company uses funds to generate profits. 

2. Creditors

Creditors study the financial statements to analyse the ways by which a company can pay off its debts and offer credit to allow growth. They need to know if a company is worth offering credit to. 

3. Executives

Employees holding high posts in the company, usually managers and above, have a stake in the company stocks. These executives use the financial reporting statements to gauge the performance and improvise operations. Financial reporting also allows them to set new goals for the company and allocate departmental responsibilities.

4. Financial regulatory institutions

Regulatory institutions review the financial reporting statements at periodic intervals. The government and the Income Tax Department check the financial reports for compliance and to calculate tax.

5. Customers

When a company is completely transparent about its financial dealings, it helps maintain and develop a loyal customer base. If a company is involved in charitable activities, it is always better to be open about them to draw customers to your company.

6. Employee unions

Employee unions need to be provided with financial reporting statements to ensure that the workers are getting fair pay for their work. Employee unions can also decide whether working in a company is profitable for them or not by analysing financial statements.

[adinserter block=”3″] [adinserter block=”4″]

Different Methods of Financial Reporting

There are three main ways of financial reporting. These methods ensure that the reports generated are standardised and easy to read across the world.

1. The GAAP (Generally Accepted Accounting Principles)

This system is used in the United States of America almost exclusively.

2. The IFRS (International Financial Reporting Standards)

This system is used in many countries, including India, China, and Australia. 

3. The GDPR (General Data Protection Regulation)

It is used since 2018 and is used to protect sensitive financial data.

Benefits of Financial Reporting

The benefits of financial reporting are as follows:

1. It improves debt management

A business must know the range of its debts. It is well-known that debts can crush a company if not handled properly. Financial reporting helps you track your assets and liabilities to gauge how many liquid assets you have and how you can manage debts using these assets.

2. It identifies financial trends

Every industry follows certain trends. Financial reporting statements help you analyse different trends in the past to predict the trends in the future. For example, if a certain event caused your sales to go up, you can predict that the sales will go up the next time the event occurs. Though this is a simplified example, it gives a rough idea of how financial reporting works.

3. It tracks your finances in real-time

Real-time financial reporting helps you take a critical decision in a short time. This is possible only due to the accurate reports you can get in real-time, which will give you a fair idea of the financial matters of your business.

4. It analyses liabilities

Liabilities are a part of all businesses. However, analysing financial reporting statements can decide how you manage the liabilities. For example, loans, credits from vendors, credit cards, etc., are some of the liabilities you might have. 

5. It helps in business expansion 

This is directly associated with analysing liabilities. If you wish to expand your business, it might be a good idea to analyse your abilities first. You can then decide whether you want to tackle the liabilities first or proceed with the expansion.

6. It ensures compliance

Financial reporting software generates accurate data that are completely GST-compliant. This is essential for the smooth running of a company. It also helps in calculating taxes and filing returns easily.

7. It analyses cash flow

Revenue generation and cash flow are very important to a business. It is essential to put the funds generated to maximum use. You can use the financial reporting statements to analyse cash flow and let it generate more funds by making proper investments.

8. It allows remote access

With the expansion of businesses into the worldwide web, it has become necessary for you to be able to study your business metrics on the go. Financial reporting software is now available on multiple devices that you can use to generate statements anywhere, anytime.

[adinserter block=”3″] [adinserter block=”4″]

Limitations of Financial Reporting

Though financial reporting has many benefits, it has a set of disadvantages too:

1. Costs are calculated using historical data

Financial statements such as balance sheets contain the cost of assets and liabilities. These costs are recorded at the time they are purchased or loaned. However, assets and liabilities have costs that value over a period of time. While some of the costs are adjusted to include inflation or depreciation, fixed asset costs remain unchanged. This could lead to major calculation errors.

2. Inflation is not included

Every economy faces inflation. If the rate of inflation is high, but the costs of the assets remain unchanged, it could lead to a huge difference between the current values and the original costs.

3. Intangible assets are not included

Financial statements do not record intangible assets. The cost incurred to gain an intangible asset is recorded as an expense. This method of financial reporting can be harmful to start-ups and small businesses as they have a large quantity of intellectual property, but their sales are less.

4. Only specific times are considered

A user might consider the financial statements of a certain period and draw conclusions about the company’s financial health. There may be sudden peaks or dips in sales which do not reflect the company’s sales pattern.

5. Comparison may not be possible

Every company has a different method of generating financial statements. If someone wishes to compare the financial statements of two companies, it might not be possible as both are in different formats.

6. Fraud may go undetected

If there is too much pressure on the employees to perform better, they might resort to entering the wrong values just to get a bonus or a promotion. This causes major problems while auditing.

[adinserter block=”3″] [adinserter block=”4″]

Conclusion

Financial reporting is an important aspect of a business. It allows you to study previous patterns and helps you predict future performances and make decisions accordingly. It is useful for owners, stakeholders, partners, and shareholders. 

Computerised financial reporting systems are now taking over the traditional manual version. These systems provide accurate and fast results and allow you to make quick decisions. They access bank data, address redundancies in ledger entries, and generate financial statements you can view at any time.

Using these financial reporting systems will help you make the right decisions to let your business grow and earn more profits.

Read more:

Financial Risk	Types of Working Capital	Trial Balance
Mis Report	Types of Audit	Sundry Creditors Meaning With Examples
Working Capital Management	Contra Entry

Working capital is an essential component of every business, regardless of its size and nature. Sufficient working capital is required for every business to operate efficiently. To cover every need of a business, both expected and unforeseen, working capital is classified into different types. 

Working capital management is a business tactic that effectively benefits the business in using the current assets. It helps them to maintain suitable cash flow and to meet short-term aims and other necessities. 

[adinserter block=”3″] [adinserter block=”4″]

What is Working Capital?

Working capital also known as net-working capital is the difference between the current assets and the current liabilities of a company. 

• Current assets comprise cash, accounts receivables which are the unpaid bills by the customers, and inventories of raw materials and finished goods. 
• Whereas the company’ will include accounts payable, wages, taxes payable, and even the current portion of long-term debt. 

By checking the working capital of a company, we can identify how well the company is working and how they are managing the working capital to meet the day-to-day activities.

Working Capital = Current Assets – Current Liabilities

Types of Working Capital 

Based on the needs of the business working capital is divided into 8 different types.

• Permanent Working Capital
  • Regular Working Capital
  • Reserve Margin Working Capital
• Variable Working Capital
  • Seasonal Variable Working Capital
  • Special Variable Working Capital
• Gross Working Capital
• Net Working Capital

Permanent Working Capital

A part of the working capital that is permanently locked up in the current assets to run a business smoothly is called permanent working capital. Also called Fixed Working Capital, it is the minimum amount of current assets a company requires to operate the business in a given year. 

The minimum amount required to maintain the minimum stock of raw materials is an example of Fixed Working Capital. 

Depending on the size and projected business growth, the amount of permanent working capital is decided. 

Permanent Working Capital is further divided into Regular Working Capital and Reserve Margin Working Capital

Regular Working Capital

As the name suggests, Regular Working Capital is the amount of capital required to cover the regular operations of a business. Examples include daily wages, payments, etc. 

Reserve Margin Working Capital

Any kind of business will always need some amount of capital for unexpected situations other than the amount used to perform daily operations. Thus, the reserve margin working capital is set aside, which can be used during certain circumstances that can occur out of nowhere. Such incidents can be a strike, natural calamities, etc.

Variable Working Capital

Variable working capital is the fund that is invested in the business for a temporary period. This category of working capital is also identified as fluctuating working capital and can vary according to the size of the business or when there is a change in the assets of the business. Variable working capital is again subdivided into two other categories – seasonal variable working capital and special variable working capital. 

Seasonal Variable Working Capital

Every business requires additional working capital at one point in a year. For some businesses, it is during the availability of raw materials, for some, it’s during the festive season and so on. Some businesses that are into production and manufacturing do have seasonal demand for funds, and to reach that, the seasonal variable working capital is created. It is more suitable for businesses of seasonal nature. 

Special Variable Working Capital

Not all the events in a business are planned. Some might be a result of the present situation the business is undergoing. To meet such unexpected expenses like marketing campaigns, special events, etc., a certain amount is allotted and is called special variable working capital. 

Gross Working Capital

Gross working capital is the aggregate amount of funds invested in current assets. In other words, we can say that gross working capital is the total of the current assets of the business, which will include cash, accounts receivables, inventory, marketable securities, and even short-term investments. 

Gross Working Capital, if used alone, will not display the complete image of short-term financial reliability. Likewise, it does not showcase the operational proficiency of the business. To better understand the operational efficiency of a business, the current assets should be compared with the current liabilities. The result will show how efficiently a business uses its short-term assets to meet its day-to-day cash necessities.

Net Working Capital

Net working capital is the difference between the current assets and current liabilities of a business. The net working capital of a business showcases its operational efficiency, liquidity, and short-term financial capacity. A positive net working capital implies that the business is meeting its current liabilities. Hence this type of working capital helps in measuring the creditworthiness of the company. 

[adinserter block=”3″] [adinserter block=”4″]

FAQs related to types of Working Capital

Managing capitals is important for every business. Therefore one must know about working capital and its management. Working capital is the fund available at a given time to run the business. Let us explore working capital, management, and the right way to calculate the same on this page. 

[adinserter block=”3″] [adinserter block=”4″]

Working capital management meaning

Working capital management means carrying out certain business activities to confirm that the business has enough resources to meet the expense of day-to-day operations by keeping the resources invested in the best productive way.

What is working capital management?

Working capital management is a business strategy performed to calculate money flow and thus plan for an efficient company or business functioning. This is done by using and observing the business’s current assets and liabilities in the best possible way. 

We can say that management of working capital is using a business tool to calculate the current assets of the business. This will enable businesses to effectively maintain appropriate cash flow. Further, it allows business to meet short-term goals and other requirements. If a company manages the working capital efficiently, it can use the trapped cash that will not be known otherwise. This will reduce the need for external borrowing, expand the business and invest in R&D.  

Importance of management of working capital

Working capital has many benefits for the business and some of them include, 

• Liquidity management
• Helps in decision making
• Helps in any situation of the cash crisis
• Prevents investment plans
• Helps in earning short-term profits
• Strengthens the work culture
• Improves creditworthiness of the business
• Creates a good reputation and a good working capital can also act as a guarantor to other enterprises

[adinserter block=”3″] [adinserter block=”4″]

Components of working capital management

The most major components of working capital management are the current assets and current liabilities. The difference between the current asset and the current liabilities make up the working capital of a business. The current assets will include trade receivables, inventory, and cash and bank balances. 

Whereas, the current liabilities will include trade payables. All these should be managed efficiently for the smooth running of a business. Now let’s understand the components of working capital management in detail.

Trade Receivables

This is the amount that arises when a business makes a sale or when it provides service on credit. Trade receivable is also known by the name accounts receivables. This amount is shown in the balance sheet as current assets. 

Accounts receivables also consist of the amount due to the bills of exchange receivable. Every business must always ensure that its trade receivable cycle is in line with the industry. If the trade receivable period is extended, it will result in a delayed collection of cash which will impact the cash conversion cycle of the business. 

Accounts receivable is very important when it comes to evaluating a business. By checking the receivables turnover ratio, we can understand how well the working capital is being managed.

Inventory in working capital management

Inventory also comes under the current assets and it forms a vital component of the working capital management. It is important to efficiently manage the inventory of the business because it is responsible for the proper control over all the inventory right from the raw materials purchased and to the finished goods. 

To properly manage the inventory, you must start controlling the inventory, including timely purchase, accurate storage, and efficient use. This can maintain an even and orderly flow of finished goods to meet the commitments on time. 

Also, if the inventory is managed resourcefully, you can avoid excess working capital in holding the inventory that can cause a delay in the cash conversion cycle and can also increase the risk of obsolescence. An increase in the working capital will affect the business and its profitability.

Cash and Bank Balances

Cash is always considered as the king and it is an important component of current assets. Cash does not mean only liquid cash, but it can also include liquid securities which can be easily converted into cash. To keep the working capital cycle stable, it is essential to properly manage the cash of the business. It can also help the business in managing its operating cycle. By seeing the amount of free cash flow generated by the business, we can determine the efficiency of the business. 

If a business utilizes the cash appropriately, it can ensure the business saves trade discounts and can thereby improve the cash conversion cycle. This will also help in analyzing the working capital of any type of business of any nature.  

Accounts Payable or Trade Payables

Account payables come under the current liabilities which also play an essential component of the working capital management. Also, it includes the amount due to the bills of exchange payables. Certain amounts are what the business has to pay for credit purchases made by the business. 

A properly managed accounts payables will always ensure timely payment and create good business relations with creditors and vendors which is very important for the successful running of a business. Every business will have its included and they should always make sure that their trade payable cycle should be in line with the industry. 

Moreover, when a business has a short trade payable cycle, then more cash in hand should be maintained which will also result in longer trade cash conversion cycles and more cost on interest. When a business has a high trade payable turnover ratio, it proves that the creditors are being paid on time to enhance the business’s creditworthiness.

[adinserter block=”3″] [adinserter block=”4″]

How to calculate working capital?

You can easily calculate the working capital of a business by subtracting the current liabilities from current assets. So the formula for calculating the working capital is as follows:

Working Capital = Current Assets – Current Liabilities

FAQs related to working capital management

1. Why is the current ratio considered significant?

You can find the current ratio by dividing the company’s current assets by current liabilities and it is also well-known as the working capital ratio. The current ratio shows the company’s financial stability as it determines the ability to meet short-term monetary obligations. The considerable current ratio of a business is 1.2 to 2.0. But when the current ratio is higher than 2.0, then it shows that the company is not managing its working capital proficiently. If the current ratio is less than 1.0, it specifies that the company’s liquid assets will not cover the company’s debts, which are due in the upcoming years.

2. Is the Collection Ratio Important? If yes, Why?

Yes, the collection ratio is important and it can identify how well a company manages its accounts receivables. The collection ratio is calculated by multiplying the number of days in an accounting period with the average amount of outstanding accounts receivables. Then the amount you get is divided by the total amount of net credit sales during the same accounting period. The collection ratio depicts the effectiveness of the company in collecting payment after the sales transaction is made on credit. If the company’s collection ratio is less, it shows that it has efficient cash flow.

[adinserter block=”3″] [adinserter block=”4″]

What is Financial Risk?

Financial risk can be defined as any peril that can bring about the loss of capital to interested groups or stakeholders. For governments, this can mean that they can’t manage monetary policy and default on bonds or other debt issues. Corporations likewise face the chance of default on debt they attempt yet may also encounter disappointment in an undertaking that causes a financial burden on the business. 

Financial markets face financial risk because of different macroeconomic powers, changes to the market interest rate, and the chance of default by sectors or huge corporations. Individuals face financial risk when they settle on choices that may endanger their income or capacity to pay a debt. 

Financial risks come in numerous shapes and sizes, influencing almost everybody. Thus, you must be aware of the different financial risks. Realising the dangers and learning how to dispose of the risk can moderate the havoc they wreak and lessen the odds of an adverse result.

[adinserter block=”3″] [adinserter block=”4″]

What are the different kinds of financial risks?

1. Market risk

The term market risk, otherwise called systematic risk, alludes to the vulnerability related to any investment choice. Price instability regularly emerges because of unforeseen changes in factors that ordinarily influence the whole financial market. 

Systematic risk isn’t explicitly connected with the company, or the industry one invests in – all things considered, it is reliant upon the performance of the whole market. Thus,  it is important for an investor to watch out for different macro factors that influence the financial market, like inflation, interest rates, the balance of payments circumstance, fiscal deficits, international variables, and so forth.

2. Credit risk

Credit risk is the risk of loss that may happen from the non-fulfilment of a party to comply with the terms and conditions of any financial agreement, especially the inability to make required payments on loans because of an independent entity. Credit risk denotes or measures the creditworthiness of a borrower. 

In figuring credit risk, lenders measure the probability of whether they will recuperate the entirety of their principal and interest when providing a loan or investment. Borrowers viewed as a low credit risk are charged lower interest rates. Lenders, investors, and other counterparties counsel rating agencies to assess the credit risk of working with organisations.

3. Operational risk

Operational risks are regularly connected with dynamic decisions that identify how the organisation functions and what it prioritizes. While the risks are not ensured to bring about failure, lower production, or higher overall costs, they are viewed as higher or lower based upon different inner management decisions. Since it reflects man-made strategies and thinking measures, operational risk can be summed up as a human risk – it is the risk of business operations bombing because of possible human errors.

Operational risks change from one industry to another and are considered when deciding on potential investment strategies.

4. Liquidity risk

Liquidity is concerned with the simplicity with which an asset (equity shares, debentures, etc.) can be exchanged in the stock market in return for currency. Therefore, liquidity risk portrays the risks related to such exchanges, as the fruitful transformation of stock into cash relies upon different factors. 

Ordinarily, high liquidity risk shows that a particular asset cannot be promptly purchased or sold in the market. This is because a responsible company may come across difficulties in gathering its present liabilities because of diminished cash flow.

[adinserter block=”3″] [adinserter block=”4″]

What is financial risk management?

Financial risk management is a process of managing the vulnerabilities arising out of the operations of financial markets. It implies surveying the financial risks confronting an organisation and creating management strategies to mitigate the same in accordance with its internal policies and objectives.

Tending to financial risks proactively may give an organisation a competitive edge. It also guarantees that management, operational staff, stakeholders, and the board of directors are in concurrence with central points of contention of risk. Managing financial risk requires settling on organisational decisions about satisfactory risks versus those that are definitely not.

Organisations manage financial risk by leveraging an assortment of strategies and items. It is critical to see how these items and strategies work to diminish risk inside the setting of the organisation’s risk resistance and goals.

Financial risk vs Business risk

A company’s business risk alludes to the risk that influences the company’s business value, whether it be by means of loss of market share, or by new contestants who obliterate the business, or by the prevalent market rivalries among companies. However, financial risk is where the company fails to manage its funds due to liquidity risk, or market risk or because it could not deal with the business’ pressing interests in time.

Business risk can be characterised as the risk of whether the proprietor/s can maintain the business in the long haul or not. In simple words, it indicates the possibility of a company making lower profits due to market uncertainties, including changes in the taste and preference patterns of customers, increased market competition, etc.

Financial risk is when the company does not have the option or position to repay its debt. At the point when a firm needs to improve its financial influence by permitting the debt to go into their capital structure, they experience the ill effects of financial risk. Financial risk is directly proportional to how much debt you permit into your capital structure.

[adinserter block=”3″] [adinserter block=”4″]

Why is it important to know about financial risks?

Financial risk, in itself, isn’t naturally fortunate or unfortunate; characterised however, just exists to various degrees. Obviously, “risk” by its very nature has an unfortunate underlying meaning, and financial risk is no exemption. A risk can spread from one business to influence a whole sector, market, or even on a global scale.

While it isn’t a positive attribute, understanding the chance of financial risk can prompt better, more educated business or investment choices. Surveying the degree of financial risk related to security or asset decides or sets that investment’s worth.

If you wish to develop your business’ portfolio or market standing, you must incur risks from time to time. And while every financial risk may not be in your control, you can of course use your industry knowledge and latest technological tools to avoid such risks, at least to a certain extent. For instance, if you use myBillBook, you can better control your financial operations by monitoring and tracking them. myBillBook helps simplify your business operations, generate real-time business reports, monitor your accounts payable and receivable, and much more!

What is an audit?

An audit refers to the autonomous inspection of financial information of any organisation, regardless of whether they’re for-profit or non-profit, their size, or legal form at the time of the audit. In simple words, an audit examines a company’s financial statements or organisation.

Auditing endeavours to guarantee that the books of accounts are appropriately updated and maintained according to legal standards and norms. Auditors think about the propositions before them, acquire evidence, and assess the proposals in their auditing report.

[adinserter block=”3″] [adinserter block=”4″]

Why are audit reports important?

An audit is significant as it gives believability to a set of financial statements and gives the shareholders certainty that the accounts are valid and reasonable. It can likewise assist with improving a company’s internal controls and systems. Audits are also performed to guarantee that financial statements are set up per the applicable bookkeeping guidelines. The three essential financial statements are:

1. Income statement
2. Balance sheet
3. Cash flow statement

Here are a few reasons highlighting the importance of audits:

• Auditing helps detect and prevent blunders and frauds. 
• An audit helps in maintaining business records and verification of the books of accounts. 
• The independent assessment of an auditor is fundamental for the efficient management of any company. 
• An audit establishes a moral check on the staff so that they remain ethical and mindful of their actions. This makes the team more dynamic and responsible. 
• Audits protect the interests of the shareholders in a joint-stock company by guaranteeing them that their accounts are being overseen appropriately and their interests won’t suffer under any conditions. 
• Audits offer assurance and boost the confidence of stakeholders, including creditors, debenture holders, and banks. 
• Audited statements guarantee compliance with legal requirements, such as listing the stock exchange requirements. 
• Auditing reinforces and fortifies internal control and gives ideas important to the internal control framework. 
• Timely audits enable easier access to loans since it gives a clear picture of a business’s records to the banks.

[adinserter block=”3″] [adinserter block=”4″]

What are the different types of audits?

There are three types of audits:

1. Internal audits

Internal audits are performed by the employees of a company or association. These audits are not dispersed outside the company. Instead, they are done for the perusal of company management and other internal stakeholders. 

Internal audits aim to improve a company’s inner functionings by allowing managers to identify key areas of improvement and gain more control over company operations. Management professionals can also use internal audits to distinguish flaws or failures inside the company before permitting external auditors to review the financial statements.

2. External audits

Performed by external organisations and outsiders, external audits give an unbiased assessment that internal auditors cannot provide. External financial audits help identify any material misinformation or blunders in a company’s financial statements. 

External audits are significant for permitting different stakeholders to settle on choices encompassing the company being audited unbiasedly. The critical distinction between an external auditor and an internal auditor is that an external auditor is independent and unbiased. It implies that they can give an objective assessment as opposed to an internal auditor, whose freedom might be undermined because of the employer-employee relationship. 

There are some grounded bookkeeping firms that normally conduct external audits for different enterprises. The most notable are the Big Four – Deloitte, KPMG, Ernst and Young (EY), and PricewaterhouseCoopers (PwC).

3. Government audits

Government audits are performed to guarantee that financial statements have been arranged accurately to not distort the company’s taxable income. In India, the Comptroller and Auditor General of India (CAG) performs audits that check the precision of taxpayer’s tax returns and transactions. 

Audit determinations are made to guarantee that organisations are not misrepresenting their taxable income. Misquoting taxable income is viewed as tax fraud. The CAG currently utilises measurable recipes and AI to discover taxpayers at high risk of submitting tax fraud. 

Playing out a government audit may bring forth a conclusion that there is: 

• No adjustment of the tax return. 
• A change that is accepted by the taxpayer.
• A change that isn’t accepted by the taxpayer.
• On the off chance that a taxpayer winds up not accepting a change, the issue will go through a legal interaction of mediation or appeal.

[adinserter block=”3″] [adinserter block=”4″]

What are the stages of an audit?

How an audit is conducted differs depending upon the size of the corporation and the complexity of the case. In any case, an audit, as a rule, has four primary stages: 

1. The first stage is the Planning Stage. In this stage, a corporation draws in with the auditing firm to set up subtleties, like the degree of commitment, procedures, and targets. 

2. The second stage is the Internal Controls Stage. In this stage, auditors accumulate financial records and some other relevant data to direct their audits. The data is vital to assess the exactness of financial statements. 

3. The third stage is the Testing Stage. In this stage, auditors analyse the exactness of the financial statements utilising different tests. It might include verifying transactions, regulating procedures, or mentioning more data. 

4. The fourth stage is the Reporting Stage. After completing the tests, the auditors set up a report that communicates an assessment of the exactness of the financial statements.

How does myBillBook help with audits? 

1. Simplify your billing operations 

• You can make bills inclusive and exclusive of GST. All you need is: 

• GSTIN of both parties.
• The billing and shipping address of the party.
• Consecutive invoice numbers.
• Date of issuance.
• HSN code of items. 
• CGST/SGST/IGST on items (as applicable). 

• Share the invoice instantly over e-mail or WhatsApp. 
• Create vouchers, payment receipts, sale & purchase orders, sale & purchase returns, delivery challans, etc. You can also send a notification to parties whenever a voucher is created in their name. 

2. Keep track of your business with timely business reports like: 

● Sales summary 

● Profit and loss reports 

● Party statements 

● Stock summary 

● GSTR-1 (Sales) [paid feature] 

● GSTR-2 (Purchase) [paid feature] 

● GSTR-3B [paid feature]

3. Keep track of accounts payable and accounts receivable 

● myBillBook automatically sends out payment reminders and collects payments with a single click. 

● It also notifies you of any overdue payments you need to make.

[adinserter block=”3″] [adinserter block=”4″]