question_answer 19)

How does working capital affecting both the liquidity as well as profitability of a business.

Answer:

The working capital should neither be more nor less than required. Both these situations are harmful. If the amount of working capital is more than required, it will no doubt increase liquidity but decrease profitability. For instance, if large amount of cash is kept as working capital, then this excessive cash will remain idle and cause the profitability to fall. On the contrary, if the amount of cash and other current assets are very little then, of difficulties will have to be faced in meeting daily expenses and making payment to the creditors. Thus, optimum amount of both current assets and current liabilities should be determined so that profitability of the business remains intact and there is no fall in liquidity.