Production Policy

The quantum of working capital is also determined by production policy. In case of certain lines of business, the demand for products is seasonal, that is, they are purchased during certain months of the year. What kind of production policy should be followed in such cases: There are two option, open to such enterprises: either their production only to periods when goods are purchased or they follow a steady production policy throughout the year and produce goods at a level to melt the peak demand. In the former case, there are serious production problems. During the slack season, the firms have to maintain their working force and physical facilities without adequate production and sale. When the peak period arrives, the firms have to operate at full capacity to meet the demand. This kind of arrangement would not only be expensive but also inconvenient. Thus, serious difficulties will be encountered in trying to match production to the ebb and flow of the seasonal demand pattern. A better alternative is a steady production policy independent of shifts in demand for the finished goods. This means a large accumulation of finished goods (inventories) during the off season and their abrupt sale during the peak season. The progressive accumulation of stock naturally requires an increasing amount of working capital which remains tied up for some months. Working capital planning has to incorporate this pattern of requirement of funds when production and seasonal sales are steady, this strategy (steady production policy) is, however, not necessarily adopted by everyone. It may be possible, for instance, for some to follow a policy of diversification which enables them to engage the working force and the physical facilities in some other activity. If this is possible, there will be no major working capital problem. Moreover, the nature of some products may be such that accumulation of inventories may create special risk and cost problems. For them, a production policy in tune with the changing demands may be preferable. Therefore, production policies have to be formulated on the basis of the individual setting of each enterprise and the magnitude and dimension of the working capital problems will accordingly vary.

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