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EXECUTIVE SUMMERY
It gives me great pleasure to present this project report on working capital finance
at bank of Maharashtra, credit department, head office, Pune. The project was
carried out
from 1st June 2007 to 31st July 2007.
The main objective of the project was to study various types of working capital
finance provided by banks. To know details the procedure of assessment of working
capital finance extended by banks.
Wheels of business cannot move without money. Availability of money is being
limited and wants being unlimited. So procurement of fund is one of the important
functions in commercial & non-commercial enterprises and utilizes it for
maximization
of business profits.
Business enterprises need funds to meet their different types of requirements,
i. Long-term requirement
ii. Medium-term requirement
iii. Short-term requirement
Working capital requirement is the short-term requirement. Working capital is the
investment needed for carrying out day-to-day operations of the business smoothly.
Bank
is one of the important sources of working capital requirement. Bank gives various
facilities to the borrowers.
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In this project I have considered various banking facilities for the working capital
finance to the industries. It covers almost important aspect relating to assessment
&
follow up of working capital finance. After discussing the procedure followed by
bank,
For assessing working capital requirement case studies have been given with
necessary
data in the prescribed forms demonstrate the calculable done by bank to arrive at
maximum permissible bank finance. An inventory & receivables constitute the major
portion of the total working capital requirement.
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Company Profile
The Birth
Registered on 16th Sept 1935 with an authorized capital of Rs 10.00 lakh and
commenced business on 8th Feb 1936.
The Childhood
Known as a common man's bank since inception, its initial help to small units has
given
birth too many of today's industrial houses. After nationalization in 1969, the bank
expanded rapidly. It now has 1292 branches (as of 30th September 2005) all over
India.
The Bank has the largest network of branches by any Public sector bank in the state
of
Maharashtra.
The Adult
The bank has fine tuned its services to cater to the needs of the common man and
incorporated the latest technology in banking offering a variety of services.
Our Philosophy
Other Attributes
Bank is the convener of State level Bankers committee
Bank has signed a MoU with EXIM bank for co-financing of project exports
Bank offers Depository services and Demat facilities in Mumbai.
Bank has captured 97.68% of its total business through computerization.
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OBJECTIVES
To know the various types of working capital finance provided by banks.
To analyze in detail the procedure of assessment of working capital finance
extended by bank.
To apply these procedure at a practical level with the help of case studies.
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RESEARCH METHODOLOGY
This is analytical research area where we analyses information with cause and its
effects relationship. This analysis leads to the simple conclusions of whether to lend
money to the institution for business.
Also if the money is lend then there is reality the norms are not always perfect and
hence it is essential to priorities stringent parameters and secondary parameters.
Research Type Analytical
Source of Data Primary and Secondary
Sample Unit Industries applying for loan
Sample Case studies
Sample Technique Allocation of Case
Analysis Tool used Financial Analysis
Primary Data:
Observation, Discussion with the manager.
The company profile, annual reports have been obtained from BOM.
Secondary Data:
Secondary data relating to the procedure of assessment of working capital finance,
old
sanction proposals, RBI guidelines etc. have been sourced from reference books.
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INTRODUCTION TO WORKING CAPITAL
In accounting, Working capital is the difference between the inflow and outflow of
funds. In other words, it is the net cash inflow. It is defined as the excess of current
assets
over current liabilities and provisions. In other words, it is net current assets or net
working capital.
A study of working capital is of major importance to internal and external analysis
because of its close relationship with the day-to-day operations of a business.
Working
Capital is the portion of the assets of a business which are used on or related to
current
operations, and represented at any one time by the operating cycle of such items as
against receivables, inventories of raw materials, stores, work in process and
finished
goods, merchandise, notes or bill receivables and cash.
Working capital comprises current assets which are distinct from other assets. In the
first
instance, current assets consist of these assets which are of short duration.
Working capital may be regarded as the life blood of a business. Its effective
provision
can do much to ensure the success of a business while its inefficient management
can
lead not only to loss of profits but also to the ultimate downfall of what otherwise
might
be considered as a promising concern.
The funds required and acquired by a business may be invested to two types of
assets:
1. Fixed Assets.
2. Current Assets
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Fixed assets are those which yield the returns in the due course of time. The various
decisions like in which fixed assets funds should be invested and how much should
be
invested in the fixed assets etc. are in the form of capital budgeting decisions. This
can be
said to be fixed capital management.
Other types of assets are equally important i.e. Current Assets.
These types of assets are required to ensure smooth and fluent business operations
and
can be said to be life blood of the business. There are two concepts of working
capital
Gross and Net. Gross working capital refers to gross current assets. Net working
capital
refers to the difference between current assets and current liabilities. The term
current
assets refers to those assets held by the business which can be converted into cash
within
a short period of time of say one year, without reduction in value. The main types of
current assets are stock, receivables and cash. The term current liabilities refer to
those
liabilities, which are to be paid off during the course of business, within a short
period of
time say one year. They are expected to be paid out of current assets or earnings of
the
business. The current liabilities mainly consist of sundry creditors, bill payable, bank
overdraft or cash credit, outstanding expenses etc.
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NEED FOR WORKING CAPITAL
The need of gross working capital or current assets cannot be overemphasized. The
object
of any business is to earn profits. The main factor affecting the profits is the
magnitude of
sales of the business. But the sales cannot be converted into cash immediately.
There is a
time lag between the sale of goods and realization of cash. There is a need of
working
capital in the form of current assets to fill up this time lag. Technically, this is called
as
operating cycle or working capital cycle, which is the heart of need for working
capital.
This working capital cycle can be described in the following words.
If the company has a certain amount of cash, it will be required for purchasing the
raw
material though some raw material may be available on credit basis. Then the
company
has to spend some amount for labour and factory overheads to convert the raw
material in
work in progress, and ultimately finished goods. These finished goods when sold on
credit basis get converted in the form of sundry debtors. Sundry debtors are
converted in
cash only after the expiry of credit period. Thus, there is a cycle in which the
originally
available cash is converted in the form of cash again but only after following the
stages of
raw material, work in progress, finished goods and sundry debtors. Thus, there is a
time
gap for the original cash to get converted in form of cash again. Working Capital
needs of
company arise to cover the requirement of funds during this time gap, and the
quantum of
working capital needs varies as per the length of this time gap.
Thus, some amount of funds is blocked in raw materials, work in progress, finished
goods, sundry debtors and day-to-day requirements. However some part of these
current
assets may be financed by the current liabilities also. E.g. some raw material may
be
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available on credit basis, all the expenses need not be paid immediately, workers
are also
to be paid periodically etc. But still the amounts required to be invested in these
current
assets is always higher than the funds available from current liabilities. This is
precise
reason why the needs for working capital arise. From the Financial management
point of
view, the nature of fixed assets and current assets differ from each other
1. The fixed assets are required to be retained in the business over a period of time
and
they yield the returns over their life, whereas the current assets loose their identity
over a
between them. The intention is not to maximize the investment in working capital
nor is
it to minimize the same. The intention is to have optimum investment in working
capital.
In other words, it can be said that the aim of working capital management is to have
minimum investment in working capital without affecting the regular and smooth
flow of
operations. The level of current assets to be maintained should be sufficient enough
to
cover its current liabilities with a reasonable margin of safety. Moreover, the various
sources available for financing working capital requirements should be properly
managed
to ensure that they are obtained and utilized in the best possible manner.
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FACTORS AFFECTING WORKING CAPITAL MANAGEMENT
The amount of working capital required depends upon a number of factors which
can be
stated as below
Nature of Business:
Some businesses are such, due to their very nature, that their requirement of fixed
capital
is more rather than working capital. These businesses sell services and not the
commodities and not the commodities and that too on cash basis. As such, no funds
are
blocked in piling inventories and also no funds are blocked in receivables. E.g. Public
utility services like railways, electricity boards, infrastructure oriented projects etc.
Their
requirement of working capital is less. On the other hand, there are some business
like
trading activity, where the requirement of fixed capital is less but more money is
blocked
in inventories and debtors. Their requirement of the working capital is more.
Length of Production Cycle:
In some business like machine tool industry, the time gap between the acquisitions
of
raw material till the end of final production of finished product itself is quite high. As
such more amounts may be blocked either in raw materials, or work in progress or
finished goods or even in debtors. Naturally, their needs of working capital are
higher.
On the other hand, if the production cycle is shorter, the requirement of working
capital is
also less.
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be more and more amount of funds blocked in stock and debtors etc. Similarly, in
case of
depression also, the working capital requirements may be high as the sales in terms
of
value and quantity may be reducing, there may be unnecessary piling up of stocks
without getting sold, the receivables may not be recovered in time etc.
Terms of Purchase and Sales:
Sometimes, due to competition or custom, it may be necessary for the company to
extend
more and more credit to the customers, as a result of which more and more
amounts is
locked up in debtors or bills receivables which increase working capital
requirements. On
the other hand, in case of purchases, if credit is offered by the suppliers of goods
and
services, a part of working capital requirement may be financed by them, but if it is
necessary to purchase these goods or services on cash basis, the working capital
requirement will be higher.
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Profitability:
The profitability of the business may vary in each and every individual case, which
in its
turn may depend upon numerous factors. But high profitability will positively reduce
the
strain on working capital requirements of the company, because the profits to the
extent
that they are earned in cash may be used to meet the working capital requirements
of the
company. However, profitability has to be considered from one more angles so that
it can
way to reduce the stress on working capital requirements. Attempts should be made
to
reduce the locked up working capital in non-moving or obsolete inventories. A clearcut
policy should be formulated and followed for timely disposal of non- moving and
obsolete inventories. Similarly, efficient management information system should be
developed to reflect the position of inventory from the various angles. Attempts
should be
made to reduce the amount looked up in receivables. Quicker realization of debts
will go
a long way to reduce the stress on working capital requirements. Attempts should
be
made to make the payments of to creditors in time. This helps the business to build
up
good reputation and increases its bargaining power with respect to period of credit
of
credit for payment and other conditions.
Attempts should be made to match the projected cash inflows and projected cash
outflows. If they do not match, some of the payments should be postponed or
purchases
of certain avoidable items should be deferred. Estimation of Working Capital
Requirements: First of all estimates of all current assets should be made. These
current
assets may include stock, debtors. Cash/Bank balance prepaid expenses etc.
Difference between the estimated current assets and current liabilities will represent
the
working capital requirements. To this sometime a standard percentage may be
added to
take care of the contingencies. This technique is known as Cash Cost technique of
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2. A part of these needs may be financed by way of long term sources of funds in
the
form of own generation of funds, out of profits earned shares, debentures and other
long
term borrowings, public deposits etc.
3. A part of these needs may be financed by way of long term sources of funds in
the
form of own generation of funds, out of profits earned, shares, debentures and other
long
term borrowing.
4. A major portion of these working capital needs are financed by the Banks. In
financing the working capital needs of the business, the credit obtained from Banks
plays
a very important role.
Bank Credit as a Source of Meeting Working Capital Requirements:
While bank credit is considered as a major source of meeting the working capital
requirement of the industry, the banks have to consider the following factors before
meeting their requirements.
A].What should be the amount of working capital assistance?
B].What should be the form in which working capital assistance may be extended?
C].What should be the security that should be obtained for extending the working
capital
assistance?
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Amount of Assistance:
To obtain the bank credit for meeting the working capital requirements, the
company will
be required to estimate the working capital requirements and will be required to
approach
the banks along with the necessary supporting data. On the basis of the estimates
submitted by the company, the bank may decide the amount of assistance which
may be
extended, after considering the margin requirements. This margin is to provide the
cushion against the reduction in the value of security. If the company fails to fulfill
its
obligations, the bank may be required to realize the security for recovering the
dues.
Margin money is meant to take care of the possible reduction in the value of
security. The
percentage of margin money may depend upon the credit standing of the company,
fluctuations in the price of security or the directives of Reserve Bank of India from
time
to time.
Form of Assistance:
After deciding the amount of overall assistance to be extended to the company, the
bank
can disburse the amount in any of the following forms
Non-Fund Based Lending
Fund Based Lending
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Non-Fund Based Lending
In case of Non-Fund Based Lending, the lending bank does not commit any physical
outflow of funds. As such, the funds position of the lending bank remains intact. The
the importer applies to his bank in his country to open a letter of credit in favour of
the
exporter whereby the importers bank undertakes to pay the exporter or accept the
bills or
drafts drawn by the exporter on the exporter fulfilling the terms and conditions
specified
in the letter of credit.
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Fund Based Lending
In case of Fund Based Lending, the lending bank commits the physical outflow of
funds.
As such, the funds position of the lending bank gets affected. The Fund Based
Lending
can be made by the banks in the following formsLoan: In this case, the entire amount of assistance is disbursed at one time only, either in
cash or
by transfer to the companys account. It is a single advance. The loan may be
repaid in
instalments, the interests will be charged on outstanding balance.
Overdraft: - In this case, the company is allowed to withdraw in excess of the
balance
standing in its Bank account. However, a fixed limit is stipulated by the Bank
beyond
which the company will not be able to overdraw the account. Legally, overdraft is a
demand assistance given by the bank i.e. bank can ask for the repayment at any
point of
time. However in practice, it is in the form of continuous types of assistance due to
annual renewal of the limit. Interest is payable on the actual amount drawn and is
Working Capital Term Loans: To meet the working capital needs of the company, banks may grant the working
capital
term loans for a period of 3 to 7 years, payable in yearly or half yearly installments.
Packing Credit: This type of assistance may be considered by the bank to take care of specific
needs of
the company when it receives some export order. Packing credit is a facility given by
the
bank to enable the company to buy the goods to be exported. If the company holds
a
confirmed export order placed by the overseas buyer or a letter of credit in its
favour, it
can approach the bank for packing credit facility.
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Operating cycle:
The time between purchase of inventory items (raw material or merchandise) and
their conversion into cash is known as operating cycle or working capital cycle. The
longer the period of conversion the longer will be the period of operating cycle. A
standard operating cycle may be for any time period but does not generally exceed
a
financial year. Obviously, the shorter the operating cycle larger will be the turnover
of the
fund invested for various purposes. The channels of investment are called current
assets.
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OPERATING CYCLE
Cash
Receipt from
debtors
Creation of
receivables
(Debtors)
Sales of
Finished
Goods
Creation of
A/c payable
(Creditors)
Purchase of
raw material,
components
Warehousing
of Finished
Goods
Manufacturing
operation: wages &
salaries, fuel,
power, etc
Office, selling,
distribution and
other expenses
Payments to
creditors
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WORKING CAPITAL FINANCE
A manufacturing concern needs finance not only for acquisition of fixed assets
but also for its day-to-day operations. It has to obtain raw materials for processing,
pay
wage bills & other manufacturing expenses, store finished goods for marketing &
grant
credit to the customers. It may have to pass through the following stages to
complete its
operating cyclei.
Conversion of cash into raw materials raw material procured on credit, cash
may have to be paid after a certain period.
ii. Conversion of raw materials into stock in process.
iii. Conversion of stock in process into finished goods.
iv. Conversion of finished goods into receivables/debtors or cash.
v. Conversion of receivables/debtors into cash.
A non-manufacturing trading concern may not require raw material for their
processing, but it also needs finance for storing goods & providing credit to its
customers.
Similarly a concern engaged in providing services, it may not have to keep
inventories
but it may have to provide credit facility to its customers. Thus all enterprises
engaged in
manufacturing or trading or providing services require finance for their day-to-day
operations, the amount required to finance day-to-day operation is called working
capital
& the assets & liabilities are created during the operating cycle are called current
assets &
current liabilities. The total of all the current assets is called gross working capital &
the
excess of current assets over current liabilities is called net working capital.
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When entrepreneurs for financing working capital requirements approach the
banks, the bank has to examine the viability of the project before agreeing to
provide
working capital for it. Financial institutions & bank while providing term loan finance
to
unit for acquisition of fixed assets does a detailed viability study. They have to
ensure
that the project will generate sufficient return on the resources invested in it. The
viability
of a project depends on technical feasibility, marketability of the products, at a
profitable
price, availability of financial resources in time & proper management of the unit. In
brief
the project should satisfy the tests of technical, commercial, financial & managerial
feasibility.
Proper co-ordination amongst banks & financial institution is necessary to judge
the viability of a project & to provide working capital at appropriate time without
any
delay. If a unit approaches banks only for working capital requirement & no viability
study has been done earlier which is done at the time of providing term loans, a
detailed
viability study is necessary before agreeing to provide working capital finance.
In the view of scarcity of bank credit, its increasing demand from various sectors
of economy & its importance in the development of economy, bank should provide
working capital finance according to production requirements. Therefore it is
necessary
to make a proper assessment of total requirement of the working capital, which
depends
on the nature of the activities of an enterprise & the duration of its operating cycle.
It has
to be ensured that the unit will have regular supply of raw material to facilitate
uninterrupted production. The unit should be able to maintain adequate stock of
finished
goods for smooth sales operation. The requirement of trade credit, facilities to be
given
by the unit to its customers should also be assessed on the basis of practice
prevailing in
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the particular industry/trade which assessing above requirements, it should also be
ensured that carrying cost of inventories & duration of credit to customers are
minimized.
After assessing the total requirement of working capital, a part of working capital
requirement should be financed for the long term & partly by determining maximum
permissible bank finance.
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ASSESSMENT OF WORKING CAPITAL
A unit needs working capital funds mainly to carry current assets required for its
operations. Proper assessment of funds required for working capital is essential not
only
in the interest of the concerned unit but also in the national interest to use the scare
credit
and 25 per cent of total current assets under the second method of lending. The
above
minimum contribution of long-term funds is called minimum stipulated Net Working
Capital (NWC) which comes from owned funds and term borrowings.
Above two method of lending may be illustrated by taking the following example of
a borrowers financial position, projected as at the end of next year.
Current Liabilities Amt Current Assets Amt
Creditors for purchase 200 Raw materials 380
Other current liabilities 100 Stock in process 40
300 Finished goods 180
Bank borrowing, including bills
discounted with bankers
400 Receivables, including bills
discounted with bankers
110
Other current assets 30
700 740
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First method Second method
Total current assets 740 total current assets 740
Less: current liabilities 25% of above from long term
Other than bank borrowings 300 sources 185
Working capital gap 440 555
25% of above from long term less: current liabilities
Sources 110 Other than bank borrowings 300
Maximum permissible bank 330 Maximum permissible bank 255
Finance finance
Excess Bank borrowings 70 Excess Bank borrowings 145
Current ratio 1.17:1 Current ratio 1.33:1
It may be observed from the above that in the first method, the borrower has to
provide a minimum of 25 per cent of working capital gap from ling-term funds and it
gives a minimum current ratio 1.17:1. In the second method, the borrower has to
provide
a minimum of 25 per cent of total current assets from long-term funds and gives a
minimum current ratio of 1.33:1.
While estimating the total requirement of long-term funds for new projects,
financial institutions/banks should calculate for working capital on the basis of
norms
prescribed for inventory and receivables and by applying the second method of
lending.
A project may suffer from shortage of working capital funds if sufficient margin for
working capital is not provided as per the second method of lending while funding
new
projects. Proper co-ordination between banks & financial institutions is necessary to
ensure availability of sufficient working capital finance to meet the production
requirement.
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III. Classification of current assets & Current liabilities:
In order to calculate net working capital & maximum permissible bank finance, it is
necessary to have proper classification of various items of current assets & current
liabilities. All illustrative lists of current assets & current liabilities for the purpose of
assessment of working capital are furnished below;
Current assets: -
h. Statutory liabilities
Provident fund dues
Provision for taxation
Sales-tax, excise, etc.
Obligation towards workers considered as statutory
i. Miscellaneous current liabilities
Dividends
Liabilities for expenses
Gratuity payable within one year
Any other payments due within one year
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Notes on classification of Current Assets & Current Liabilities:
1. Investment in shares, debenture, etc. and advances to other firms/companies,
not
connected with the business of the borrowing firm, should be excluded from
current assets. Similarly investment made in units of Unit Trust of India & other
mutual funds & in associate companies/subsidiaries, as well as investment made
and/or loans extended as inter-corporate deposits should not be included in the
build-up of current assets while assessing maximum permissible bank finance.
2. The borrowers are not expected to make the required contribution of 25 per cent
from long-term sources in respect of export receivables. Therefore, export
receivables may be included in the total current assets for arriving at the
maximum permissible bank finance but the minimum stipulated net working
capital may be reckoned after excluding the quantum of export receivables from
the total current assets.
3. Dead inventory i.e. slow moving or obsolete items should not be classified as
current assets.
4. Security deposits/tender deposits given by borrower should be classified as
noncurrent
assets irrespective of whether they mature within the normal operating
cycle of one year or not.
5. Advances/progress payments from customer should be classified as current
liabilities. However, where a part of advances received is required by government
regulations to be invested in certain approved securities, the benefit of netting
may be allowed to the extent of such investment and the balance may be classified
as current liability.
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6. Deposits from dealers, selling agents, etc. received by the borrower may treated
as
term liabilities irrespective of their tenure if such deposits are accepted to be
repayable only when the dealership/agency is terminated. The deposits, which do
not fulfill the above condition, should be classified as current liabilities.
7. Disputed liabilities in respect of income tax, excise, custom duty and electricity
charges need not be treated as current liabilities except to the extent of provided
for in the books of the borrower. Where such disputed liabilities are treated as
contingent liabilities for period beyond one year, the borrower should be advised
to make adequate provision so that he may be in a position to meet the liabilities
as & when they accrue.
8. If disputed excise liability has been shown as contingent liability or by way of
notes to the balance sheet, it need not be treated as current liability for calculating
the permissible bank finance unless it has been collected or provided for in the
accounts of borrowers. A certificate from the Statutory Auditors of the borrowers
may be obtained regarding the amount collected from the customers in respect of
disputed excise liability or provision made in the borrowers accounts. The
amount of excise duty payable should be treated as current liability for the
purpose of working out the permissible limit of the bank finance strictly on the
basis of the certificate from the borrowers Statutory Auditors. The same principle
may also be applied for disputed sales tax dues.
9. In case of other statutory dues, dividends, etc., estimated amount payable within
one year should be shown as current liabilities even if specific provisions have not
been made for their payment.
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10. As per the instructions issued by the Reserve Bank in October, 1993, the entire
term loan investment falling due for payment in the next twelve months need not
be treated as an item of current liabilities for the purpose of arriving at MPBF.
However all overdue term loan should be treated as current liabilities unless the
loan has been rescheduled by the financial institutions/banks. It may be added that
the entire amount of term loan installments payable within the next twelve months
which is kept outside the current liabilities while calculating MPBF. Need not be
taken into account while computing net working capital (NWC). However the
entire amount of term loan installments due within the next twelve months should
continue to be treated as current liability for the purpose of calculating the current
ratio.
IV. Information/Data required for assessment of working capital:
In order to assess the requirements of working capital on the basis of production
needs,
it is necessary to get the data from the borrowers regarding their past/projected
production, sales, cost of production, cost of sales, operating profit, etc. in order to
ascertain the financial position of the borrowers & the amount of working capital
needs
to be financed by banks, it is necessary to call for the data from the borrowers
regarding
their net worth, long term liabilities, current liabilities, fixed assets, current assets,
etc.
the Reserve Bank prescribed the forms in 1975 to submit the necessary details
regarding the assessment of working capital under its credit authorization scheme.
The
scheme of credit authorization was changed into credit monitoring arrangement in
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1988. The forms used under the credit authorization scheme for submitting
necessary
information have also been simplified in 1991 for reporting the credit sanctioned by
banks above the cut-off point to reserve bank under its scheme of credit monitoring
arrangement.
As the traders and merchant exporters who do not have manufacturing activities
are not required to submit the data regarding raw materials, consumable stores,
goodsinprocess, power and fuel, etc., a separate set of forms has been designed for traders
and merchant exporters. In view of the peculiar nature of leasing and the hire
purchase
concerns, a separate set of forms has also designed for them.
In addition to the information/data in the prescribed forms, bank may also call for
additional information required by them depending on the nature of the borrowers
activities & their financial position. The data is collected from the borrowers in the
following six forms: 1. Particulars of the existing/proposed limits from the banking system (form I)
Particulars of the existing credit from the entire banking system as also the term
loan facilities availed of from the term lending institutions/banks are furnished in
this
form. Maximum & minimum utilization of the limits during the last 12 months
outstanding balances as on a recent date are also given so that a comparison can
be
made with the limits now requested & the limits actually utilized during the last 12
months.
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2. Operating Statement (Form II)
The data relating to last sales, net sales, cost of raw material, power & fuel, direct
labour, depreciation, selling, general expenses, interest, etc. are furnished in this
form.
It also covers information on operating profit & net profit after deducting total
expenditure from total sale proceeds.
3. Analysis of Balance Sheet (Form III)
A complete analysis various items of last years balance sheet, current years
estimate & following years projections is given, in this form. The details of current
liabilities, term liabilities, net worth, current assets, other non-current assets, etc.
are
given in this form as per the classification accepted by banks.
4. Comparative statement of current assets & current liabilities (Form IV)
This form gives the details of various items of current assets and current liabilities
as per classification accepted by banks. The figures given in this form should tally
with the figures given in the form III where details of all the liabilities & assets are
given. In case of inventory, receivables and sundry creditors; the holding/levels are
given not only in absolute amount but also in terms of number of month so that a
comparative study may be done with prescribed norms/past trends. They are
indicated
in terms of numbers of months in bracket below their amounts.
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5. Computation of Maximum Permissible Bank Finance (Form V)
On the basis of details of current assets & liabilities given in form IV, Maximum
Permissible Bank Finance is calculated in this form to find out credit limits to be
allowed to the borrowers.
6. Fund Flow Statement (Form VI)
In this form, fund flow of long term sources & uses is given to indicate whether
long term funds are sufficient for meeting the long term requirements. In addition to
long term sources and uses, increase/decrease in current assets is also indicated in
this
form.
V. Check list for verification of the information/data:
Bank should verify not only the arithmetical accuracy of the data furnished by the
borrowers but also the logic behind various assumptions based on which the
projections
have been made. For this purpose, bank officials should hold discussions with the
borrowers on projected sales, level of operations, level of inventory, receivables,
etc. if
necessary, a visit to the factory may also be made to have a clear idea of products
and
processes.
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ASSESSEMENT OF OTHER LIMITS
LETTER OF CREDIT
The banker examines the proposal of the letter of credit from two angles:
o The cases where letter of credit is required once only
o The cases where letter of credit is required once regularly.
In the second category it is convenient for the banker to fix the separate limit of the
letter
of credit.
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ASSESSEMENT OF THE LIMITS UNDER LETTER OF CREDIT-WITH LEAD
TIME
The buyer does not receive the goods immediately on the placement of the order on
the
seller. There is always long time log between the order placement and the receipt of
the
material. This period is also referred to as the lead-time.
Example: If it is assumed that the total raw material requirement is Rs.240lacs per annum and
the
normal lead time is 2 months, the buyer will be required to place order so that he
has at
least 2 months stock (ignoring safely level). Thus, the total number of order placed
would
be 6 per year and the value of per order would be Rs.40 Lacs. This is shown below
Assessment of the limits under LC- with lead-time
Annual requirement of raw material 240 Lacs
Normal lead time 2 months
Value per order (A) 240/6=Rs.40 Lacs
Margin for customer @20%(B) Rs 8 Lacs
functionaries. As per this the revised process is divide into two components that is
Pre
sanctioning and Post sanctioning
In the pre sanctioning it is the only time that the bank can take due assessment and
precautions to make sure that the investments are done for the benefit of the bank.
The
post sanctioning is the follow of the payment. Incase the payment defaults then the
account will go into NPA in stages and the bank is then said to scrutinize the said
account.
PRE SANCTION PROCESS: Obtain loan application
When a customer required loan he is required to complete application form and
submit
the same to the bank also the borrower has to be submit the required information
along
with the application form.
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The information, which is generally required to be submitted by the borrower along
with
the loan application, is under: Audited balance sheets and profit and loss accounts for the previous three year(in
case borrower already in the business)
Estimated balance sheet for current year.
Projected balance sheet for next year.
Profile for promoters/directors, senior management personnel of the company.
In case the amount of loan required by borrower is 50 lacs and above he should be
submit the CMA Report
PRE SANCTION
PROCESS
APPRAISAL &
RECOMMANDATION
ASSESSMENT
SANCTIONING
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Examine for preliminary appraisal
RBI guidelines. Policies
Prudential exposure norms and bank lending policy
Industry exposure restriction and related risk factors.
Compliance regarding transfer of borrowers accounts from one bank to
another bank
Government regulation / legislation impact on the industry
Acceptability of the promoter and applicant status with regards to other
unit to industries.
Arrive at the preliminary decision.
Examine/analysis /assessment
Financial statement (in the prescribed forms) refers figure WC cycle & BS
assessment thumb rules.
Financial ratio & Dividend policy.
Depreciation method
Revaluation of fixed assets.
Records of defaults (Tax, dues etc.)
Pending suits having financial implication (Customs, excise etc.)
including SSI units enjoying working capital limits of Rs. 50 lacs and more from the
banking system should be obtained.
The revised sets of forms have been separately prescribed for industrial borrowers
and
traders/merchant exporters. The details of forms are as under: Form 1: - particulars of the existing/proposed limit from the banking system.
Form 2: -Operating statement.
It contains data relating to gross sales, net sales, cost of raw material, power and
fuel, etc.
It gives the operating profit and the net profit figures.
Form 3 : - Analysis of balance sheet.
It is complete analysis of various items of last years balance sheet; current years
estimate
and following years projection are given in this form.
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Form 4 : - Comparative statement of current asset and liabilities.
Details of various items of current asset and current liabilities are given.
The figures in this form must tally with those in form III.
Form 5: - Computation of maximum permissible bank finance for working capital.
The calculation of MPBF is done in this form to obtain the fund based credit limits to
be
granted to the borrower.
Form 6: - Fund flow statement
It provides the details of fund flow from long term sources and uses to indicate
weather
they are sufficient to meet the borrowers long term requirements.
CREDIT RATING MODEL
The various risk faced by any company may be broadly classified as follows:
Industry Risk: It covers the industry characteristic, compensation, financial data etc.
Company/ business risk: It considers the market position, operating efficiency of the
company etc.
Project risk: It includes the project cost, project implementation risk, post project
implementation etc.
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Management risk: It covers the track record of the company, their attitude towards
risk,
propensity for group transaction, corporate governance etc.
Financial risk: financial risk includes the quality of financial statements, ability of the
company to raise capital, cash flow adequacy etc.
DRAWING POWER OF THE BORROWER
The drawing power that a borrower enjoys at any one point depends on each
components
of working capital. The bank for each component, which the borrower must hold as
his
contribution to finance working capital, prescribes margins. The drawing power of
the
borrower can be best explained with the following illustration
Illustration:
Suppose a borrower has Rs 100.00 lacs as working capital limit sanctioned to him
by a
bank.
The security provided by the borrower to the bank is the hypothecation of inventory.
Suppose, the borrower needs to hold an inventory level of say 130 lacs in order to
enjoy
Rs 100 lacs as his working capital limit.
The actual level of inventory with the borrower at a point is say 110 lacs.
The inventory margin prescribed by the bank is say 25 %
Therefore with this inventory level, the borrower enjoys only Rs 82.5 lacs as his
working
capital limit as against Rs 100 lacs.
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Inventory level (Required) Rs 130 lacs
Drawing power of borrower Rs 100 lacs
Inventory level (Actual) Rs 110 lacs
Margin prescribed by bank 25 %
Drawing power of borrower 110-(0.25 110) = Rs 82.5 lacs
Suppose, the borrower holds Rs 150 lacs of inventory,
Inventory level (required) Rs 150 lacs
Drawing power of borrower Rs 100 lacs
Inventory level (actual) Rs 150 lacs
Margin prescribed by bank 25 %
Drawing power of borrower 150 - (0.25 150) = Rs. 112.2 lacs
Therefore, in this case the borrower would still enjoy Rs 100 lacs as his working
capital
limits as against Rs 112.5 lacs.
Therefore, the lower of the two is always considered as the working capital limit or
the
drawing power of the borrower sanctioned by the bank.
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SECURITY
Banks need some security from the borrowers against the credit facilities extended
to
them to avoid any kind of losses. securities can be created in various ways. Banks
provide credit on the basis of the following modes of security from the borrowers.
Hypothecation: under this mode of security, the banks provide credit to borrowers
against the security of movable property, usually inventory of goods. The goods
hypothecated, however, continue to be in possession of the owner of the goods i.e.
the
borrower. The rights of the banks depend upon the terms of the contract between
borrowers and the lender. Although the bank does not have the physical possession
of the
goods, it has the legal right to sell the goods to realize the outstanding loans.
Hypothecation facility is normally not available to new borrowers.
Mortgage: It is the transfer f a legal / equitable interest in specific immovable
property
for securing the payment of debt. It is the conveyance of interest in the mortgaged
property. This interest terminated as soon as the debt is paid. Mortgages are taken
as an
additional security for working capital credit by banks.
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Pledge: The goods which are offered as security, are transferred to the physical
possession of the lender. An essential prerequisite of pledge is that the goods are in
the
custody of the bank. Pledge creates some kind of liability for the bank in the sense
that
Reasonable care means care, which a prudent person would take to protect his
property.
In case of non-payment by the borrower, the bank has the right to sell the goods.
Lien: The term lien refers to the right of a party to retained goods belonging to other
party until a debt due to him is paid. Lien can be of two types viz. Particular lien i.e.
A
right to retain goods until a claim pertaining to these goods are fully paid, and
General
lien, Which is applied till all dues of the claimant are paid. Banks usually enjoyed
general
lien.
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BANKING ARRANGEMENTS
Working capital is made available to the borrower under the following
arrangements;
CONSORTIUM BANKING ARRANGEMENT:
RBI till 1997 made it obligatory for availing working capital facilities beyond a limit
(Rs
500 million in 1997), through the consortium arrangement. The objective of the
arrangement was to jointly meet the financial requirement of big projects by banks
and
also share the risks involved in it.
While it consortium arrangement is no longer obligatory, some borrowers continue
to
avail working capital finance under this arrangement. The main features of this
arrangement are as follows;
Bank with maximum share of the working capital limits usually takes the role of
lead
bank.
Lead bank, independently or in consultation with other banks, appraise the working
capital requirements of the company.
Banks at the consortium meeting agree on the ratio of sharing the assessed limits.
Lead bank undertakes the joint documentation on behalf of all member banks.
Lead bank organizes collection and dissemination of information regarding conduct
of
account by borrower.
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MULTIPLE BANKING ARRANGEMENT
Multiple banking is an open arrangement in which no banks will take the lead role.
Most borrowers are shifting their banking arrangement to multiple banking
arrangements.
The major features are
Borrower needs to approach multiple banks to tie up entire requirement of working
capital.
Banks independently assessed the working capital requirements of the borrower.
Banks, independent of each other, do documentation, monitoring and conduct of
the
account
Borrowers deals with all financing banks individually.
SYNDICATION
A syndicated credit is an agreement between two or more lenders to provide a
borrower
credit facility using common loan agreement. It is internationally practiced model
for
financing credit requirements, wherein banks are free to syndicate the credit limit
irrespective of quantum involved. It is similar to a consortium arrangement in terms
of
dispersal of risk but consist of a fixed repayment period.
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REGULATION OF BANK FINANCE
INTRODUCTION
Bank follows certain norms in granting working capital finance to companies.
These norms have been greatly influenced by the reconditions of various
committees
appointed by the RBI from time to time. The norms of working capital finance
followed
by banks are mainly based on the recommendation of Tandon committee and chore
committee.
These committees were appointed on the presumption that the existing system of
bank
lending of number of weakness industries in India have grown rapidly in the last
three
decades as result of which, the industrial system has become vary complex. The
banks
role has shifted from trade financing to industrial financing during this period.
However, the banks lending practices and styles have remained the same.
Industries
today fail to use bank finance efficiently. Their techniques of managing funds are
unscientific and non-professional. The industries today lack in reducing costs,
optimizing the use of inputs, conserving resources etc.
The weakness of the existing system highlighted by the Dehejia committee in 1968
and
identified by the tondon committee in 1974, are as follows:
It is the borrower who decides how much he would borrow ;the bankers does not
decide
how much he would lend and is, therefore, not in a position to do credit planning.
The
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bank credit is treated as the first sources of finance and not as supplementary to
other
sources of finance.
The amount of credit is extended is based on the amount of security available and
not on
the level of operations of the borrower.
Security does not by itself ensure safety of bank. Funds since all bad sticky
advances are
secure advances. Safety essentially lies in the efficient follow up of the industrial
operations of the borrower.
We discuss the following committees important finding and recommendations for
bank
finance: TANDON COMMITTEE
CHORE COMMITTEE.
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TANDON COMMITTEE
INTRODUCTION:
The Tandon committee was appointed by the RBI in July 1974 and headed by Shri.
Prakash L. Tandon, the chairman of the Punjab national bank, to suggest guidelines
for
rational allocation and optimum use of bank credit taking into consideration the
weakness
of the leading system. Bank credit, which had become a scare commodity, strictly
rationed to meet the credit requirement of all the sectors. The larger sector of the
industry
needed strict rationing becomes
It was over relying on bank finance and pre empted most of it while the other
sectors
were not getting even their due share. Therefore, the method and criterion adopted
for
fixing credit ration needed to be standardized so that there is minimum scope for
miss-use
or part of the credit uses. The Tandon committee was concern exactly with this
problem.
Its report laid down as to how the credit ratio of individual borrowers could be fixed
at
imposed certain obligation on them for the efficient use of the credit made
available.
The recommendation of the Tandon committee based on the following notions:
The borrower should indicate the demand for credit for which he should draw
operating
plans for the ensuring year and supply them to the banker. This would facilitate
credit
planning at the banks level and help the banker in evaluating the borrowers credit
needs
in a more realistic manner.
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The banker should finance only the genuine production needs of the borrower. The
borrower maintained reasonable levels inventories and receivables. Efficient
management
of resources should therefore be ensured to eliminate slow moving and flabby
inventories.
The working capital needs of borrower cannot entirely finance by the banker. The
banker
will finance only a reasonable part of it for the remaining; the borrower should
depend on
than Rs 10 lacs
The borrower will contribute 25 % of the total current assets from long-term funds
i.e.
owned funds and term borrowings. A certain level of credit for purchases and other
current liabilities will be available to fund the building up of current assets and the
bank
will provide the balance. Consequently, the current liabilities inclusive of bank
borrowing
could not exceed 75 % of current assets. This method gives a current ratio of 1.3:1.
This
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method was considered for all borrowers whose credit requirements were more than
Rs
10 lacs.
The borrower will contribute 100 % of core current assets, defined at the absolute
minimum level of raw material, processed stock, finished goods and stores, which
are in
the pipeline. A minimum level of the 25 % of the balance of the current assets
should be
finance from the long term funds and term borrowings. This method covers
straightness
the current ratio. The third is the ideal method. Borrowers in the second stage are
not
allowed to revert to the first stage. This method applies to all borrowers having
credit
limit in excess of Rs.20 lacs from the bank. However this method was not accepted
for
implementation.
In some cases, the net working capital was negative or 25 % of the working capital
gap.
5) INFORMATION SYSTEM:
The committee advocated for grater flow of information from borrower to the bank
for
operational purpose and for the purpose of supervision and flow of up credit.
Information should be provided in the following forms:
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QUARTERLY INFORMATION SYSTEM: FORM:
It should contain the production and sales estimates for the current and next
quarter. also,
the current asset current liabilities estimates for the next quarter should be
mentioned.
Quarterly information system: Form II:
It should contain the actual production and sales finger during the current year and
the
latest completed year. Also, actual current asset and current liabilities for the latest
completed quarter should be mention.
Half year operating statement form IIIA:
Actual operating performance for the half year ended against the estimate should
be
mentioned.
Half year fund flow statement: Form IIIB:
It should contain the estimate as well as the actual sources and use of fund for the
half
year ended.
Borrowers with a credit limit of more than1 crore are required to supply the
quarterly
information.
The bank to follow up and supervise the use of credit should properly use the
information
supplied by the borrower.
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The bank must ensure that the bank credit was used for the purposes for which it is
granted, keeping in view the borrowers operation and environment.
The bank should confirm whether the actual result is in conformity with the
expected
results. A+/- 10% variation is considered normal.
The banker should be treated as a partner in the business with whom information
should
be shared freely and frankly.
The recommendations of the Tandon committee have been widely debated and
criticized.
The bankers have found a difficult to implement the committees recommendations.
However, the Tandon committee has brought about a perceptible change in the
outlook
and attitude of both the banker and their customers. They have become quite
aware in the
matter of making the best use of a scare resource like bank credit. The committee
has
help in bringing the financial discipline through a balanced and integrated scheme
of
bank lending. Most of banks in India, even today continue to look at the needs of
the
corporate in the light of recommendation of the Tandon committee
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CHORE COMMITTEE
INTRODUCTION
In April 1979, the RBI constituted a working group to review the system of cash
credit
under the chairmanship of Mr. K. B. Chore, Chief Officer, DBCOD, RBI. The main
terms of reference for the group were to review the cash credit discipline and relate
credit
limit to production.
RECOMMENDATION OF CHORE COMMITTEE: Bank credit: Borrower should contribute more funds to finance their working capital requirement
and
reduce their dependence on bank credit. The committee suggested placing the
second
method of lending as explain in the Tandon committee report.
In case the borrower is unable to comply with this requirement immediately, he
would be
granted excess borrowing in the form of working capital loan (WCTL).
The WCTL should be paid in seamy annual installments for a period not exceeding 5
years and a higher rate of interest than under the cash credit system would be
charged.
This procedure should apply to those borrowers, having working capital
requirements of
more than Rs 10 lacs.
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LEVEL OF CREDIT LIMIT
Bank should appraise and fix separate limits for the peak level and normal non
pick
level credit requirements for all borrowers in excess of Rs. 10 lacs indicating the
relevant periods.
With the sanctioned limits for these two periods, the borrower should indicate in
advance
his need for funds during the quarter. Any deviation in utilization of funds Beyond
10%
should be considered irregular and is subject to penalty fix by the RBI (2% p.a. over
the
normal rate)
Bank should discourage ad hoc or temporary credit limits. If sanction under
exceptional
circumstances the same should be given in the form of a separate demand loan and
additional interest of at least 1% should charged.
Lending system:
The system of three types of lending should continue i.e. cash credit loan and bills
wherever possible; the bank should replace cash credit system by loan and bills.
Bank should scrutinize the cash credit accounts of large borrowers ones a year.
Bifurcation of cash credit account into demand loan fluctuating cash credit
component, as
recommended by the Tandon committee should discontinue.
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Advances against books debts should be converted to bills wherever possible and at
least
50% of cash credit limit utilize for financing purchases of raw material inventory
should
also be charged to the bill system.
Information System
The discipline relating to the submission of Quarterly Statements to be obtained
from
The central offices of bank should take a second look at the credit budget as soon
as
changes in the credit policy are announced by the RBI and they should revised their
plan
of action in the right of new policy and communicate the corrective measures at the
operational levels at the earliest.
Bank should give particular attention to monitor the key branches and critical
accounts.
The communication channels and system and procedures with in the banking
system
should be toned up so as to ensure that minimum time is taken for collection of
instruments.
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FINANCIAL RATIOS
CURRENT RATIO=CURRENT ASSET/ CURRENT LIABITIES
Help to measure liquidity and financial strength, indication of availability of current
assets to pay current liabilities. The higher the ratio betters the liquidity position.
Generally it should be at least 1.33.
TOL/TNW=TOL/TANGIABLE NET WORTH
Indicate size of stakes, stability and degree of solvency. Indicates how high the
stake of
the creditors is. Indicate what proportion of the company finance is represented by
the
tangible net worth. The lower the ratio, greater the solvency. Anything over 5 should
be
viewed with concern.
The ratio should be studied at the peak level of operations.
OPERATING PROFIT RATIO=OPERATING PROFIT/NET SALES100
This ratio indicates operating efficiency. Indication of net margin of profit available
on
Rs. 100 sales. Trend for company over a period should be encouraging.
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DSCR(DEBT SERVICE COVERAGE RATIO)=DEPRICIATION+INTREST ON
TERM LOAN/ INTREST ON TERM LOAN+INSTALLMENT OF TERM LOAN
It indicates the number of times total debt service obligation consisting of interest
and
repayment of the principal in installment is covered by the total fund available after
taxes.
With the help of this ratio (popularly known as DSCR), we can find out whether the
loan
taken for acquisition of fixed assets can be rapid conveniently.
This ratio of 1.5 to 2 considered adequate.
We have already touched upon depreciation as non cash expenditure and since the
funds
are available with the enterprise to that extent. It is in order to ask for this sum in
reduction of loan.
INTEREST COVERAGE RATIO=EARNINGS BEFORE TERM LOAN AND
TAXATION / INTEREST ON TERM LOAN
The ratio indicates adequacy of profit to cover interest. Higher the ratio more is the
security to the lender.
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Analysis & Interpretation of the data
Case studies
Case study 1:
secured approval from BHEL for the Quality of its own materials.
It used to pay for job works to other companies/firms for the machining purpose.
This
payment was to the tune of 25% (appx) of the job work revenue. For the year 2005
as the
job work is being done in-house the expenses are estimated to be hardly 5%.
Besides,
margin of direct selling of its materials is better. Moreover with increased sales the
marginal revenue would be proportionately high adding to the increased yield. In
view of
the above factors we may accept the profitability estimates made by the firm. In the
coming 7 years the firm has estimated profitability ranging from 8.5% to 12.5%.
This
appears to be on the higher side. As the sales are estimated to stabilize at Rs.
312.00 lacs
we may accept the profitability of 4.79% as acceptable for the year 2005.
Accordingly the
net profit for the 2nd year would be Rs. 13.70 lacs and then Rs. 14.95 lacs p. a.
3. Cash Accrual: With addition to fixed assets the depreciation shall be high. Thus
with
accepted profitability the accrual would be Rs. 30.00 lacs for the year 2005 followed
by
Rs. 32.03 lacs, Rs. 30.62 lacs respectively. The position is acceptable.
4. TNW: Up to 2004-05 the TNW has been increasing with retention of profits. In the
year 2005 for the expansion plan the partner have agreed in bring in additional
capital of
Rs. 46.00 lacs, Remaining Rs 20.00 lacs from internal accrual. We have discussed
the
issue of infusion of capital by partners. It is informed that depending upon the
advice of
their auditors they would be either increasing the amount of individual capital
and/or
brings in unsecured loans from friends/relatives to be converted to capital over a
period
of time. Since the existing work is being carried out from their own sources the
branch is
advised to obtain a CAs certificate certifying the amount investing that will be
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considered as their contribution. Since the cash accrual for the year 2005 is
accepted at
Rs. 30.00 lacs the remaining contribution of Rs. 20.00 lacs from partners appears
reasonable.
5. TOL/TNW: The ratio has been below 2.00 up to 31.03.05 and with proposed
capital
infusion the same is estimated to be about 1.18 which is acceptable being well
within
benchmark level.
6. NWC & C. R.: Both the parameters have been well above their respective
benchmark
levels and are estimated to improve further over the existing levels. It may be
mentioned
that even though the firm is increasing its production capacity and consequently
sales it
has not requested any additional working capital. During discussion it is gathered
that
with direct selling the payment term would be 90 % against supply of materials
which
would improve its cash flow and hence there will not be additional requirement of
working capital. However the partners have informed that after the expansion is
Projected
a. Total current assets 23.61 31.70 55.35
b. OCL Excl. short term BB 0.09 0.15 c. Working Capital Gap(a-b) 23.52 31.55 55.35
d. Min. Stipulated NWC
(25% of TCA)
5.90 7.93 13.84
e. Actual/Projected NWC 14.41 18.47 40.35
f. Item c-d 17.62 23.62 41.51
g. Item c-e 9.11 13.08 15.00
h. MPBF 9.11 13.08 15.00
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Case Study 2:
Comparative Balance Sheet and Performance / Financial Indicators:
Bridged Balance Sheet:
(Rs in lacs)
Liabilities 31.03.04 31.03.05 31.03.06 Assets 31.03.04 31.03.05 31.03.06
(Audit) (Audit) (Estm) (Audit) (Audit) (Estm)
Capital 27.77 36.30 41.42 Net Block 3.10 2.45 1.71
Unsec Ln 1.00 1.00 5.00 Advance/Deposits
(NCA)
0.34 0.34 1.09
Term
Loan
(projected)
Net Sales
% Increase / Decrease
720.26 1126.16
56%
1749.64
55%
1866.08
6.63%
Net Profit After Tax 0.41 0.25 0.23 0.23
Cash Accruals 3.87 3.51 4.81 4.74
TNW excl Revaluation Reserve 27.77 36.30 41.42 48.04
TOL / TNW Ratio 1.47 1.81 2.91 2.49
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NWC 26.51 35.19 43.62 50.79
Current Ratio 1.68 1.55 1.38 1.44
Net Sales: The firm deals in the products of Hindustan Lever Ltd and Bharti Tele Ltd
(Airtel). The estimated sale for 2004-05, as per last review, was Rs. 1405 lacs, with
a
growth of 95% over previous year. However the actual sales were Rs. 1126 lacs,
with a
growth of 56%. Achievement is 80%. In this connection, the firm has informed that
the
estimated growth of 20% in Hindustan Lever products could not be achieved and
hence
the variation. This is due to policy changes contemplated by HLL to reduce the no.
of
view of the additional borrowings for the increased turnover. However the same is
still
below the bench mark.
Net Working Capital: The firm has been maintaining NWC at more than 25% of TCA
level which is above the stipulated bench mark and is estimated to well within the
bench
mark too. The firm has proposed infusion of addition unsecured loan of Rs. 4.00 lacs
to
improve the NWC position. A suitable certificate from the CA is to be obtained to
this
effect. An undertaking is to be obtained not to repay this unsecured loan during
current of
our credit facilities.
Current Ratio: The firm has been maintaining current ratio at a satisfactory level.
Through the estimated level for the year 2005-06, is slightly lower compared to year
2004-05 it is still above the bench mark level.
Thus overall financial position is satisfactory.
Assessment of Proposal:
A. Working capital assessment
Comments on:
i. Inventory:
As per past trend, the level of stocks held by the firm is between 18 days
to 20 days during last tow years and the same is estimated to be 15 days in this
year 2005-06. This being an improvement over the past years is acceptable.
ii. Receivables:
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As per past trend, the level of credit allowed by the firm is between 0.30 to
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Case Study 3:
Comparative Balance Sheet and Performance / Financial Indicators:
(Rs in lacs)
Liabilities 31.03.04 31.03.05 31.03.06 Assets 31.03.04 31.03.05 31.03.06
Audited Aud Estm Audited Aud Estm
Capital 16.20 17.20 17.20 FA 30.59 46.97 64.37
Reserves 4.70 4.82 15.10 Depr. 6.63 12.26 21.25
Def tax 0.27 2.15 2.10
NW 21.17 24.17 34.40 Net
Block
23.97 34.71 43.12
TL 1.92 8.99 10.66 Cash
&
Bank
5.34 6.02 6.77
Unsec Ln 14.16 18.17 16.71 RM
OTL WIP
TTL 16.08 27.16 27.37 FG 10.64 11.33 24.50
Scred 3.49 6.06 RecDom
7.23 12.70 40.80
Bk Borr 25.00 Export
OCL 9.36 12.80 36.00 OCA 2.82 2.49 4.64
TCL 12.85 18.86 61.00 TCA 26.03 32.54 76.71
Inv
Oth
NCA
- 2.86 2.86
Tot
NCA
Acc
Loss
Oth
Intang
Ass.
0.10 0.08 0.08
Tot Liab 50.10 70.19 122.77 Tot
Ass
50.10 70.19 122.77
31.03.2004 31.03.05 31.03.06
* Net Worth 21.17 24.17 34.40
Less: Revaluation Reserves
Less: Intangible Assets 0.10 0.08 0.08
Tangible Net Worth 21.07 24.09 34.32
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PERFORMANCE / KEY FINANCIAL INDICATORS: (Rs in Lacs)
Particulars 31.03.04 31.03.05 31.03.06
Net Sales
% Increase / Decrease
75.35
69.36%
61.21
-ve
204.00
Net Profit After Tax
% to Net Sales
3.15
4.18%
2.00
3.28%
10.29
5.04%
Cash Accruals 6.03 7.63 19.29
TNW excl Revaluation Reserve 21.07 24.09 34.32
TOL / TNW Ratio 1.37 1.91 2.57
NWC 13.18 13.68 15.71
Current Ratio 2.02 1.73 1.26
Comments:
1. Sales: Sales mean service charges/ consultancy fees received for the NDT
inspection
and course fees received for its various training programs on NDT. As mentioned
earlier
the company is mainly doing NDT inspection of oil refineries of Reliance Industries,
ONGC, and NTPC. The consultancy fees depend upon the volume of machineries put
under NDT inspection. During 2004-05 the sales have declined due to this factor
only. It
may be mentioned here that during the year the course fees have grown by 200%
whereas
consultancy fees have declined by 65% (appx). In the year 2005-06 the company
has
received contracts worth Rs 87.00 lacs from RIL for its Jamnagar Plant. The
company
has estimated a sale of Rs 204.00 lacs comprising consultancy fee & component
sale of
Rs 180.00 lacs and training fees of Rs 24.00 lacs. The training fee is slightly less
than the
last years fees. As on 30.11.05 the company has already booked a sale of
Rs129.00lacs.
Besides it has orders from small & medium companies. As such we are of the view
that
the company would be in a position to achieve a sale of Rs150.00lacs. We may
accept the
said level.
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2. Net Profit: Profit margins in consultancy works are comparatively more. Therefore
with decline in consultancy fees the profitability has declined during 2004-05.
During
2005-06 the company has estimated a net profit of Rs 10.29 lacs with profitability of
5.04%. The company officials have clarified that with increased sales and without
any
additional cost the marginal revenue will be more. Moreover net profit as of
30.11.05 as
declared by the company has been Rs. 10.10 lacs. Accordingly the estimates appear
reasonable.
3. TNW: With 100% retention of net profit the TNW acceptable as on 31.03.06 would
be
The company had requested for project specific working capital (CC) facility of Rs
25.00
lacs for its contract worth Rs 87.00 lacs from RIL which will be completed within 4
months. This job is completed. But the company is able to obtain similar contracts
from
others like L&T, South Central railways etc in ensuing months for which it requires
the
working capital. In fact for the next year it has estimated a sale of more than Rs.
200.00
lacs.
As at 30.11.05 the TCA level is Rs. 62.57 lacs which is 49% of total sales as on that
date.
For the current year it has estimated a TCA level of Rs. 76.71 lacs which works out
to
51% of accepted sales level. Since the estimated level is more or less equivalent to
the
actual level as on 30.11.05 we may accept the same. The company has estimated
an OCL
level of Rs. 36.00 lacs which as per the actual level prevailing as on 30.11.05. This
is
acceptable too. Accordingly PBF is arrived as under.
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i. TCA level accepted Rs76.71lacs
ii. OCL Rs36.00lacs
iii. WCG Rs40.71lacs
iv. Required NWC (20%) Rs15.34lacs
v. Estimated level Rs15.71lacs
vi. MPBF Rs25.00lacs.
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Conclusions
The requirement of working capital finance is ever increasing.
Loans and advances formed a major portion of the current assets of the firm
because of which the working capital gap is large.
The bank prefers to use the second method of lending working capital under the
MPBF rather than evolving their own method.
In most of the cases, hypothecation and/or mortgage are used to create securities
for the banks.
Bank has their own internal credit rating procedure to rate the clients (Borrowers).
After doing the assessment of the financial indicators it is up to the judgment of
the top management of the bank to sanction such loan. The very decision could be
against the assessment result.
If the company is with bank from inception stage then they are given preference,
as credible and loyal party over their financial indicators.
There is a stiff competition to the nationalized banks from the foreign investors as
their lending rates are much lower than nationalized banks.
Today the foreign investors are very big threat to business and its existence.
Bank of Maharashtra has kept a conservative look to banking.
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Suggestions
Closely monitoring and inspecting the activities and stocks of the borrowers from
time to time can avoid the misuse of working capital
While working out the working capital limits, banks must exclude the loans and
advances from the current assets. The assessment should be done mainly stock