CA Intermediate · Financial Management and Strategic Management · Introduction to Working Capital Management
Which of the following is a likely effect of overtrading in a firm?
Overtrading means business volume grows beyond what the firm's working capital base can support. The firm relies heavily on creditors and short-term borrowing, leading to liquidity strain. Excess idle cash and low inventory turnover are signs of overcapitalisation instead.
- AExcess cash balances and idle funds
- BSales growth beyond the capacity of available working capital, causing liquidity strainCorrect
- CVery low inventory turnover
- DReduction in creditors due to surplus cash
Explanation
Overtrading occurs when a firm expands sales without adequate long-term working capital funding, so it leans on short-term credit and faces liquidity stress. Excess cash and idle funds are features of overcapitalisation, not overtrading.
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