8/8/2019 Working Capital Management at CEAT LTD.
1/34
Working capital
IntroductionCapital required for a business can be classifies under two main categories:1. Fixed CapitalEvery business needs funds for two purposes for its establishments and to carry out day to
day operations. Long term funds are required to create production facilities through purchase
of fixed assets such as plant and machinery, land and building, furniture etc. Investments inthese assets are representing that part of firms capital which is blocked on a permanent or
fixed basis and is called fixed capital.
2. Working CapitalIn simple words, Working capital refers to that part of the firms capital which is required
for financing short term or current assets such as cash, marketable securities, debtors and
inventories. Funds are also needed for short term purposes for the purchasing of rawmaterials, payments of wages and other day to day expenses etc. These funds are known as
working capital.
Classification of Working Capital
Working Capital can be classified in following ways:
Classification On the basis of Balance Sheet ConceptOn the basis of Balance Sheet concept, working capital can befurther classified into two
concepts:
8/8/2019 Working Capital Management at CEAT LTD.
2/34
1. Gross Working CapitalThe term working capital refers to the Gross working capital and represents the amount of
funds invested in current assets. Thus, the gross working capital is the capital invested in total
current assets of the enterprises. The gross working capital concept is financial or going
concern concept.
Constituents of Current Assets:Current assets are those assets which are converted into cash within short periods of normallyone accounting year. Example of current assets is:
Cash in hand and Bank balance
Bills Receivable
Sundry Debtors
Short term Loans and Advances Inventories of Stock as:
Raw MaterialsWork in Process
Stores and SpacesFinished Goods
Temporary Investments of Surplus Funds Prepaid Expenses
Accrued Incomes
Gross Working Capital/Total Current Assets of the firm.Current Assets Amount (Rs. In Lacs)
Inventories406,07.57
Sundry Debtors 376,31.61
Cash and Bank Balances 139,98.91
Loan and Advances 110,10.26
Short term Investments 4,300.42
Total Current Assets 1032,48.35
2. Net Working CapitalNet working capital is an accounting concept of working capital. Net working capital is theexcess of current assets over current liabilities or say:
Net Working Capital = Current Assets Current Liabilities
8/8/2019 Working Capital Management at CEAT LTD.
3/34
Constitutes of Current Liabilities:Current liabilities are those liabilities which are intended to be paid in the ordinary course of
business within a short period of normally one accounting year of the current assets or the
income of the business. Examples of current liabilities are:
Bills Payable
Sundry Creditors or Account Payable
Accrued or Outstanding Expenses
Short term Loans, Advances and Deposits
Dividends Payable
Bank Overdraft Provision for Taxation, If does not amount to appropriation of profit.
Current Liabilities of the firm
Current LiabilitiesAmount (Rs. In
Lacs)
Acceptances 155,67.00
Sundry Creditors 491,59.76Interest Accrued but not due 4,06.95
Deposit from Others 55.52
Other Liabilities 102,43.03
Unclaimed Dividends 34.46
Unclaimed Interest and matured Deposits 0.32
Provisions 36,35.82
Total Current Liabilities791,02.86
NET WORKING CAPITAL MAY BE NEGATIVE OR POSITIVE:When the current assets exceed the current liabilities, the working capital is positive and the
negative working capital results when the current liabilities are more than the current assets.
Net Working Capital/Net Current Assets of the firmRs. In Lacs
Total Current Assets 1032,48.35
Total Current Liabilities 791,02.86
Net Current Assets 241,45.49
y Classification On the basis of Time
8/8/2019 Working Capital Management at CEAT LTD.
4/34
On the basis of time, working capital may be classified as:
1) Permanent or Fixed Working CapitalThe need for current assets arises, as already observed, because of the cash cycle. To carry on
business certain minimum level of working capital is necessary on continues and
uninterrupted basis. For all practical purpose, this requirement will have to be met permanent
as with other fixed assets. This requirement refers to as permanent or fixed working capital.
2) Temporary working capitalAny amount over and above the permanent level of working capital is temporary, fluctuating
or variable, working capital. This portion of the required working capital is needed to meet
fluctuation in demand consequent upon changes in production and sales as result of seasonalchanges.
Both kind of working capital permanent and fluctuating (temporary) are necessaryto
facilitate production and sales through the operating cycle. The amount over andabovepermanent working capital is temporarily variable or fluctuating.
In the above figure, it is shown that permanent working capital is stable over timewhile
temporary working capital is fluctuating some times increasing andsometimesdecreasing.
8/8/2019 Working Capital Management at CEAT LTD.
5/34
Need for Working Capital Management
The basic objective of financial management is to maximize shareholders wealth. For this itis necessary to generate sufficient profits. The extent to it, which the profit can be earned,
largely depends on the magnitude of sales. However sales do not convert into cash instantly.
There is invariable the time gap between the sales of goods and receipts of cash. There is,
therefore, a need for working capital in the form of Current Assets to deal with the problem
arising. Out of the lack of immediate realization of cash again goods sold. Therefore,
sufficient working capital is necessary to sustain sales activity.
Working capital is needed for the following purpose:
1. For the purchase of raw material, components and spares.
2. To incur day to day expenses and overhead costs such as fuel, power and office expenses,
etc.3. To meet selling costs as packing, advertisement etc.
4. To provide credit facilities to the customers.5. To maintain the inventories of raw material, work in progress, stores and spare and
finished goods.6. To pay wages and salaries.
8/8/2019 Working Capital Management at CEAT LTD.
6/34
Determinants of working capitalWorking capital requirements of a concern depends on a number of factors, each of whichshould be considered carefully for determining the proper amount of working capital. It may
be however be added that these factors affect differently to the different units and these keeps
varying from time to time. In general, the determinants of working capital which re common
to all organizations can be summarized as under:1. Nature of Business
Working capital requirement of a firm are basically influenced by nature of business.
Trading and financial firms require a large sum of money to be invested in working capital to
carry large stocks of a variety of goods to satisfy varied and continuous demands of their
customers. Manufacturing and construction firms have to invest substantially in working
capital. In contrast, Public utilities may have limited need for working capital because they
may have only cash sales and supply services, not product. So such concern have to make
adequate investment in current assets depending upon the total assets structure and other
variables.
2. Size and growth of businessIn very small company the working capital requirement is quit high due to high overhead,
higher buying and selling cost etc. as such medium size business positively has edge over thesmall companies. But if the business start growing after certain limit, the working capital
requirements may adversely affect by the increasing size.
3. Business/ Trade cycle
If the company is the operating in the time of boom, the working capital requirement may bemore as the company may like to buy more raw material, may increase the production and
sales to take the benefit of favorable market, due to increase in the sales, there may more and
more amount of funds blocked in stock and debtors etc. similarly in the case of depressions
also, working capital may be high as the sales terms of value and quantity may be reducing,
there may be unnecessary piling up of stack without getting sold, the receivable may not be
recovered in time etc.
4. Length of production cycle
In some business like machine tools industry, the time gap between the acquisition of raw
material till the end of final production of finished products itself is quit high. As such
amount may be blocked either in raw material or work in progress or finished goods or even
in debtors. Naturally there need of working capital is high.
5.Fluctuations of supply and seasonal variationsSome companies need to keep large amount of working capital due to their irregular sales and
intermittent supply. Similarly companies using bulky materials also maintain large reservesof raw material inventories. This increases the need of working capital. Some companies
manufacture and sell goods only during certain seasons. Working capital requirements ofsuch industries will be higher during certain season of such industries period.
6. Production policies
Production policies of the organization effect working capital requirements very highly.Seasonal industries, which produces only in specific season requires more working capital.Some industries which produces round the year but sale mainly done in some special seasons
are also need to keep more working capital.
7. Operating efficiency
If the business is carried on more efficiently, it can operate in profits which may reduce the
strain on working capital; it may ensure proper utilization of existing resources by
eliminating the waste and improved coordination etc.
8/8/2019 Working Capital Management at CEAT LTD.
7/34
8. Terms of purchase and salesSome time due to competition or custom, it may be necessary for the company to extend
more and more credit to customers, as result which more and more amount is locked up indebtors or bills receivables which increase the working capital requirement. On the other
hand, in the case of purchase, if the credit is offered by suppliers of goods and services, a part
of working capital requirement may be financed by them, but it is necessary to purchase on
cash basis, the working capital requirement will be higher.9. Profitability
The profitability of the business may be vary in each and every individual case, which is in
turn its depend on numerous factors, but high profitability will positively reduce the strain on
working capital requirement of the company, because the profits to the extend that they
earned in cash may be used to meet the working capital requirement of the company.
10. Current asset policiesThe quantum of working capital of a company is significantly determined by its current assets
policies. A company with conservative assets policy may operate with relatively high level of
working capital than its sales volume. A company pursuing an aggressive amount assets
policy operates with a relatively lower level of working capital.
11. Other factors
Effective co ordination between production and distribution can reduce the need for workingcapital. Transportation and communication means. If developed helps to reduce the working
capital requirement.
Meaning of Working Capital ManagementDecisions relating to working capital and short term financing are referred to as working
capital management. These involve managing the relationship between a firm's short-termassets and its short-term liabilities.
The goal of working capital management is to ensure that the firm is able to continue its
operations and that it has sufficient cash flow to satisfy both maturing short-term debt and
upcoming operational expenses.
Efficient management of working capital is one of the pre-conditions for the success of an
enterprise. Efficient management of working capital means management of various
components of working capital in such a way that an adequate amount of working capital is
maintained for smooth running of a firm and for fulfillment of twin objectives of liquidity
and profitability. While inadequate amount of working capital impairs the firms liquidity.
Holding of excess working capital results in the reduction of profitability. But the properestimation of working capital actually required, is a difficult task for the management because
the amount of working capital varies across firms over the periods depending upon the nature
of business, production cycle, credit policy, availability of raw material, etc. Thus efficient
management of working capital is an important indicator of sound health of an organizationwhich requires reduction of unnecessary blocking of capital in order to bring down the cost of
financing.
8/8/2019 Working Capital Management at CEAT LTD.
8/34
Need of working capital managementThe need for working capital gross or current assets cannot be over emphasized.As already
observed, the objective of financial decision making is to maximizethe shareholders wealth.
To achieve this, it is necessary to generate sufficientprofits can be earned will naturally
depend upon the magnitude of the salesamong other things but sales cannot convert into cash.
There is a need forworking capital in the form of current assets to deal with the problemarisingout of lack of immediate realization of cash against goods sold. Thereforesufficient
working capital is necessary to sustain sales activity. Technically thisis refers to operating or
cash cycle. If the company has certain amount of cash,it will be required for purchasing the
raw material may be available on creditbasis. Then the company has to spend some amount
for labour and factoryoverhead to convert the raw material in work in progress, and
ultimatelyfinished goods. These finished goods convert in to sales on credit basis in theformof sundry debtors. Sundry debtors are converting into cash after expiry ofcredit period. Thus
some amount of cash is blocked in raw materials, WIP,finished goods, and sundry debtorsand day to day cash requirements. Howeversome part of current assets may be financed by
the current liabilities also. Theamount required to be invested in this current assets is alwayshigher than thefunds available from current liabilities. This is the precise reason why the
needsfor working capital arise.
Research MethodologyIntroductionResearch methodology is a way to systematically solve the research problem. Itmay be
understood as a science of studying now research is donesystematically. In that various steps,
those are generally adopted by a researcher in studying his problem along with the logic
behind them.It is important for research to know not only the research method but also
knowmethodology. The procedures by which researcher go about their work ofdescribing,
explaining and predicting phenomenon are called methodology.
Methods comprise the procedures used for generating, collecting and evaluatingdata. All this
means that it is necessary for the researcher to design hismethodology for his problem as thesame may differ from problem to problem.
Data collection is important step in any project and success of any project willbe largelydepend upon now much accurate you will be able to collect and howmuch time, money and
effort will be required to collect that necessary data, thisis also important steps. Datacollection plays an important role in research work. Without proper dataavailable for analysis
you cannot do the research work accurately.
Types of data collectionThere are two types of data collection methods available.1. Primary data collection
2. Secondary data collection
1) Primary dataThe primary data is that data which is collected fresh or first hand, and for firsttime which is
original in nature. Primary data can collect through personalinterview, questionnaire etc. to
support the secondary data.
2) Secondary data collection methodThe secondary data are those which have already collected and stored.
Secondary data easily get those secondary data from records, journals, annualreports of the
company etc. It will save the time, money and efforts to collectthe data. Secondary data also
8/8/2019 Working Capital Management at CEAT LTD.
9/34
made available through trade magazines, balance -sheets, books etc.This project is based on primary data collected through personal interview ofhead of account
department, head of SQC department and other concerned staffmember of financedepartment. But primary data collection had limitations suchas matter confidential
information thus project is based on secondaryinformation collected through five years
annual report of the company,supported by various books and internet sides. The data
collection was aimed atstudy of working capital management of the companyProject is based on
1. Annual report of CEAT LTD. 2005-06
2. Annual report of CEAT LTD. 2006-07
3. Annual report of CEAT LTD. 2007-08
4. Annual report ofCEAT LTD. 2008-09
5. Annual report of CEAT LTD. 2009-10
OBJECTIVES OF THE STUDYStudy of the working capital management is important because unless theworking capital is
managed effectively, monitored efficiently planed properlyand reviewed periodically atregular intervals to remove bottlenecks if any thecompany cannot earn profits and increase its
turnover. With this primaryobjective of the study, the following further objectives are framedfor a depthanalysis.
1. To study the working capital management of CEAT Ltd.
2. To study the optimum level of current assets and current liabilities of thecompany.
3. To study the liquidity position through various working capital relatedratios.
4. To study the working capital components such as receivables accounts,cash management,
Inventory position.
5. To study the way and means of working capital finance of the CEAT Ltd.
6. To estimate the working capital requirement of CEAT Ltd.
7. To study the operating and cash cycle of the company.
SCOPE & LIMITATIONS OF THE STUDYScope of the studyThe scope of the study is identified after and during the study is conducted. Thestudy of
working capital is based on tools like trend Analysis, Ratio Analysis,working capitalleverage, operating cycle etc. Further the study is based on last5 years Annual Reports of
CEAT Ltd. And even factors likecompetitors analysis, industry analysis were not consideredwhile preparingthis project.
Limitations of the studyFollowing limitations were encountered while preparing this project:
1) Limited data:-This project has completed with annual reports; it just constitutes one part ofdata collection
i.e. secondary. There were limitations for primary data collectionIe of confidentiality.
2) Limited period:-This project is based on five year annual reports. Conclusions andrecommendations are based
on such limited data. The trend of last five yearmay or may not reflect the real workingcapital position of the company.
3) Limited area:-Also it was difficult to collect the data regarding the competitors and theirfinancial
information. Industry figures were also difficult to get.
Working capital level
8/8/2019 Working Capital Management at CEAT LTD.
10/34
The consideration of the level investment in current assets should avoid twodanger pointsexcessive and inadequate investment in current assets. Investmentin current assets should be
just adequate, not more or less, to the need of thebusiness firms. Excessive investment incurrent assets should be avoidedbecause it impairs the firms profitability, as idle investment
earns nothing. Onthe other hand inadequate amount of working capital can be
threatenedsolvency of the firms because of its inability to meet its current obligation. Itshould
be realized that the working capital need of the firms may be fluctuatingwith changing business activity. This may cause excess or shortage of workingcapital frequently. The
management should be prompt to initiate an action andcorrect imbalance.
Table 4.1- Size of working capital
Particulars 2009-10 2008-09 2007-08 2006-07 2005-06
A) Current Assets
Inventories40607.57 21941.63 34106.00 22121.71 18345.44
Sundry Debtors37631.61 31870.85 30790.82 26317.07 25322.77
Cash & Bank Balance13998.91 20151.84 4158.70 4055.13 3961.27
Loan & Advances11010.26 7942.64 8142.41 5606.20 6304.06
Short Term
Investments 4300.42 4106.66 960.23 1711.13 1711.13
Total of A
(Gross W.C.) 107548.77 86013.62 78158.16 59811.24 55645.19
B)Current Liabilities
Current Liabilities75467.04 48905.12 52827.32 48964.85 47032.53
Provisions3635.82 1780.29 2524.81 3513.12 3853.78
Total of B79102.86 50685.41 55352.13 52477.97 50886.31
Net W.C.(A-B)28445.91 35328.21 22806.03 7333.27 4758.88
Working capital trend analysisIn working capital analysis the direction at changes over a period of time is ofcrucial
8/8/2019 Working Capital Management at CEAT LTD.
11/34
importance. Working capital is one of the important fields ofmanagement. It is therefore veryessential for an annalist to make a study aboutthe trend and direction of working capital overa
period of time. Such analysisenables as to study the upward and downward trend in currentassets andcurrent liabilities and its effect on the working capital position.
In the words of S.P. Gupta The term trend is very commonly used in day-todayconversion
trend, also called secular or long term need is the basic tendencyof population, sales, income,current assets, and current liabilities to grow ordecline over a period of time
According to R.C.galeziem The trend is defined as smooth irreversiblemovement in the
series. It can be increasing or decreasing.
Emphasizing the importance of working capital trends, Man Mohan and Goyalhave pointed
out that analysis of working capital trends provide as base tojudge whether the practice and
privilege policy of the management with regardto working capital is good enough or an
important is to be made in managingthe working capital funds.
Further, any one trend by it self is not very informative and thereforecomparison with
Illustrated their ideas in these words, An upwards trends coupled withdownward trend orsells, accompanied by marked increase in plant investmentspecially if the increase in
planning investment by fixed interest obligation
Years 2005-06 2006-07 2007-08 2008-09 2009-10
Net W.C. (A-B) 4758.88 7333.27 22806.03 35328.21 28445.91
W.C. Indices 100 154.1 479.2 742.4 497.7
8/8/2019 Working Capital Management at CEAT LTD.
12/34
ObservationsIt was observed that there are mismatches between changes in current assets and current
liabilities. In 2006-07 current assets increased by 7.5% and current liabilitiesincreased by
only around 3% while net working capital Increased by 54.1%. In 2007-08 current assets
increased by 30.7% and current liabilities increased only by 5.5%.Net working capital
increased by 325.7%. In 2008-09 current assets increased by 10% and current liabilities
decreased by 8.4% and there is an increase of 263.2% in net working capital. It shows that
management is using long term funds to short term requirement. In 2009-10 current assets
increased by 25% and current liabilities increased by 56% and there is a decrease of 245% in
net working capital. It indicates that firm is utilizing its short term resources efficiency.Current assets
Total assets are basically classified in two parts as fixed assets and currentassets. Fixed assets
are in the nature of long term or life time for theorganization. Current assets convert in thecash in the period of one year. Itmeans that current assets are liquid assets or assets which can
convert in to cashwithin a year.
Current Assets Size
Particulars 2005-06 2006-07 2007-08 2008-09 2009-10
Inventories 18345.44 22121.71 34106.00 21941.63 40607.57
Sundry Debtors 25322.77 26317.07 30790.82 31870.85 37631.61
Cash & Bankbalances 3961.27 4055.13 4158.70 20151.84 13998.91
Loan & Advances 6304.06 5606.208142.41 7942.64 11010.26
Short term
Investments1711.13
1711.13 960.23 4106.66 4300.42
Total Current
100
154.1
479.2
742.4
497.7
0
100
200
300
400
500
600
700
800
2005-06 2006-07 2007-08 2008-09 2009-10
Net Working Capital Indices
8/8/2019 Working Capital Management at CEAT LTD.
13/34
Assets 55645.19 59811.24 78158.16 86013.62 107548.77
Current Assets
Indices100 107.5 138.2 148.2 173.2
Composition of current assetsAnalysis of current assets components enables one to examine in whichcomponents theworking capital fund has locked. A large tie up of funds ininventories affects the profitability
of the business or the major portion ofcurrent assets is made up cash alone, the profitability
will be decreased becausecash is non earning assets.
Composition of Current Assets
Particulars 2005-06 2006-07 2007-08 2008-09 2009-10
Inventories 32.96 36.98 43.63 25.5 37.75
Sundry Debtors 45.5 44.0 39.4 37.05 34.99
Cash and Bank Balances 7.11 6.77 5.32 23.43 13.02
Short Term Investments 11.33 9.37 10.41 9.23 10.23
Loan and Advances 3.07 2.86 1.23 4.77 4.0
Total of Current Assets 100 100 100 100 100
0
20
40
60
80
100
120
140
160
180
200
2005-06 2006-07 2007-08 2008-09 2009-10
Current Assets Indices
Current Assets Indices
8/8/2019 Working Capital Management at CEAT LTD.
14/34
It was observed that the size of current assets is increasing with increases in thesales. The
excess of current assets is showing positive liquidity position of thefirm but it is not alwaysgood because excess current assets then required, itmay adversely affects on profitability.
Current assets include some fundsinvestments for which company pay interest. Company ismanaging its Debtors efficiently which is a source of liquidity.
Current liabilitiesCurrent liabilities mean the liabilities which have to pay in current year. Itincludes sundry
creditors means supplier whose payment is due but not paidyet, thus creditors called as
current liabilities. Current liabilities also includeshort term loan and provision as tax
provision. Current liabilities also includesbank overdraft. For some current assets like bank
overdrafts and short termloan, company has to pay interest thus the management of current
liabilities hasimportance
Particulars 2005-06 2006-07 2007-08 2008-09 2009-10
Current Liabilities 47032.53 48964.85 52827.32 48905.12 75467.04
Provisions 3853.78 3513.12 2524.81 1780.29 3635.83
Total Current Liabilities 50886.31 52477.97 55352.13 56685.41 79102.86
Indices of C.L. 100 102.88 108.78 111.40 155.50
0
5
10
15
20
25
30
35
40
45
50
2005 -06 2006 -07 20 07-08 200 8-09 20 09-10
Inventories
Sundry Debtors
ash and Bank Balances
Short Term Investments
Loan and Advances
8/8/2019 Working Capital Management at CEAT LTD.
15/34
ObservationsCurrent liabilities show continues growth each year because company createsthe credit in the
market by good transaction. To get maximum credit fromsupplier which is profitable to thecompany it reduces the need of workingcapital of firm. As a current liability increase in the
year 2006-07 by 35% itreduce the working capital size in the same year. But companyenjoyed overcreditors which may include indirect cost of credit terms.
Changes in working capitalThere are so many reasons to changes in working capital as follow
1. Changes in sales and operating expanses:-
The changes in sales and operating expanses may be due to three reasons1. There may be long run trend of change e.g. the price of row materialsay oil may constantlyraise necessity the holding of large inventory.
2. Cyclical changes in economy dealing to ups and downs in businessactivity will influence
the level of working capital both permanent andtemporary.
3. Changes in seasonality in sales activities
4. Policy changes:-
The second major case of changes in the level of working capital is because ofpolicy changes
initiated by management. The term current assets policy may bedefined as the relationship
between current assets and sales volume.
. Technology changes:-
The third major point if changes in working capital are changes in technologybecause change
sin technology to install that technology in our business moreworking capital is required
A change in operating expanses rise or full will have similar effects on thelevels of working
following working capital statement is prepared on the baseof balance sheet of last two year.
0
20
40
60
80
100
120
140
160
180
2005-06 2006-07 2007-08 2008-09 2009-10
Current Liabilities Indices in %
rre
t Lia
ilities I
ices i
%
8/8/2019 Working Capital Management at CEAT LTD.
16/34
Statements of Changes in Working Capital
Particulars 2008-09 2009-10Changes in W. C.
Increase Decrease
A) Current
Asset
Inventories 21941.63 40607.57 18665.94SundryDebtors 31870.85 37631.61 5760.76
Cash and
BankBalances 20151.84 13998.91 6152.93
Short TermInvestments 7942.64 11010.26 3067.62
Loan and
Advances 4106.66 4300.42 193.76
Total of A86013.62 107548.77
B) Current
Liabilities
Current
liabilities 48905.12 75467.04 26561.92
Provisions1780.29 3635.82 1855.53
Total of B50685.41 79102.86
W. C. (A - B)35328.21 28445.91
Decrease in
Net Working
Capital 6882.3
Total 35328.21 35328.21 62987.83
8/8/2019 Working Capital Management at CEAT LTD.
17/34
Operating CycleThe need of working capital arrived because of time gap between productions ofgoods and
their actual realization after sale. This time gap is called OperatingCycle or Working
Capital Cycle. The operating cycle of a company consistof time period between
procurement of inventory and the collection of cashfrom receivables. The operating cycle is
the length of time between thecompanys outlay on raw materials, wages and other expansesand inflow ofcash from sales of goods.
Operating cycle is an important concept in management of cash andmanagement of cash
working capital. The operating cycle reveals the time thatelapses between outlays of cash and
inflow of cash. Quicker the operating cycleless amount of investment in working capital is
needed and it improvesprofitability. The duration of the operating cycle depends on nature of
industriesand efficiency in working capital management.
IntroductionRatio analysis is the powerful tool of financial statements analysis. A ratio isdefine as the
indicated quotient of two mathematical expressions and as therelationship between two ormore things. The absolute figures reported in thefinancial statement do not provide
meaningful understanding of theperformance and financial position of the firm. Ratio helps to
summaries largequantities of financial data and to make qualitative judgment of the
firmsfinancial performance.
5.2) Role of ratio analysisRatio analysis helps to appraise the firms in the term of there profitability andefficiency of
performance, either individually or in relation to other firms insame industry. Ratio analysis
is one of the best possible techniques available tomanagement to impart the basic functions
like planning and control. As futureis closely related to the immediately past, ratio calculated
on the basis historicalfinancial data may be of good assistance to predict the future. E.g. On
the basisof inventory turnover ratio or debtors turnover ratio in the past, the level
ofinventory and debtors can be easily ascertained for any given amount of sales.
Similarly, the ratio analysis may be able to locate the point out the various ariaswhich need
the management attention in order to improve the situation. E.g.Current ratio which shows a
constant decline trend may be indicate the need forfurther introduction of long term finance
in order to increase the liquidityposition. As the ratio analysis is concerned with all the aspect
of the firmsfinancial analysis liquidity, solvency, activity, profitability and
overallperformance, it enables the interested persons to know the financial andoperationalcharacteristics of an organization and take suitable decisions.
5.3) Limitations of ratio analysis1. The basic limitation of ratio analysis is that it may be difficult to find abasis for making the
comparison
2. Normally, the ratios are calculated on the basis of historical financialstatements. An
organization for the purpose of decision making mayneed the hint regarding the future
happiness rather than those in the past.
The external analyst has to depend upon the past which may notnecessary to reflect financial
position and performance in future.
3. The technique of ratio analysis may prove inadequate in some situationsif there is differs in
opinion regarding the interpretation of certain ratio.
4. As the ratio calculates on the basis of financial statements, the basiclimitation which is
8/8/2019 Working Capital Management at CEAT LTD.
18/34
applicable to the financial statement is equallyapplicable In case of technique of ratio analysisalso i.e. only facts whichcan be expressed in financial terms are considered by the ratio
analysis.5. The technique of ratio analysis has certain limitations of use in the sensethat it only
highlights the strong or problem arias, it dose not provide anysolution to rectify the problem
arias
5.4) Classification of working capital ratioWorking capital ratio means ratios which are related with the working capitalmanagement
e.g. current assets, current liabilities, liquidity, profitability andrisk turnoff etc. these ratio are
classified as follows
1. Efficiency ratioThe ratios compounded under this group indicate the efficiency of theorganization to use the
various kinds of assets by converting them the form ofsale. This ratio also called as activity
ratio or assets management ratio. As theassets basically categorized as fixed assets and
current assets and the currentassets further classified according to individual components of
current assetsviz. investment and receivables or debtors or as net current assets, theimportantof efficiency ratio as follow
1. Working capital turnover ratio2. Inventory turnover ratio
3. Receivable turnover ratio4. Current assets turnover ratio
5. Liquidity ratioThe ratios compounded under this group indicate the short term position of theorganization
and also indicate the efficiency with which the working capital isbeing used. The most
important ratio under this group is follows
1. Current ratio
2. Quick ratio
3. Absolute liquid ratio
5.5) Efficiency ratio1) Working capital turnover ratio
It signifies that for an amount of sales, a relative amount of working capital isneeded. If any
increase in sales contemplated working capital should beadequate and thus this ratio helps
management to maintain the adequate level ofworking capital. The ratio measures the
efficiency with which the workingcapital is being used by a firm. It may thus compute net
working capitalturnover by dividing sales by working capital.
WCTR = Sales/ Net Working Capital
Particulars 2005-06 2006-07 2007-08 2008-09 2009-10Sales 195199.32 239061.20 260296.57 275843.13 298997.20
Net W. C. 4758.88 7333.27 22806.03 35328.21 28445.91W. C. TOR 41.01 32.60 11.41 7.8 10.11
8/8/2019 Working Capital Management at CEAT LTD.
19/34
ObservationsHigh working capital ratio indicates the capability of the organization toachieve maximum
sales with the minimum investment in working capital.Companys working capital ratioshows mostly more than two, except for theyear 2005-06 because of excess of cash balance in
current assets whichoccurred due to encashment of deposits. In the year 2007 the ratio wasaround3, it indicates that the capability of the company to achieve maximum sales withthe
minimum investment in working capital.
2) Inventory turnover ratio
Inventory turnover ratio indicates the efficiency of the firm in producing andselling its
products. It is calculated by dividing the cost of good sold by averageinventory:
Inventory Turnover Ratio = Cost of Goods Sold / Average Inventory
The average inventory is the average of opening and closing balance ofinventory in a
manufacturing company like JISL inventory of finished goods isused to calculate inventory
turnover ratio
Particulars 2005-06 2006-07 2007-08 2008-09 2009-10Cost of goodssold
176483.44 209830.27 223567.36 259582.23 261062.82
Average
Inventory
17582.93 20233.57 28113.85 28023.81 31274.6
InventoryTOR
10.04 10.37 7.95 9.26 8.34
0
5
10
15
20
25
30
35
40
45
2005-06 2006-07 2007-08 2008-09 2009 -10
Working Capital Turnover Ratios
Working Capital Turnover
Ratios
8/8/2019 Working Capital Management at CEAT LTD.
20/34
ObservationsIt was observed that Inventory turnover ratio indicates maximum sales achievedwith the
minimum investment in the inventory. As such, the general rule highinventory turnover isdesirable but high inventory turnover ratio may notnecessary indicates the profitable
situation. An organization, in order to achievea large sales volume may sometime sacrifice onprofit, inventory ratio may notresult into high amount of profit.
3) Receivable turnover ratio
The derivation of this ratio is made in following way
Receivable turnover ratio = Gross Sales /Average Account Receivables
Gross sales are inclusive of excise duty and scrap sales because both may enterin to
receivables by credit sales. Average receivable calculate by opening plusclosing balance
divide by 2. Increasing volume of receivables without amatching increase in sales is reflected
by a low receivable turnover ratio. It isindication of slowing down of the collection system or
an extend line of creditbeing allowed by the customer organization. The latter may be due to
the factthat the firm is loosing out to competition. A credit manager engage in the taskof
granting credit or monitoring receivable should take the hint from a fallingreceivable turnover
ratio use his market intelligence to find out the reasonbehind such failing trend.Debtorturnover indicates the number of times debtors turnover each year.Generally the higher the
value of debtors turnover, the more is themanagement of credit.
Debtors turnover ratio = 365/ Receivable turnover ratio
Particulars 2005-06 2006-07 2007-08 2008-09 2009-10Gross Sales 195199.32 239061.20 260296.57 275843.13 298997.20
Average
Debtors
24491.4 25819.92 28553.94 31330.83 34751.23
ReceivableTOR
7.97 9.25 9.11 8.80 8.60
0
2
4
6
8
10
12
2005-06 2006 -07 2007 -08 2008 -09 2009 -10
Inventory TOR
I
ve
t
ry TO
8/8/2019 Working Capital Management at CEAT LTD.
21/34
It was observed from receivable turnover ratio that receivables turned aroundthe sales were
less than 4 times. The actual collection period was more thannormal collection period
allowed to customer. It concludes that over investmentin the debtors which adversely affect
on requirement of the working capitalfinance and cost of such finance.)
Current assets turnover ratioCurrent assets turnover ratio is calculate to know the firms efficiency ofutilizing the current
assets .current assets includes the assets like inventories,sundry debtors, bills receivable, cash
in hand or bank, marketable securities,prepaid expenses and short term loans and advances.This ratio includes theefficiency with which current assets turn into sales. A higher ratioimplies amore efficient use of funds thus high turnover ratio indicate to reduced the lockup of
funds in current assets. An analysis of this ratio over a period of timereflects working capital
management of a firm.
Current Assets TOR = Sales / Current Assets
Particulars 2005-06 2006-07 2007-08 2008-09 2009-10Gross Sales 195199.32 239061.20 260296.57 275843.13 298997.20
Current Assets 55645.19 59811.24 78158.16 86013.62 107548.77Current Assets
TOR
3.50 3.99 3.30 3.20 2.78
7
7.5
8
8.5
9
9.5
2005-06 2006-07 2007-08 2008-09 2009-10
Receivable TOR
eceiva
le TO
8/8/2019 Working Capital Management at CEAT LTD.
22/34
It was observed that current assets turnover ratio does not indicate any trendover the period of time. Turnover ratio was 0.92 in the year 2002-03 and
increase to 1.10 and 1.30 in the year 2004 and 2005 respectively, but itdecreased in the year 2005-06, because of high cash balance. Cash did not helpto increase in sales volume, as cash is non earning asset. In the year 2006-07
company increased its sales with increased investment in current assets, thus
current assets turnover ratio increased to 1.39 from 1.1 in the year 2005-06
Liquidity ratio1) Current ratioThe current is calculated by dividing current assets by current liabilities:
Current Ratio = Current Assets / Current Liabilities
Current assets include cash and those assets which can be converted in to cashwithin a year,such marketable securities, debtors and inventories. Allobligations within a year are include
in current liabilities. Current liabilitiesinclude creditors, bills payable accrued expenses, shortterm bank loan incometax liabilities and long term debt maturing in the current year. Current
ratioindicates the availability of current assets in rupees for every rupee of currentliability.
Particulars 2005-06 2006-07 2007-08 2008-09 2009-10
0
0.5
1
1.5
2
2.5
3
3.5
4
4.5
2005-06 2006-07 2007-08 2008-09 2009-10
Current Assets TOR
rre
t
ssets TO
8/8/2019 Working Capital Management at CEAT LTD.
23/34
Current Assets 55645.19 59811.24 78158.16 86013.62 107548.77CurrentLiabilities
50886.31 52477.97 55352.13 56685.41 79102.86
Current Ratio 1.09 1.13 1.41 1.51 1.36
Quick ratioQuick ratios establish the relationship between quick or liquid assets andliabilities. An asset
is liquid if it can be converting in to cash immediately orreasonably soon without a loss of
value. Cash is the most liquid asset .otherassets which are consider to be relatively liquid andinclude in quick assets aredebtors and bills receivable and marketable securities. Inventories
areconsidered as less liquid. Inventory normally required some time for realizinginto cash.
Their value also is tendency to fluctuate. The quick ratio is found outby dividing quick assets
by current liabilities
Quick Ratio = (Current Assets Inventory)/ Current Liabilities
Particulars 2005-06 2006-07 2007-08 2008-09 2009-10
LiquidCurrent
Assets
37299.75 37689.53 44052.16 64071.99 66941.20
Current
Liabilities50886.31 52477.97 55352.13 56685.41 79102.86
QuickRatio
0.73 0.71 0.79 1.13 0.84
0
0.2
0.4
0.6
0.8
1
1.2
1.4
1.6
2005-06 2006-07 2007-08 2008-09 2009-10
Current Ratio
Current Ratio
8/8/2019 Working Capital Management at CEAT LTD.
24/34
ObservationsQuick ratio indicates that the company has sufficient liquid balance for the
payment of current liabilities. The liquid ratio of 1:1 is suppose to be standardor ideal but here ratio is more than 1:1 over the period of time, it indicates that
the firm maintains the over liquid assets than actual requirement of such assets.
In the year 2006-07 company had Rs.1.79 cash for every 1 rupee of expenses;such a policy is called conservative policy of finance for working capital, Rs.
0.79 is the ideal investment which affects on the cost of the fund and returns on
the funds.3) Absolute liquid ratioEven though debtors and bills receivables are considered as more liquid theninventories, it
can not be converted in to cash immediately or in time. Thereforewhile calculation of
absolute liquid ratio only the absolute liquid assets as likecash in hand cash at bank, short
term marketable securities are taken in toconsideration to measure the ability of the company
in meeting short termfinancial obligation. It calculates by absolute assets dividing by
currentliabilities.
Absolute Liquid Ratio = Absolute Liquid Assets / Current Liabilities
Particulars 2005-06 2006-07 2007-08 2008-09 2009-10AbsoluteLiquid Assets
11976.98 11372.46 13261.34 32201.14 21309.59
CurrentLiabilities
50886.31 52477.97 55352.13 56685.41 79102.86
Absolute
Liquid Assets
0.23 0.22 0.24 0.56 0.26
0
0.2
0.4
0.6
0.8
1
1.2
2005-06 2006-07 2007-08 2008-09 2009-10
Quick Ratio
Q
ick
ati
8/8/2019 Working Capital Management at CEAT LTD.
25/34
0
0.1
0.2
0.3
0.4
0.5
0.6
2005-06 2006 -07 2007 -08 2008-09 2009-10
Absolute Liquid Ratio
Abs
l
te Liq
i!
"
ati
8/8/2019 Working Capital Management at CEAT LTD.
26/34
Receivables ManagementReceivables or debtors are the one of the most important parts of the currentassets which is
created if the company sells the finished goods to the customerbut not receive the cash for the
same immediately. Trade credit arises whenfirm sells its products and services on credit and
dose not receive cashimmediately. It is essential marketing tool, acting as bridge for the
movement ofgoods through production and distribution stages to customers. Tradecreditcreates receivables or book debts which the firm is expected to collect in thenear future.
The receivables include three characteristics
1) It involve element of risk which should be carefully analysis.
2) It is based on economic value. To the buyer, the economic value in goods orservices passes
immediately at the time of sale, while seller expects anequivalent value to be received later
on3) It implies futurity. The cash payment for goods or serves received by thebuyer will be
made by him in a future period.
Objective of receivable managementThe sales of goods on credit basis are an essential part of the moderncompetitive economic
system. The credit sales are generally made up onaccount in the sense that there are formalacknowledgements of debt obligationthrough a financial instrument. As a marketing tool,
they are intended topromote sales and there by profit. However extension of credit involves
riskand cost, management should weigh the benefit as well as cost to determine thegoal of
receivable management. Thus the objective of receivable managementis to promote sales and
profit until that point is reached where the return oninvestment in further funding of
receivables is less .than the cost of funds raisedto finance that additional credit
Particulars 2005-06 2006-07 2007-08 2008-09 2009-10Sundry
Debtors25322.77 26317.07 30790.82 31870.85 37631.61
Indices 100 103.93 121.60 125.90 148.61
0
20
40
60
80
100
120
140
160
2005-06 2006-07 2007-08 2008-09 2009-10
Sundry Debtors Indices
S # $ % ry & ebt ' rs I $ % ices
8/8/2019 Working Capital Management at CEAT LTD.
27/34
Average collection periodThe average collection period measures the quality of debtors since it indicatethe speed of
there collection. The shorter the average collection period, thebetter the quality of the debtors
since a short collection period implies theprompt payment by debtors. The average collection
period should be comparedagainst the firms credit terms and policy judges its credit and
collectionefficiency. The collection period ratio thus helps an analyst in two respects.1. In determining the collectability of debtors and thus, the efficiency ofcollection efforts.
2. In ascertaining the firms comparative strength and advantages related toits credit policy
and performance.
The debtors turnover ratio can be transformed in to the number of days ofholding of debtors.
Particulars 2005-06 2006-07 2007-08 2008-09 2009-10Gross Sales 195199.32 239061.20 260296.57 275843.13 298997.20
AverageDebtors
Receivable
TOR
7.97 9.25 9.11 8.80 8.60
AverageCollection
Period (days)
Inventory Management
8/8/2019 Working Capital Management at CEAT LTD.
28/34
The term inventory is used to designate the aggregate of those items oftangible assets whichare
1. Finished goods (saleable)2. Work-in-progress (convertible)
3. Material and supplies (consumable)
In financial view, inventory defined as the sum of the value of raw material andsupplies,
including spares, semi-processed material or work in progress andfinished goods. The natureof inventory is largely depending upon the type ofoperation carried on. For instance, in the
case of a manufacturing concern, theinventory will generally comprise all three groups
mentioned above while in thecase of a trading concern, it will simply be by stock- in- trade or
finished goods.
Objective of inventory managementIn company there should be an optimum level of investment for any asset,whether it is plant,cash or inventories. Again inadequate disrupts productionand causes losses in sales. Efficient
management of inventory should ultimatelyresult in wealth maximization of owners wealth.It implies that while themanagement should try to pursue financial objective of turning
inventory asquickly as possible, it should at the same time ensure sufficient inventoriestosatisfy production and sales demand. The objectives of inventory managementconsist of
two counterbalancing parts:
1. To minimize the firms investment in inventory
2. To meet a demand for the product by efficiently organizing the firmsproduction and sales
operation.
This two conflicting objective of inventory management can also be expressedin term of cost
and benefits associated with inventory. That the firm shouldminimize the investment in
inventory implies that maintaining an inventorycost, such that smaller the inventory, the
better the view point .obviously, thefinancial manager should aim at a level of inventory
which will reconcile theseconflicting elements. Some objective as follow
1. To have stock available as and when they are required.
2. To utilize available storage space but prevents stock levels fromexceeding space available.3. To maintain adequate accountability of inventories assets.
4. To provide, on item by- item basis, for re-order point and order suchquantity as wouldensure that the aggregate result confirm with theconstraint and objective of inventory control.
To keep low investment in inventories carrying cost an obsolesce losses to theminimum.
Particulars 2005-06 2006-07 2007-08 2008-09 2009-10Raw Material 6716.24 10277.85 18659.72 6553.97 20898.56
W.I.P. 2004.70 2224.78 2252.06 1720.79 3660.25
Finished
Goods
8003.40 8080.44 11480.27 11888.49 13276.47
Other
Inventory
1621.10 1538.64 1713.95 1778.38 2772.29
Total 18345.44 22121.71 34106.00 21941.63 40607.57
Indices 100 117.07 185.90 119.60 221.34
8/8/2019 Working Capital Management at CEAT LTD.
29/34
The manufacturing firms inventory consist following components
I) Raw material
ii) Work- in-progress
iii) Finished goods
To analyze the level of raw material inventory and work in progress inventoryheld by thefirm on an average it is necessary to examine the efficiency withwhich the firm converts raw
material inventory and work in progress intofinished goods.
0
50
100
150
200
250
2005-06 2006 -07 2007-08 2008-09 2009-10
Inventory Indices
I(
ve(
t)
ry I( 0
ices
0
5000
10000
15000
20000
25000
30000
35000
40000
45000
2005-06 2006 -07 2007-08 2008-09 2009 -10
1
t2
er I(
ve(
t)
ries
Fi(
is2
e0
G) ) 0
s
3 .I.P.
Raw material
8/8/2019 Working Capital Management at CEAT LTD.
30/34
Inventory holding periodThe reciprocal of inventory turnover gives average inventory holding inpercentage term.
When the numbers of days in year are divided by inventoryturnover, we obtain days of
inventory holding (DIH).
Particulars 2005-06 2006-07 2007-08 2008-09 2009-10Inventory
TOR
10.04 10.37 7.95 9.26 8.34
Days of
InventoryHolding
36 35 46 39 44
0
5
10
15
20
25
30
35
40
45
50
2005-06 2006-07 2007-08 2008-09 2009-10
Days of i ve tory Hol i g Perio
Days of inventory Holding
4
eriod
8/8/2019 Working Capital Management at CEAT LTD.
31/34
Management of CashCash is common purchasing power or medium of exchange. As such, it formsthe most
important component of working capital. The term cash with referenceto cash management is
used in two senses, in narrow sense it is used broadly tocover cash and generally accepted
equivalent of cash such as cheques, draft anddemand deposits in banks. The broader view of
cash also induce hear- cashassets, such as marketable sense as marketable securities and timedeposits inbanks. The main characteristics of this deposits that they can be really sold
andconvert in to cash in short term. They also provide short term investment outletfor excess
and are also useful for meeting planned outflow of funds. We employthe term cash
management in the broader sense. Irrespective of the form inwhich it is held, a distinguishing
feature of cash as assets is that it was noearning power. Company have to always maintain
the cash balance to fulfill thedally requirement of expenses. There are four primary motivefor maintain thecash as follow
Motive of holding cashThere are four motives for holding cash as follow1. Transaction motive
2. Precautionary motive3. Speculative motive
4. Compensating motive
Transaction motiveCash balance is necessary to meet day-to-day transaction for carrying on withthe operation of
firms. Ordinarily, these transactions include payment for material, wages, expenses,
dividends, taxation etc. there is a regular inflow ofcash from operating sources, thus in case
of JISL there will be two-way flow ofcash- receipts and payments. But since they do not
perfectly synchronize, aminimum cash balance is necessary to uphold the operations for the
firm if cashpayments exceed receipts.
Always a major part of transaction balances is held in cash, a part may be heldin theform of
marketable securities whose maturity conforms to the timing ofanticipated payments of
certain items, such as taxation, dividend etc.Precautionary MotiveCash flows are somewhat unpredictable, with the degree of predictabilityvarying among
firms and industries. Unexpected cash needs at short notice mayalso be the result offollowing:
1. Uncontrollable circumstances such as strike and natural calamities.2. Unexpected delay in collection of trade dues.
3. Cancellation of some order for goods due unsatisfactory quality.4. Increase in cost of raw material, rise in wages, etc.
The higher the predictability of firms cash flows, the lower will be thenecessity of holdingthis balance and vice versa. The need for holding theprecautionary cash balance is also
influenced by the firms capacity to haveshort term borrowed funds and also to convert shortterm marketable securitiesinto cash.
Speculative motive:Speculative cash balances may be defined as cash balances that are held toenable the firm to
take advantages of any bargain purchases that might arise.
While the precautionary motive is defensive in nature, the speculative motive isaggressive in
approach.
However, as with precautionary balances, firms today are more likely to rely onreserve
borrowing power and on marketable securities portfolios than on actualcash holdings for
8/8/2019 Working Capital Management at CEAT LTD.
32/34
speculative purposes.
Advantages of cash managementCash does not enter in to the profit and loss account of an enterprise, hence cashis neither
profit nor losses but without cash, profit remains meaningless for anenterprise owner.
1. A sufficient of cash can keep an unsuccessful firm going despite losses
2. An efficient cash management through a relevant and timely cash budgetmay enable a firmto obtain optimum working capital and ease thestrains of cash shortage, fascinating
temporary investment of cash andproviding funds normal growth.
3. Cash management involves balance sheet changes and other cash flowthat do not appear in
the profit and loss account such as capitalexpenditure.
Particulars 2005-06 2006-07 2007-08 2008-09 2009-10Cash andBank Balances
3961.27 4055.13 4158.70 20151.84 13998.91Cash & B.B.
Indices
100 102.37 104.98 508.72 353.39
Cash cycle:-One of the distinguishing features of the fund employed as working capital isthat constantly
changes its form to drive business wheel. It is also known ascirculating capital whichmeans current assets of the company, which arechanged in ordinary courseof business from
one form to another, as forexample, from cash to inventories, inventories to receivables and
receivables tocash.
Basically cash management strategies are essentially related to the cash cycletogether with
the cash turnover. The cash cycle refers to the process by whichcash is used to purchase the
row material from which are produced goods,which are then send to the customer, who later
pay bills. The cash turnovermeans the number of time firms cash is used during each year.
0
100
200
300
400
500
600
2005-06 2006-07 2007-08 2008-09 2009-10
Cash and Bank Balance Indices
5
ash a6 7
Ba6
k Bala6
ce I6 7
ices
8/8/2019 Working Capital Management at CEAT LTD.
33/34
) IntroductionFunds available for period of one year or less is called short term finance. InIndia short termfinance are used as working capital finance. Two mostsignificant short term sources of
finance for working capital are trade credit andbank borrowing. Trade credit ratio of current
assets is about 40%, it is indicatedby Reserve Bank of India data that trade credit has grown
faster than the growthin sales. Bank borrowing is the next source of working capital finance.
Therelative importance of this varies from time to time depending on the
prevailingenvironment. In India the primary source of working capital financing are
tradecredit and short term bank credit. After determine the level of working capital, afirm has
to consider how it will finance. Following are sources of workingcapital finance.
7.2) Sources of working Capital Finance1) Trade credit
2) Bank Finance
3) Letter of credit
1) Trade credit
Trade credit refers to the credit that a customer gets from suppliers of goods inthe normalcourse of business. The buying firms do not have to pay cashimmediately for the purchase
made. This deferral of payments is a short termfinancing called trade credit. It is major sourceof financing for firm.Particularly small firms are heavily depend on trade credit as a source
offinance since they find it difficult to raised funds from banks or other sources inthe capitalmarket. Trade credit is mostly an informal arrangement, and itgranted on an open account
basis. A supplier sends goods to the buyers accept,and thus, in effect, agrees to pay theamount due as per sales terms in theinvoice. Trade credit may take the form of bills payable.
Credit terms refer tothe condition under which the supplier sells on credit to the buyer, andthebuyer required to repay the credit. Trade credit is the spontaneous source of thefinancing.
As the volume of the firms purchase increase trade credit alsoexpand. It appears to be cost
free since it does not involve explicit interestcharges, but in practice, it involves implicit cost.
The cost of credit may betransferred to the buyer via the increased price of goods supplied by
him.
2) Bank finance for working capitalBanks are main institutional source of working capital finance in India. Aftertrade credit,
bank credit is the most important source of financing workingcapital in India. A banks
considers a firms sales and production plane anddesirable levels of current assets in
determining its working capitalrequirements. The amount approved by bank for the firms
working capital iscalled credit limit. Credit limit is the maximum funds which a firm can
obtainfrom the banking system. In practice banks do not lend 100% credit limit; theydeductmargin money.
Forms of bank finance:-1. Term Loan
2. Overdraft
3. Cash credit
4. Purchase or discounting of bills
1) Term Loan
8/8/2019 Working Capital Management at CEAT LTD.
34/34
In this case, the entire amount of assistance is disbursed at one time only, eitherin cash or thecompanys account. The loan may be paid repaid in installmentswill charged on outstanding
balance.
2) Overdraft
In this case, the company is allowed to withdraw in excess of the balancestanding in its Bank
account. However, a fixed limit is stipulated by the Bankbeyond which the company will not
able to overdraw the account. Legally,overdraft is a demand assistance given by the bank i.e.bank can ask repaymentat any point of time.
3) Cash creditIn practice, the operations in cash credit facility are similar to those of those ofoverdraft
facility except the fact that the company need not have a formalcurrent account. Here also a
fixed limit is stipulated beyond which the companyis not able to withdraw the amount.
4) Bills purchased / discountedThis form of assistance is comparatively of recent origin. This facility enablesthe company to
get the immediate payment against the credit bills / invoiceraised by the company. The banks
hold the bills as a security till the payment ismade by the customer. The entire amount of bill
is not paid to the company.The company gets only the present worth of amount of bill fromof discountcharges. On maturity, bank collects the full amount of bill from the customer.
3) Letter of creditIn this case the exporter and the importer are unknown to each other. Underthesecircumstances, exporter is worried about getting the payment from theimporter and importer
is worried as to whether he will get goods or not. In thiscase, the importer applies to his bankin his country to open a letter of credit infavor of the exporter whereby the importers bank
undertakes to pay the exporteror accept the bills or draft drawn by the exporter on theexporter fulfilling theterms and conditions specified in the letter of credit.
Banks have been certain norms in granting working capital finance tocompanies. These
norms have been greatly influenced by the recommendationof various committees appointed
by the Reserve Bank of India from time totime. The norms of working capital finance
followed by bank since mid-70were mainly based on the recommendations of the Tondan
committee. TheChore committee made further recommendations to strengthen theprocedureand norms for working capital finance by banks.
Top Related