WORKING CAPITAL - Meaning of Working Capital

Capital required for a business can be classified under two main categories via,
1) Fixed Capital
2) Working Capital
Every business needs funds for two purposes for its establishment and to
carry out its day- to-day operations. Long terms funds are required to create p
roduction facilities through purchase of fixed assets such as p&m, land, buildin
g, furniture, etc. Investments in these assets represent that part of firm s capit
al which is blocked on permanent or fixed basis and is called fixed capital. Fun
ds are also needed for short-term purposes for the purchase of raw material, pay
ment of wages and other day to- day expenses etc.

These funds are known as working capital. In simple words, working capital refer
s to that part of the firm s capital which is required for financing short- term o
r current assets such as cash, marketable securities, debtors & inventories. Fun
ds, thus, invested in current assts keep revolving fast and are being constantly
converted in to cash and this cash flows out again in exchange for other curren
t assets. Hence, it is also known as revolving or circulating capital or short t
erm capital.
CONCEPT OF WORKING CAPITAL
There are two concepts of working capital:
1. Gross working capital
2. Net working capital
The gross working capital is the capital invested in the total current assets of
the enterprises current assets are those
Assets which can convert in to cash within a short period normally one accountin
g year.
CONSTITUENTS OF CURRENT ASSETS
1) Cash in hand and cash at bank
2) Bills receivables
3) Sundry debtors
4) Short term loans and advances.
5) Inventories of stock as:
a. Raw material
b. Work in process
c. Stores and spares
d. Finished goods
6. Temporary investment of surplus funds.
7. Prepaid expenses
8. Accrued incomes.
9. Marketable securities.

In a narrow sense, the term working capital refers to the net working. Net worki
ng capital is the excess of current assets over current liability, or, say:
NET WORKING CAPITAL = CURRENT ASSETS CURRENT LIABILITIES.
Net working capital can be positive or negative. When the current assets exceeds
the current liabilities are more than the current assets. Current liabilities a
re those liabilities, which are intended to be paid in the ordinary course of bu
siness within a short period of normally one accounting year out of the current
assts or the income business.
CONSTITUENTS OF CURRENT LIABILITIES
1. Accrued or outstanding expenses.
2. Short term loans, advances and deposits.
3. Dividends payable.
4. Bank overdraft.
5. Provision for taxation , if it does not amt. to app. Of profit.
6. Bills payable.
7. Sundry creditors.
The gross working capital concept is financial or going concern concept whereas
net working capital is an accounting concept of working capital. Both the concep
ts have their own merits.
The gross concept is sometimes preferred to the concept of working capital for t
he following reasons:
1. It enables the enterprise to provide correct amount of working capital at
correct time.
2. Every management is more interested in total current assets with which it
has to operate then the source from where it is made available.
3. It take into consideration of the fact every increase in the funds of the
enterprise would increase its working capital.
4. This concept is also useful in determining the rate of return on investme
nts in working capital. The net working capital concept, however, is also import
ant for following reasons:
· It is qualitative concept, which indicates the firm s ability to meet to it
s operating expenses and short-term liabilities.
· IT indicates the margin of protection available to the short term credito
rs.
· It is an indicator of the financial soundness of enterprises.
· It suggests the need of financing a part of working capital requirement o
ut of the permanent sources of funds.

CLASSIFICATION OF WORKING CAPITAL

Working capital may be classified in to ways:
o On the basis of concept.
o On the basis of time.
On the basis of concept working capital can be classified as gross working capit
al and net working capital. On the basis of time, working capital may be classif
ied as:
Ø Permanent or fixed working capital.
Ø Temporary or variable working capital
PERMANENT OR FIXED WORKING CAPITAL
Permanent or fixed working capital is minimum amount which is required to ensure
effective utilization of fixed facilities and for maintaining the circulation o
f current assets. Every firm has to maintain a minimum level of raw material, wo
rk- in-process, finished goods and cash balance. This minimum level of current a
ssts is called permanent or fixed working capital as this part of working is per
manently blocked in current assets. As the business grow the requirements of wor
king capital also increases due to increase in current assets.
TEMPORARY OR VARIABLE WORKING CAPITAL
Temporary or variable working capital is the amount of working capital which is
required to meet the seasonal demands and some special exigencies. Variable work
ing capital can further be classified as seasonal working capital and special wo
rking capital. The capital required to meet the seasonal need of the enterprise
is called seasonal working capital. Special working capital is that part of work
ing capital which is required to meet special exigencies such as launching of ex
tensive marketing for conducting research, etc.
Temporary working capital differs from permanent working capital in the sense th
at is required for short periods and cannot be permanently employed gainfully in
the business.
And some special al is the amount of working capital which is required to meet t
he seasonal sets.
IMPORTANCE OR ADVANTAGE OF ADEQUATE WORKING CAPITAL
Ø SOLVENCY OF THE BUSINESS: Adequate working capital helps in maintaining the s
olvency of the business by providing uninterrupted of production.
Ø Goodwill: Sufficient amount of working capital enables a firm to make prompt
payments and makes and maintain the goodwill.
Ø Easy loans: Adequate working capital leads to high solvency and credit stand
ing can arrange loans from banks and other on easy and favorable terms.
Ø Cash Discounts: Adequate working capital also enables a concern to avail cas
h discounts on the purchases and hence reduces cost.
Ø Regular Supply of Raw Material: Sufficient working capital ensures regular s
upply of raw material and continuous production.
Ø Regular Payment Of Salaries, Wages And Other Day TO Day Commitments: It lead
s to the satisfaction of the employees and raises the morale of its employees, i
ncreases their efficiency, reduces wastage and costs and enhances production and
profits.
Ø Exploitation Of Favorable Market Conditions: If a firm is having adequate w
orking capital then it can exploit the favorable market conditions such as purch
asing its requirements in bulk when the prices are lower and holdings its invent
ories for higher prices.
Ø Ability To Face Crises: A concern can face the situation during the depressi
on.
Ø Quick And Regular Return On Investments: Sufficient working capital enables
a concern to pay quick and regular of dividends to its investors and gains confi
dence of the investors and can raise more funds in future.
Ø High Morale: Adequate working capital brings an environment of securities, c
onfidence, high morale which results in overall efficiency in a business.
EXCESS OR INADEQUATE WORKING CAPITAL
Every business concern should have adequate amount of working capital to run its
business operations. It should have neither redundant or excess working capital
nor inadequate nor shortages of working capital. Both excess as well as short w
orking capital positions are bad for any business. However, it is the inadequate
working capital which is more dangerous from the point of view of the firm.
DISADVANTAGES OF REDUNDANT OR EXCESSIVE WORKING CAPITAL
1. Excessive working capital means ideal funds which earn no profit for the
firm and business cannot earn the required rate of return on its investments.
2. Redundant working capital leads to unnecessary purchasing and accumulatio
n of inventories.
3. Excessive working capital implies excessive debtors and defective credit
policy which causes higher incidence of bad debts.
4. It may reduce the overall efficiency of the business.
5. If a firm is having excessive working capital then the relations with ban
ks and other financial institution may not be maintained.
6. Due to lower rate of return n investments, the values of shares may also
fall.
7. The redundant working capital gives rise to speculative transactions
DISADVANTAGES OF INADEQUATE WORKING CAPITAL
Every business needs some amounts of working capital. The need for working capit
al arises due to the time gap between production and realization of cash from sa
les. There is an operating cycle involved in sales and realization of cash. Ther
e are time gaps in purchase of raw material and production; production and sales
; and realization of cash.
Thus working capital is needed for the following purposes:
· For the purpose of raw material, components and spares.
· To pay wages and salaries
· To incur day-to-day expenses and overload costs such as office expenses.
· To meet the selling costs as packing, advertising, etc.
· To provide credit facilities to the customer.
· To maintain the inventories of the raw material, work-in-progress, stores
and spares and finished stock.
For studying the need of working capital in a business, one has to study the bus
iness under varying circumstances such as a new concern requires a lot of funds
to meet its initial requirements such as promotion and formation etc. These expe
nses are called preliminary expenses and are capitalized. The amount needed for
working capital depends upon the size of the company and ambitions of its promot
ers. Greater the size of the business unit, generally larger will be the require
ments of the working capital.
The requirement of the working capital goes on increasing with the growth and ex
pensing of the business till it gains maturity. At maturity the amount of workin
g capital required is called normal working capital.
There are others factors also influence the need of working capital in a busines
s.
FACTORS DETERMINING THE WORKING CAPITAL REQUIREMENTS
1. NATURE OF BUSINESS: The requirements of working is very limited in public ut
ility undertakings such as electricity, water supply and railways because they o
ffer cash sale only and supply services not products, and no funds are tied up i
n inventories and receivables. On the other hand the trading and financial firms
requires less investment in fixed assets but have to invest large amt. of worki
ng capital along with fixed investments.
2. SIZE OF THE BUSINESS: Greater the size of the business, greater is the requi
rement of working capital.
3. PRODUCTION POLICY: If the policy is to keep production steady by accumulatin
g inventories it will require higher working capital.
4. LENTH OF PRDUCTION CYCLE: The longer the manufacturing time the raw material
and other supplies have to be carried for a longer in the process with progress
ive increment of labor and service costs before the final product is obtained. S
o working capital is directly proportional to the length of the manufacturing pr
ocess.
5. SEASONALS VARIATIONS: Generally, during the busy season, a firm requires lar
ger working capital than in slack season.
6. WORKING CAPITAL CYCLE: The speed with which the working cycle completes one
cycle determines the requirements of working capital. Longer the cycle larger is
the requirement of working capital.

DEBTORS
CASH FINISHED GOODS

RAW MATERIAL WORK IN PROGRESS

7. RATE OF STOCK TURNOVER: There is an inverse co-relationship between the q

uestion of working capital and the velocity or speed with which the sales are af
fected. A firm having a high rate of stock turnover wuill needs lower amt. of wo
rking capital as compared to a firm having a low rate of turnover.
8. CREDIT POLICY: A concern that purchases its requirements on credit and sa
les its product / services on cash requires lesser amt. of working capital and v
ice-versa.
9. BUSINESS CYCLE: In period of boom, when the business is prosperous, there
is need for larger amt. of working capital due to rise in sales, rise in prices
, optimistic expansion of business, etc. On the contrary in time of depression,
the business contracts, sales decline, difficulties are faced in collection from
debtor and the firm may have a large amt. of working capital.
10. RATE OF GROWTH OF BUSINESS: In faster growing concern, we shall require larg
e amt. of working capital.
11. EARNING CAPACITY AND DIVIDEND POLICY: Some firms have more earning capacity
than other due to quality of their products, monopoly conditions, etc. Such firm
s may generate cash profits from operations and contribute to their working capi
tal. The dividend policy also affects the requirement of working capital. A firm
maintaining a steady high rate of cash dividend irrespective of its profits nee
ds working capital than the firm that retains larger part of its profits and doe
s not pay so high rate of cash dividend.
12. PRICE LEVEL CHANGES: Changes in the price level also affect the working capi
tal requirements. Generally rise in prices leads to increase in working capital.
Others FACTORS: These are:
ü Operating efficiency.
ü Management ability.
ü Irregularities of supply.
ü Import policy.
ü Asset structure.
ü Importance of labor.
ü Banking facilities, etc.
MANAGEMENT OF WORKING CAPITAL
Management of working capital is concerned with the problem that arises in attem
pting to manage the current assets, current liabilities. The basic goal of worki
ng capital management is to manage the current assets and current liabilities of
a firm in such a way that a satisfactory level of working capital is maintained
, i.e. it is neither adequate nor excessive as both the situations are bad for a
ny firm. There should be no shortage of funds and also no working capital should
be ideal. WORKING CAPITAL MANAGEMENT POLICES of a firm has a great on its proba
bility, liquidity and structural health of the organization. So working capital
management is three dimensional in nature as
1. It concerned with the formulation of policies with regard to profitabilit
y, liquidity and risk.
2. It is concerned with the decision about the composition and level of curr
ent assets.
3. It is concerned with the decision about the composition and level of curr
ent liabilities.

WORKING CAPITAL ANALYSIS

As we know working capital is the life blood and the centre of a business. Adequ
ate amount of working capital is very much essential for the smooth running of t
he business. And the most important part is the efficient management of working
capital in right time. The liquidity position of the firm is totally effected by
the management of working capital. So, a study of changes in the uses and sourc
es of working capital is necessary to evaluate the efficiency with which the wor
king capital is employed in a business. This involves the need of working capita
l analysis.
The analysis of working capital can be conducted through a number of devices, su
ch as:
1. Ratio analysis.
2. Fund flow analysis.
3. Budgeting.

1. RATIO ANALYSIS
A ratio is a simple arithmetical expression one number to another. The technique
of ratio analysis can be employed for measuring short-term liquidity or working
capital position of a firm. The following ratios can be calculated for these pu
rposes:
1. Current ratio.
2. Quick ratio
3. Absolute liquid ratio
4. Inventory turnover.
5. Receivables turnover.
6. Payable turnover ratio.
7. Working capital turnover ratio.
8. Working capital leverage
9. Ratio of current liabilities to tangible net worth.

2. FUND FLOW ANALYSIS

Fund flow analysis is a technical device designated to the study the source from
which additional funds were derived and the use to which these sources were put
. The fund flow analysis consists of:

a. Preparing schedule of changes of working capital

b. Statement of sources and application of funds.
It is an effective management tool to study the changes in financial position (w
orking capital) business enterprise between beginning and ending of the financia
l dates.

3. WORKING CAPITAL BUDGET

A budget is a financial and / or quantitative expression of business plans and p
olices to be pursued in the future period time. Working capital budget as a part
of the total budge ting process of a business is prepared estimating future lon
g term and short term working capital needs and sources to finance them, and the
n comparing the budgeted figures with actual performance for calculating the var
iances, if any, so that corrective actions may be taken in future. He objective
working capital budget is to ensure availability of funds as and needed, and to
ensure effective utilization of these resources. The successful implementation o
f working capital budget involves the preparing of separate budget for each elem
ent of working capital, such as, cash, inventories and receivables etc.

ANALYSIS OF SHORT TERM FINANCIAL POSITION OR TEST OF LIQUIDITY

The short term creditors of a company such as suppliers of goods of credit and co
mmercial banks short-term loans are primarily interested to know the ability of
a firm to meet its obligations in time. The short term obligations of a firm can
be met in time only when it is having sufficient liquid assets. So to with the
confidence of investors, creditors, the smooth functioning of the firm and the e
fficient use of fixed assets the liquid position of the firm must be strong. But
a very high degree of liquidity of the firm being tied up in current assets. Th
erefore, it is important proper balance in regard to the liquidity of the firm.
Two types of ratios can be calculated for measuring short-term financial positio
n or short-term solvency position of the firm.
1. Liquidity ratios.
2. Current assets movements ratios.

A) LIQUIDITY RATIOS
Liquidity refers to the ability of a firm to meet its current obligations as and
when these become due. The short-term obligations are met by realizing amounts
from current, floating or circulating assts. The current assets should either be
liquid or near about liquidity. These should be convertible in cash for paying
obligations of short-term nature. The sufficiency or insufficiency of current as
sets should be assessed by comparing them with short-term liabilities. If curren
t assets can pay off the current liabilities then the liquidity position is sati
sfactory. On the other hand, if the current liabilities cannot be met out of the
current assets then the liquidity position is bad. To measure the liquidity of
a firm, the following ratios can be calculated:
1. CURRENT RATIO
2. QUICK RATIO
3. ABSOLUTE LIQUID RATIO

1. CURRENT RATIO
Current Ratio, also known as working capital ratio is a measure of general liqui
dity and its most widely used to make the analysis of short-term financial posit
ion or liquidity of a firm. It is defined as the relation between current assets
and current liabilities. Thus,
CURRENT RATIO = CURRENT ASSETS
CURRENT LIABILITES
The two components of this ratio are:
1) CURRENT ASSETS
2) CURRENT LIABILITES
Current assets include cash, marketable securities, bill receivables, sundry deb
tors, inventories and work-in-progresses. Current liabilities include outstandin
g expenses, bill payable, dividend payable etc.
A relatively high current ratio is an indication that the firm is liquid and has
the ability to pay its current obligations in time. On the hand a low current r
atio represents that the liquidity position of the firm is not good and the firm
shall not be able to pay its current liabilities in time. A ratio equal or near
to the rule of thumb of 2:1 i.e. current assets double the current liabilities
is considered to be satisfactory.

CALCULATION OF CURRENT RATIO

 (R
upees in crore)
e.g.
Year
2006
2007
2008
Current Assets
81.29
83.12
13,6.57
Current Liabilities
27.42
20.58
33.48
Current Ratio
2.96:1
4.03:1
4.08:1

Interpretation:-
As we know that ideal current ratio for any firm is 2:1. If we see the current r
atio of the company for last three years it has increased from 2006 to 2008. The
current ratio of company is more than the ideal ratio. This depicts that compan
y s liquidity position is sound. Its current assets are more than its current liab
ilities.
2. QUICK RATIO
Quick ratio is a more rigorous test of liquidity than current ratio. Quick ratio
may be defined as the relationship between quick/liquid assets and current or l
iquid liabilities. An asset is said to be liquid if it can be converted into cas
h with a short period without loss of value. It measures the firms capacity to pa
y off current obligations immediately.
QUICK RATIO = QUICK ASSETS
CURRENT LIABILITES
Where Quick Assets are:
1) Marketable Securities
2) Cash in hand and Cash at bank.
3) Debtors.
A high ratio is an indication that the firm is liquid and has the ability to mee
t its current liabilities in time and on the other hand a low quick ratio repres
ents that the firms liquidity position is not good.
As a rule of thumb ratio of 1:1 is considered satisfactory. It is generally thou
ght that if quick assets are equal to the current liabilities then the concern m
ay be able to meet its short-term obligations. However, a firm having high quick
ratio may not have a satisfactory liquidity position if it has slow paying debt
ors. On the other hand, a firm having a low liquidity position if it has fast mo
ving inventories.
CALCULATION OF QUICK RATIO
e.g. (Rupees in Cro
re)
Year
2006
2007
2008
Quick Assets
44.14
47.43
61.55
Current Liabilities
27.42
20.58
33.48
Quick Ratio
1.6 : 1
2.3 : 1
1.8 : 1

Interpretation :
A quick ratio is an indication that the firm is liquid and has the abilit
y to meet its current liabilities in time. The ideal quick ratio is 1:1. Compa
ny s quick ratio is more than ideal ratio. This shows company has no liquidity pro
blem.
3. absolute liquid ratio
Although receivables, debtors and bills receivable are generally more liquid tha
n inventories, yet there may be doubts regarding their realization into cash imm
ediately or in time. So absolute liquid ratio should be calculated together with
current ratio and acid test ratio so as to exclude even receivables from the cu
rrent assets and find out the absolute liquid assets. Absolute Liquid Assets inc
ludes :
Absolute liquid ratio = absolute liquid assets
CURRENT LIABILITES
Absolute liquid assets = cash & bank balances.
e.g. (Rupees in Crore)
Year
2006
2007
2008
Absolute Liquid Assets
4.69
1.79
5.06
Current Liabilities
27.42
20.58
33.48
Absolute Liquid Ratio
.17 : 1
.09 : 1
.15 : 1

Interpretation :
These ratio shows that company carries a small amount of cash. But there
is nothing to be worried about the lack of cash because company has reserve, bor
rowing power & long term investment. In India, firms have credit limits sanction
ed from banks and can easily draw cash.
B) current assets movement ratios
Funds are invested in various assets in business to make sales and earn profits.
The efficiency with which assets are managed directly affects the volume of sal
es. The better the management of assets, large is the amount of sales and profit
s. Current assets movement ratios measure the efficiency with which a firm manag
es its resources. These ratios are called turnover ratios because they indicate
the speed with which assets are converted or turned over into sales. Depending u
pon the purpose, a number of turnover ratios can be calculated. These are :
1. Inventory Turnover Ratio
2. Debtors Turnover Ratio
3. Creditors Turnover Ratio
4. Working Capital Turnover Ratio
The current ratio and quick ratio give misleading results if current assets incl
ude high amount of debtors due to slow credit collections and moreover if the as
sets include high amount of slow moving inventories. As both the ratios ignore t
he movement of current assets, it is important to calculate the turnover ratio.
1. Inventory Turnover or Stock Turnover Ratio :
Every firm has to maintain a certain amount of inventory of finished goods so as
to meet the requirements of the business. But the level of inventory should nei
ther be too high nor too low. Because it is harmful to hold more inventory as so
me amount of capital is blocked in it and some cost is involved in it. It will t
herefore be advisable to dispose the inventory as soon as possible.
inventory turnover ratio = cost of good sold
Average inventory
Inventory turnover ratio measures the speed with which the stock is converted in
to sales. Usually a high inventory ratio indicates an efficient management of in
ventory because more frequently the stocks are sold ; the lesser amount of money
is required to finance the inventory. Where as low inventory turnover ratio ind
icates the inefficient management of inventory. A low inventory turnover implies
over investment in inventories, dull business, poor quality of goods, stock acc
umulations and slow moving goods and low profits as compared to total investment
.
average stock = opening stock + closing stock
2
(Rupees in Crore)
Year
2006
2007
2008
Cost of Goods sold
110.6
103.2
96.8
Average Stock
73.59
36.42
55.35
Inventory Turnover Ratio
1.5 times
2.8 times
1.75 times

Interpretation :
These ratio shows how rapidly the inventory is turning into receivable th
rough sales. In 2007 the company has high inventory turnover ratio but in 2008 i
t has reduced to 1.75 times. This shows that the company s inventory management te
chnique is less efficient as compare to last year.
2. Inventory conversion period:
Inventory conversion period = 365 (net working days)
inventory turnover ratio
e.g.
Year
2006
2007
2008
Days
365
365
365
Inventory Turnover Ratio
 1.5
2.8
1.8
Inventory Conversion Period
243 days
130 days
202 days

Interpretation :
Inventory conversion period shows that how many days inventories takes to
convert from raw material to finished goods. In the company inventory conversio
n period is decreasing. This shows the efficiency of management to convert the i
nventory into cash.
3. debtors turnover ratio :
A concern may sell its goods on cash as well as on credit to increase its sales
and a liberal credit policy may result in tying up substantial funds of a firm i
n the form of trade debtors. Trade debtors are expected to be converted into cas
h within a short period and are included in current assets. So liquidity positio
n of a concern also depends upon the quality of trade debtors. Two types of rati
o can be calculated to evaluate the quality of debtors.
a) Debtors Turnover Ratio
b) Average Collection Period
Debtors Turnover Ratio = Total Sales (Credit)
Average Debtors
Debtor s velocity indicates the number of times the debtors are turned over during
a year. Generally higher the value of debtor s turnover ratio the more efficient
is the management of debtors/sales or more liquid are the debtors. Whereas a low
debtors turnover ratio indicates poor management of debtors/sales and less liqu
id debtors. This ratio should be compared with ratios of other firms doing the s
ame business and a trend may be found to make a better interpretation of the rat
io.
average debtors= opening debtor+closing debtor
2

e.g.
Year
2006
2007
2008
Sales
166.0
151.5
169.5
Average Debtors
17.33
18.19
22.50
Debtor Turnover Ratio
9.6 times
8.3 times
7.5 times

Interpretation :
This ratio indicates the speed with which debtors are being converted or
turnover into sales. The higher the values or turnover into sales. The higher th
e values of debtors turnover, the more efficient is the management of credit. Bu
t in the company the debtor turnover ratio is decreasing year to year. This show
s that company is not utilizing its debtors efficiency. Now their credit policy
become liberal as compare to previous year.
4. average collection period :
Average Collection Period = No. of Working Days
Debtors Turnover Ratio
The average collection period ratio represents the average number of days for wh
ich a firm has to wait before its receivables are converted into cash. It measur
es the quality of debtors. Generally, shorter the average collection period the
better is the quality of debtors as a short collection period implies quick paym
ent by debtors and vice-versa.
Average Collection Period = 365 (Net Working Days)
Debtors Turnover Ratio
Year
2006
2007
2008
Days
365
365
365
Debtor Turnover Ratio
9.6
8.3
7.5
Average Collection Period
38 days
44 days
49 days

Interpretation :
The average collection period measures the quality of debtors and it h
elps in analyzing the efficiency of collection efforts. It also helps to analysi
s the credit policy adopted by company. In the firm average collection period in
creasing year to year. It shows that the firm has Liberal Credit policy. These c
hanges in policy are due to competitor s credit policy.
5. Working capital turnover ratio :
Working capital turnover ratio indicates the velocity of utilization of net work
ing capital. This ratio indicates the number of times the working capital is tur
ned over in the course of the year. This ratio measures the efficiency with whic
h the working capital is used by the firm. A higher ratio indicates efficient ut
ilization of working capital and a low ratio indicates otherwise. But a very hig
h working capital turnover is not a good situation for any firm.
Working Capital Turnover Ratio = Cost of Sales
Net Working Capital

Working Capital Turnover = Sales

Networking Capital

e.g.
Year
2006
2007
2008
Sales
166.0
151.5
169.5
Networking Capital
53.87
62.52
103.09
Working Capital Turnover
3.08
2.4
1.64

Interpretation :
This ratio indicates low much net working capital requires for sales.
In 2008, the reciprocal of this ratio (1/1.64 = .609) shows that for sales of Rs
. 1 the company requires 60 paisa as working capital. Thus this ratio is helpful
to forecast the working capital requirement on the basis of sale.
Inventories
(Rs. in Crores)
Year
2005-2006
2006-2007
2007-2008
Inventories
37.15
35.69
75.01

Interpretation :
Inventories is a major part of current assets. If any company wants to ma
nage its working capital efficiency, it has to manage its inventories efficientl
y. The graph shows that inventory in 2005-2006 is 45%, in 2006-2007 is 43% and i
n 2007-2008 is 54% of their current assets. The company should try to reduce the
inventory upto 10% or 20% of current assets.
Cash bnak balance :
(Rs. in Crores)
Year
2005-2006
2006-2007
2007-2008
Cash Bank Balance
4.69
1.79
5.05

Interpretation :
Cash is basic input or component of working capital. Cash is needed to ke
ep the business running on a continuous basis. So the organization should have s
ufficient cash to meet various requirements. The above graph is indicate that in
2006 the cash is 4.69 crores but in 2007 it has decrease to 1.79. The result of
that it disturb the firms manufacturing operations. In 2008, it is increased up
to approx. 5.1% cash balance. So in 2008, the company has no problem for meeting
its requirement as compare to 2007.
debtors :
(Rs. in Crores)
Year
2005-2006
2006-2007
2007-2008
Debtors
17.33
19.05
25.94

Interpretation :
 Debtors constitute a substantial portion of total current assets. In Indi
a it constitute one third of current assets. The above graph is depict that ther
e is increase in debtors. It represents an extension of credit to customers. The
reason for increasing credit is competition and company liberal credit policy.

current assets :
(Rs. in Crores)
Year
2005-2006
2006-2007
2007-2008
Current Assets
81.29
83.15
136.57

Interpretation :
This graph shows that there is 64% increase in current assets in 2008. Th
is increase is arise because there is approx. 50% increase in inventories. Incre
ase in current assets shows the liquidity soundness of company.

current liability :
(Rs. in Crores)
Year
2005-2006
2006-2007
2007-2008
Current Liability
27.42
20.58
33.48

Interpretation :
Current liabilities shows company short term debts pay to outsiders. In 2
008 the current liabilities of the company increased. But still increase in curr
ent assets are more than its current liabilities.

net wokring capital :

(Rs. in Crores)
Year
2005-2006
 2006-2007
2007-2008
Net Working Capital
53.87
62.53
103.09

Interpretation :
Working capital is required to finance day to day operations of a firm. T
here should be an optimum level of working capital. It should not be too less or
not too excess. In the company there is increase in working capital. The increa
se in working capital arises because the company has expanded its business.

RESEARCH METHODOLOGY
The methodology, I have adopted for my study is the various tools, which basical
ly analyze critically financial position of to the organization:

I. COMMON-SIZE P/L A/C

II. COMMON-SIZE BALANCE SHEET
III. COMPARTIVE P/L A/C
IV. COMPARTIVE BALANCE SHEET
V. TREND ANALYSIS
VI. RATIO ANALYSIS

The above parameters are used for critical analysis of financial position. With
the evaluation of each component, the financial position from different angles
is tried to be presented in well and systematic manner. By critical analysis wit
h the help of different tools, it becomes clear how the financial manager handle
s the finance matters in profitable manner in the critical challenging atmospher
e, the recommendation are made which would suggest the organization in formulati
on of a healthy and strong position financially with proper management system.
I sincerely hope, through the evaluation of various percentage, ratios and compa
rative analysis, the organization would be able to conquer its in efficiencies a
nd makes the desired changes.

ANALYSIS OF FINANCIAL STATEMENTS

FINANCIAL STATEMENTS:
Financial statement is a collection of data organized according to logical and c
onsistent accounting procedure to convey an under-standing of some financial asp
ects of a business firm. It may show position at a moment in time, as in the cas
e of balance sheet or may reveal a series of activities over a given period of t
ime, as in the case of an income statement. Thus, the term financial statements ge
nerally refers to the two statements
(1) The position statement or Balance sheet.
(2) The income statement or the profit and loss Account.
OBJECTIVES OF FINANCIAL STATEMENTS:
According to accounting Principal Board of America (APB) states
The following objectives of financial statements: -
1. To provide reliable financial information about economic resources and obliga
tion of a business firm.
2. To provide other needed information about charges in such economic resources
and obligation.
3. To provide reliable information about change in net resources (recourses less
obligations) missing out of business activities.
4. To provide financial information that assets in estimating the learning poten
tial of the business.
LIMITATIONS OF FINANCIAL STATEMENTS:
Though financial statements are relevant and useful for a concern, still they do
not present a final picture a final picture of a concern. The utility of these
statements is dependent upon a number of factors. The analysis and interpretatio
n of these statements must be done carefully otherwise misleading conclusion may
be drawn.
Financial statements suffer from the following limitations: -
1. Financial statements do not given a final picture of the concern. The data gi
ven in these statements is only approximate. The actual value can only be determ
ined when the business is sold or liquidated.
2. Financial statements have been prepared for different accounting periods, gen
erally one year, during the life of a concern. The costs and incomes are apporti
oned to different periods with a view to determine profits etc. The allocation o
f expenses and income depends upon the personal judgment of the accountant. The
existence of contingent assets and liabilities also make the statements imprecis
e. So financial statement are at the most interim reports rather than the final
picture of the firm.
3. The financial statements are expressed in monetary value, so they appear to g
ive final and accurate position. The value of fixed assets in the balance sheet
neither represent the value for which fixed assets can be sold nor the amount wh
ich will be required to replace these assets. The balance sheet is prepared on t
he presumption of a going concern. The concern is expected to continue in future
. So fixed assets are shown at cost less accumulated deprecation. Moreover, ther
e are certain assets in the balance sheet which will realize nothing at the time
of liquidation but they are shown in the balance sheets.
4. The financial statements are prepared on the basis of historical costs Or ori
ginal costs. The value of assets decreases with the passage of time current pric
e changes are not taken into account. The statement are not prepared with the ke
eping in view the economic conditions. the balance sheet loses the significance
of being an index of current economics realities. Similarly, the profitability s
hown by the income statements may be represent the earning capacity of the conce
rn.
5. There are certain factors which have a bearing on the financial position and
operating result of the business but they do not become a part of these statemen
ts because they cannot be measured in monetary terms. The basic limitation of th
e traditional financial statements comprising the balance sheet, profit & loss A
/c is that they do not give all the information regarding the financial operatio
n of the firm. Nevertheless, they provide some extremely useful information to t
he extent the balance sheet mirrors the financial position on a particular data
in lines of the structure of assets, liabilities etc. and the profit & loss A/c
shows the result of operation during a certain period in terms revenue obtained
and cost incurred during the year. Thus, the financial position and operation of
the firm.

FINANCIAL STATEMENT ANALYSIS

It is the process of identifying the financial strength and weakness of a firm f
rom the available accounting data and financial statements. The analysis is done
CALCULATIONS OF RATIOS
Ratios are relationship expressed in mathematical terms between figures, which a
re connected with each other in some manner.

CLASSIFICATION OF RATIOS
Ratios can be classified in to different categories depending upon the basis of
classification
The traditional classification has been on the basis of the financial statement
to which the determination of ratios belongs.

These are:-
· Profit & Loss account ratios
· Balance Sheet ratios
· Composite ratios
Project Description :
Title : Working Capital Management of ____________
Pages : 73
Category : Project Report for MBA
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