Next year, a firm plans to produce and sell the same quantity as this year, but prices are expected to rise by 8 per cent. What will happen to its working capital requirement?
Answer & explanation
Correct answer: option 4
The correct answer is Option (4) → It will be higher, as the same volume will now need larger amounts of money.
Option (1) It will stay the same, as the volume of production and sales is unchanged. — Incorrect. The quantity is the same, but each unit of raw material, labour and stock now costs more. So the same volume needs more money, and the requirement rises.
Option (2) It will stay the same, as the production cycle of the firm is unchanged. — Incorrect. The production cycle matters, but here only prices change. Rising prices alone raise the money needed for the same work.
Option (3) It will be lower, as the same sales will now bring in larger amounts of cash. — Incorrect. Higher prices also raise the cost of materials, wages and stock, which the firm must pay for before it sells. So the money tied up in running the business goes up, and the requirement rises.
Option (4) It will be higher, as the same volume will now need larger amounts of money. — Correct. This is the factor inflation. With rising prices, larger amounts are needed even to keep production and sales at the same level. So the firm needs more working capital.
NCERT (2026-27 Edition): “12. Inflation: With rising prices, larger amounts are required even to maintain a constant volume of production and sales. The working capital requirement of a business thus, become higher with higher rate of inflation. It must, however, be noted that an inflation rate of 5%, does not mean that every component of working capital will change by the same percentage.” “5. Production Cycle: Production cycle is the time span between the receipt of raw material and their conversion into finished goods. Some businesses have a longer production cycle while some have a shorter one. Duration and the length of production cycle, affects the amount of funds required for raw materials and expenses. Consequently, working capital requirement is higher in firms with longer processing cycle and lower in firms with shorter processing cycle.” |