2 What is Working Capital ? Funds required to acquire current assets to enable business/industryto operate at the expected levels.
3 CONCEPTS OF WORKING CAPITAL GROSS WORKING CAPITAL = CAThese are in the system used/ consumed on a day to day basis.NET WORKING CAPITAL = CA – CLOR(SHF + TL) – (NFA + NCA)NWC is the entrepreneur's margin available in the system from Long term Funds
4 What are Current Assets ? Assets which normally get converted into cash during the operating cycle of the firm.Cash & Bank balancesInventoryReceivablesAdvances to suppliers/othersOther Current assets
5 What are Working Capital Sources? Own fundsBank borrowingsSundry CreditorsAdvances from customersDeposits due in a yearOther current liabilities
6 OPERATING CYCLE Stages: Raw materials (RM/RM consumption) …...begins with acquisition of raw materials and ends with collection of receivables.Stages:Raw materials (RM/RM consumption)Work-in-process (WIP/COP)Finished Goods (FG/COS)Receivables (Debtors/Credit sales)Less:Creditors (creditors/purchases)
7 Length of Operating Cycle CashCashCashServiceIndustryReceivablesTradeReceivablesRaw MaterialFinished GoodsReceivablesStocksSemi Finished Goods
8 FACTORS INFULENCING WORKING CAPITAL REQUIREMENT Nature of business – service/trade/manufacturing.Seasonality of operations – peak/non peakProduction Policy – Constant/seasonalMarket conditions- competition/credit termsConditions of supply of RM/stores/spares etc.Quantum of production/Turnover(level of activity)Operating CycleCurrent Assets to be maintained
9 DATA TO BE OBTAINEDApplication.Financial Statements of Previous yearsEstimates/ Projections (with quantitative details)
10 Working Capital Finance A) Fund BasedInventory finance andBill Finance ( Post Sales Finance).B) Non Fund BasedLetter of Credit (LC)Bank Guarantee.
11 Assessment Methods Operating Cycle Method Drawing Power Method. Service SectorTradersManufacturing Activity.Drawing Power Method.Turnover Method.
12 …. Assessment MethodsMPBF method (II method of lending) for limits of Rs 6.00 crores and aboveCash Budget method(Reason: Based on procurement and cash inflow)Seasonal Industries (Sugar/ Rice Mills/Textiles/Tea/Tobacco/Fertilizers)Contractors & Real Estate DevelopersEducational Institutions
13 Operating Cycle Method Working capital requirementOperating expensesNo. of operating cycles in a year
14 Operating Cycle Method A. Length of operating Cyclea. Procurment of Raw Material30 daysb. Conversion / Process time15 daysc. Average time of holding of FGd. Average Collection Periode.Operating Cycle (a+b+c+d)90 daysf. Operating Cycle in a year (365days/e)4 cycle
15 …..Operating Cycle Method B. Total Operating Expenses perAnnumRs lakhsC. Total Turnover per AnnumRs lakhsD. Working Capital Requirement= Total Operating Expenses (B)/ No. of operating Cycle (f as said earlier)Rs 15 lakhs
16 Drawing Power Method (for units with small limits) (Rs.in lacs)ParticularsStock valueMarginDPPaid stocks (RM-Creditors)425%3Semi Finished goods50%2Finished goodsBook debtsTotal1610
17 Applicable for limits upto Rs.6 crores Turnover Method (originally suggested by Nayak Committee for SSI units)Applicable for limits upto Rs.6 croresASales TurnoverB25% of sales TurnoverC5% of Sales Turnover projected as marginDActual NWC existing as per Last Financial StatementEB – CFB – DGMPBF (E or F whichever is less)HAdditional margin to be brought in (C-D)
18 MPBF Method Tandon’s II method of lending) Current AssetsBCurrent Liab. other than Bank BorrowingsCWorking Capital gap (A-B)DMinimum Stipulated NWC(25% of CA excluding export receivables)EActual/projected NWCFC – DGC – EHMPBF (F or G whichever is less)IExcess borrowings/short fall in NWC (D-E)
19 Justifications of the Performance Projection (Inventory/Receivable Norms – Comparison)Intra firm ComparisonComparison of estimates with previous years Actuals.For New UnitsComparison of estimates with similar units in the area of operation.Higher projections shall be justified.
20 MPBF Method Tandon’s II method of lending) Excess borrowing ( short fall in NWC ) shall be ensured by additional funds to be brought in by the applicant or by additional bank finance over MPBF.
21 Important Aspects of MPBF method Production/Sales estimatesProfitability estimatesInventory/receivables normsBuild up of Net Working Capital
22 Peak deficit is financed and drawings regulated by monthly budgets Cash BudgetStatement showing forecast of cash receipts, cash payments and net cash balance over a period of timeMonths->Cash ReceiptsCash PaymentsSurplus/deficitCash credit – OBCash credit - CBPeak deficit is financed and drawings regulated by monthly budgets
23 Cash Budget Advantages: Suitable for seasonal industries, contractors, softwareexporters etc.Limitations:Will not reflect changes in various current assets andliabilities.Will it give a clue whether a company is earningprofit or not.Funds flow statement is required to detect any diversion of funds.
24 BIFURCATION OF FUND BASED LIMITS Inventory: OCC/KCC/PC/COD/SODBills : CBP/DBP/SBP/FBPCUBD/DUBD/FUBDInventory LimitA. Total InventoryB. CreditorsC. MarginD. Paid Inventory (A-B)E. Inventory Limit ( D-C)(Cont…)
25 ….BIFURCATION OF FUND BASED LIMITS Bills /Book Debts LimitReceivables/ Sundry DebtorsMarginBills Limit ( A-B).Loan delivery system (FB W/C limits ofRs.10 crores & above from banking system)Cash Credit - 20%Demand Loan – 80%
26 Loan Delivery SystemObjectivesLoan delivery system (FB W/C limits ofRs.10 crores & above from banking system)Cash Credit - 20%Demand Loan – 80% Domestic Credit portion to be bifurcated into loan component and Cash CreditRelaxation.
27 Bill Finance -Post Sales Finance (For Genuine Trade & Manufacturing Transactions) DBPs : Bills of Exchange accompanied with ; I) Invoice andii) Documents of title of the Goods - LRS/RRSDUBD : Invoice /LRS / RRS – Maximum Tenor 180 daysCUBD : Bill of Exchange / Promissory Notes.- Eligibility Carved out of MPBFExport Bills : FBP/FUBD- Security – Export Documents drawn against confirmed orders / LCs.
28 …Bill Finance -Post Sales Finance (For Genuine Trade & Manufacturing Transactions) Book Debts Finance :Service Industry / ContractorsMargin 50%Age not more than 90 daysCollateral Security – 200% Urban / Semi Urban Security.
29 Non Fund Based Limits Letter of credit ILC/FLC Bank Guarantee Usance/SightBank GuaranteePerformanceFinancial – Bid Bonds/Security Deposits/Mobilisation advance/retention moneyDeferred Payment Guarantee
30 LC Assessment 1 Annual purchase/import FLC/ILC 2 Out of (1) on credit basis3Out of (2) on usance LC basis4Average of (3) per month5Lead time (no. of months)6Usance period (no. of months)7Usance LC requirement (5+6) X (4)
31 Guidelines to be followed For constituents borrowers with regular sanctioned credit facilities for genuine transactions.LCs shall not be opened with clause without recourse to drawer.Bank Guarantees:Performance and Financial GuaranteesPurpose / DifferenceSecurity: Cash Margin +Counter Guarantee +Collateral Security (Immovable / Liquid Security)Restrictive Clause.
32 Important Ratios Current Ratio (CA/CL) Adjusted Current Ratio (norm – 1.15 upto Rs.6 crores/1.33 for above)Adjusted Current Ratio(reduce export bills discounted from BB & CA)Total debt equity (TOL/TNW)(Maximum norm : 6)
33 Gearing Ratio (for NFB Limits) Maximum Norm:10Total Outside Liabilities + 100% of NFB LimitsNet Worth – (NCA+Investments in associate concerns)Notes: TOL (excluding Sundry creditors representing stocks procured under LC/BG andmobilisation advance outstanding against BGs)NW (excluding Intangible Assets)NCA (excluding advances given for capital goods for business purpose)
34 Exposure Norms for some Categories CategoryCeiling on borrowingsConstructions contractorsFB + NFB limits shall not exceed 15 times net owned fundsHousing Finance InstitutionsBorrowings shall be restricted to 3 times the net owned funds