Change in Working Capital: Scenario 3What would happen when the sales revenue increases as a result of more units sold? Answer based on a normal scenario.The working capital requirement will decreaseThe working capital requirement will remain unchangedThe working capital requirement will increase
Question
Change in Working Capital: Scenario 3What would happen when the sales revenue increases as a result of more units sold? Answer based on a normal scenario.The working capital requirement will decreaseThe working capital requirement will remain unchangedThe working capital requirement will increase
Solution
The working capital requirement will increase.
Here's why:
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Working capital is calculated as Current Assets minus Current Liabilities.
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When more units are sold, the company's Accounts Receivable (a Current Asset) typically increases because customers owe more money to the company.
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At the same time, the company's Inventory (also a Current Asset) decreases because more units have been sold.
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However, the increase in Accounts Receivable usually outweighs the decrease in Inventory, leading to an overall increase in Current Assets.
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Current Liabilities may also increase if the company has to pay more to its suppliers for the additional units sold.
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But typically, the increase in Current Assets is greater than the increase in Current Liabilities.
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Therefore, the working capital (Current Assets - Current Liabilities) usually increases when more units are sold.
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