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WORKING CAPITAL MANAGEMENT

INVOLVES THE MANAGEMENT AND CONTROL OF THE

GROSS CURRENT ASSETS[ AS AGAINST THE NET

WORKING CAPITAL.

WORKING CAPITAL MANAGEMENT THUS COMPRISES THE

MANAGEMENT OF ALL THE COMPONENTS OF CURRENT

ASSETS, BOTH INDIVIDUALLY AND COLLECTIVELY.

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WORKING CAPITAL MANAGEMENT

Goal of wo!"#$ %a&"'al (a#a$)()#'

Wo!"#$ %a&"'al (a#a$)()#' "#*ol*)+ '))la'"o#+"& -)'w))# a f"(+ +o'/')( a++)'+ a#0"'+ +o'/')( l"a-"l"'")+. T) $oal of wo!"#$ %a&"'al(a#a$)()#' "+ 'o )#+1) 'a' a f"( "+ a-l) 'o%o#'"#1) "'+ o&)a'"o#+ a#0 'a' "' a+ +1ff"%")#'a-"l"'2 'o +a'"+f2 -o' (a'1"#$ +o'/')( 0)-' a#01&%o("#$ o&)a'"o#al )3&)#+)+. T) (a#a$)()#' of

wo!"#$ %a&"'al "#*ol*)+ (a#a$"#$ "#*)#'o")+,a%%o1#'+ )%)"*a-l) a#0 &a2a-l), a#0 %a+.

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CURRENT ASSETS

1 Cash and bank balances

2 Investments( marketable securities)

!"vernment # "ther Trusteesecurities "ther than $"r l"n% term&ur&"ses e' sinkin% $und !ratuit $d

* +i'ed de&"sits ,ith banks maturin%

,ithin "ne ear)- Receivables arisin% "ut "$ sales

"ther than de$erred receivables

(includin% bills &urchased and

disc"unted b bankers).

Installments "$ de$erred receivables

due ,ithin "ne ear

/ Ra, materials and c"m&"nentsused in the &r"cess "$manu$acturin% includin% th"se intransit.

0 St"ck in &r"cess includin% semi$inished %""ds

+inished %""ds includin% %""ds intransit

3ther c"nsumable s&ares

14 Advance &ament $"r ta'

11 5re&aid e'&enses12 Advances $"r &urchase "$ ra,

materials c"m&"nents andc"nsumable st"res

1* 6e&"sits ke&t ,ith &ublic b"dies etc$"r n"rmal business "&erati"n e'earnest m"ne de&"sits ke&t bc"nstructi"n c"m&anies etc maturin%

,ithin n"rmal "&eratin% ccle1- 7"ne receivable $r"m c"ntracted sale

"$ $i'ed asset durin% the ne't 12m"nths

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THE BASIC OB4ECTIVE OF WORKING CAPITAL

MANAGEMENT IS TO MANAGE THE FIRM5S

CURRENT ASSETS 6AND CURRENT LIABILITIES7 IN

SUCH A WAY THAT A SATISFACTORY LEVEL OF

WORKING CAPITAL IS MAINTAINED.

389ECTI:E 3+ ;C7

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FACTORS DETERMINING WORKING CAPITAL

RE8UIREMENTS OF A FIRM

1 Nature "r Character "$8usiness< Industr

2 Si=e "$ 8usiness

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-Share Capital-Long term loan

-Debentures

-Factoring

-Sundry Creditors--Bills/Notes payable

And others

Negotiated sourcesSpontaneous sources

-Retained profit-ro!ision for

depreciation

-Ban" #D/CC-$rade deposits-ublic deposits

-Bills discounting

-Short term loans

-Commercial paper

Long termSources

Short termsources

-ro!ision for

ta%

-ro!ision for

di!idend

&%ternal'nternal

&%ternal'nternal

Sources of

(or"ing capital

$rade Credit

F'NANC'N) *'+ #F (#R,'N) CA'$AL

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S53NTANE3US S3URCE 3+ +INANCE

+INANCE ;?IC? NATURA>>@ ARISE IN T?E

C3URSE 3+ 8USINESS IS CA>>E6 AS

S53NTANE3US +INANCIN!.EA75>ES ARE

TRA6E CRE6IT3RSCRE6IT +R37 E75>3@EES

CRE6IT +R37 SU55>IERS 3+ SER:ICES

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NE!3TIATE6 +INANCIN!

+INANCIN! ;?IC? ?AS T3 8E NE!3TIATE6

;IT? >EN6ERS >IBE C377ERCIA> 8ANBS +INANCIA>

INSTITUTI3NS 3R !ENERA> 5U8>IC IS CA>>E6 AS

NE!3TIATE6 +INANCIN!. T?IS BIN6 3+ +INANCIN!

7A@ 8E S?3RT TER7 IN NATURE 3R >3N! TER7.

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TRA6E CRE6IT

C3ST 3+ TRA6E CRE6IT The trade credit has n" e'&licit c"st but it is n"t c"st$ree.There are im&licit c"sts "r "&&"rtunit c"sts inv"lved in usin% trade

credit. These c"sts have t" be evaluated and c"m&ared ,ith the

e'&licit c"st "$ ne%"tiated s"urce "$ $inance t" usti$ its em&l"ment

in $inancin% ,"rkin% ca&ital reFuirements.

Credit &urchases al,as c"st m"re than cash &urchases and

the sellers incur the $"ll",in% additi"nal c"sts ,hen %""ds are s"ld

"n credit

the $unds are invested in the $"rm "$ b""k debts in ,hich e'&licit c"sts are inv"lved. the sellers incur the c"st "$ cash disc"unt i$ availed b the buers.

the sellers under%" the risk "$ bad debts and "$ten bear them.

direct c"st are incurred t" m"nit"r e'tend and c"llect "utstandin%.

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TRADE CREDIT/TERMS 9 CONDITIONS

T?E TRA6E CRE6IT IS ETEN6E6 !ENERA>>@ 3N T?E

+4>>3;IN! TER7S AN6 C3N6ITI3NS

D 7AI7U7 CRE6IT >I7IT IS SET

D CRE6IT 5ERI36

D CAS? 6ISC3UNT

D STARTIN! 6ATE

D T3 +ACI>ITATE T?E 7ANA!E7ENTGS 6ECISI3N 7ABIN!

+R37 T?E 8U@ERGS 53INT 3+ :IE; A 5R35ER

7ANA!E7ENT 53>IC@ IS CA>>E6 +3R 5>ANNIN! AN6

C3NTR3> 3+ TRA6E CRE6IT. T3 +ACI>ITATE T?E7ANA!E7ENTGS 6ECISI3N 7ABIN!.

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TECHNI8UES OF CONTROL OF TRADE CREDIT

A PROPER MANAGEMENT POLICY IS CALLED FOR PLANNING AND CONTROL OF

TRADE CREDIT. A LACKLUSTRE POLICY MAY RESULT IN USING A SOURCE WITH

AN IMPLICIT COST MUCH HIGHER THAN THE E:PLICIT COST OF A NEGOTIATEDSOURCE, THUS RUSULTING IN ERODED PROFITABILITY. TO FACILITATE

MANAGEMENT5S DECISION MAKING THE FOLLOWING FINANCIAL RATIOS ARE

USED

DTrade Credit t" t"tal current assets rati" H The l",er the rati" the better ,ill be

the liFuidit "$ the $irm.

DTrade Credit t" t"tal current liabilities rati" A hi%h rati" means increased

de&endence "n s&"ntane"us s"urces and di$$iculties in %ettin% $unds $r"m

ne%"tiated s"urce. It is a &"inter at im&endin% $inancial di$$iculties.

DTrade Credit t" sales rati" H Is use$ul $r"m the &"int "$ inter&eri"d and inter$irm

c"m&aris"ns.

D5ercenta%e chan%e in trade credit t" &ercenta%e chan%e in sales rati"This rati"

indicates the behavi"ural relati"nshi& bet,een sales and trade credit. A

Fu"tient "$ 1 si%ni$ies &r"&"rti"nate relati"nshi& bet,een the t,". The l",er

the Fu"tient the better ,ill be the mana%ement "$ trade credit.

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BANK CREDIT

8ANB CRE6IT IS T?E 5RI7AR@INSTITUTI3NA> S3URCE 3+ ;3RBIN!

CA5ITA> IN IN6IA .;3RBIN! CA5ITA>

+INANCE IS 5R3:I6E6 8@ 8ANBS IN

+I:E ;A@S

1. Cash credit

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BANK CREDIT/ Co#'0.

UN6ER CAS? CRE6ITANCE>@ UTI>ISE6 8@ T?E 83RR3;ER

AN6 N3T 3N T?E SANCTI3NE6 >I7IT.

T?IS +3R7 3+ +INANCIN! IS ?I!?>@ ATTRACTI:E T3 T?E

83RR3;ERS 8ECAUSE

1. IT IS +>EI8>E AS T?E >I7ITS ARE USUA>>@ R3>>E6 3:ER

6ES5ITE 8EIN! RE5A@A8>E 3N 6E7AN6.

2. T?E 83RR3;ER CAN ?A:E T?E +REE637 T3 6RA; T?E A73UNTIN A6:ANCE AS AN6 ;?EN REUIRE6 ;?I>E T?E INTEREST >IA8I>IT@

IS 3N>@ 3N T?E A73UNT ACTUA>> 3UTSTAN6IN!.

?3;E:ER CAS? CRE6ITANNIN!.

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BANK CREDIT / LOANS

D UN6ER T?IS ARRAN!E7ENT T?E ENTIRE A73UNT 3+

83RR3;IN! IS CRE6ITE6 T3 T?E >3AN ACC3UNT 3+ T?E

83RR3;ER 3R RE>EASE6 IN CAS?.

D T?E 83RR3;ER ?AS T3 5A@ INTEREST 3N T?E T3TA> A73UNT.

T?E >3ANS ARE RE5A@A8>E 3N 6E7AN6 3R IN 5ERI36IC

INSTA>7ENTS . T?E@ CAN A>S3 8E RENE;E6 +R37 TI7E T3

TI7E.

D AS A +3R7 3+ +INANCIN! >3ANS I75>@ A +INANCIA> 6ISCI5>INE3N T?E 5ART 3+ T?E 83RR3;ERS.

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8ANB CRE6IT8I>>S

5URC?ASE6> +INANCIN! IS INTEN6E6 T3 >INB CRE6IT ;IT? T?ESA>E AN6 5URC?ASE 3+ !336S AN6 T?US E>I7INATE T?E

SC35E

+3R 7ISUSE 3R 6I:ERSI3N 3+ CRE6IT T3 3T?ER 5UR53SES.

T?E 736US 35ERAN6I 3+ 8I>> +INANCE AS A S3URCE 3+

;3RBIN! CA5ITA> IS T?AT A 8I>> ARISES 3UT 3+ A TRA6E SA>E

5URC?ASE TRANSACTI3N 3N CRE6IT. 3N ACCE5TANCE 3+ T?E

8I>> 8@ T?E 5URC?ASER T?E SE>>ER 3++ERS IT T3 T?E 8ANB

+3R 6ISC3UNT> T?E8ANB

RE>EASES T?E +UN6S T3 T?E SE>>ER. 3N T?E 6UE 6ATE 3+

5A@7ENT T?E 8ANBER 5RESENTS T?E 8I>> T3 T?E 5URC?ASER> +3R 5A@7ENT.

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BANK CREDIT/ TERM LOAN FOR WORKING

CAPITAL;LETTER OF CREDIT

H TER7 >3ANS +3R ;3RBIN! CA5ITA> Under this

arran%ement banks advance l"ans $"r *0 ears re&aable

in earl "r hal$earl instalments.

H >ETTER 3+ CRE6IT is an indirect $"rm "$ ,"rkin% ca&ital$inancin% and banks assume "nl the risk the credit bein%

&r"vided b the su&&lier himsel$.

The 7"dus "&erandi "$ letter "$ credit is that the su&&lier

sells %""ds "n credit

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MODES OF SECURING BANK ADVANCES

HYPOTHECATION@ T3 T?E IN:EST3R

IS CA>>E6 A 6IRECT 5A5ER.

;?EN C5s ARE ISSUE6 8@ A SECURIT@ 6EA>ER+ 3+T?EIR C3R53RATE CUST37ERS T?E@ ARE CA>>E6 6EA>ER

5A5ER.

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COMMERCIAL PAPER/ADVANTAGES

D It is a sim&le instrument and hardl inv"lves an d"cumentati"n.

D It is additi"nall $le'ible in terms "$ maturities ,hich can betail"red t" match the cash $l", "$ the issuer.

D A ,ell rated c"m&an can diversi$ its sh"rt term s"urces "$

$inance $r"m banks t" m"ne market at chea&er c"st.

D The invest"rs can %et hi%her returns than ,hat the can %et $r"m

the bankin% sstem.

D C"m&anies ,hich are able t" raise $unds thr"u%h C5s have

better $inancial standin%.

D The C5s are unsecured and there are n" limitati"ns "n the end

use "$ $unds raised thr"u%h them.D As ne%"tiable

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FACTORING

FACTORING PROVIDES RESOURCES TO FINANCE RECEIVABLE AS WELL

AS FACILITATES THE COLLECTION OF RECEIVABLES. IT INVOLES THE

OUTRIGHT SALE OF RECEIVABLES AT A DISCOUNT TO FACTOR WHO

CHARGES A COMMISSION, BEARS THE CREDIT RISK ASSOCIATED WITH

THE ACCOUNTS RECEIVABLE PURCHASED BY IT AND PROVIDES FUNDS

IN ADVANCE OF COLLECTION AND THUS FINANCES RECEIVABLES

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BANK FINANCE FOR WORKING CAPITAL

TANDON COMMITTEE RECOMMENDATIONS

RBI a&&o"#')0 "# =>?@ a S'102 Go1& w"' S". P.L. Ta#0o#,

')# Ca"(a# P1#a- Na'"o#al Ba#!, a+ ') Ca"(a#. T"+ S'102

$o1& fo fa("#$ $1"0)l"#)+ fo ') follow 1& of Ba#! C)0"' %a() 'o

-) &o&1lal2 !#ow# a+ ') Ta#0o# Co(("'')).

T) RBI a%%)&')0 ') (ao )%o(()#0a'"o#+ of ')

%o(("'')) w"% +1$$)+')0 ')) ()'o0+ of wo!"#$ o1' ')(a3"(1( &)("++"-l) -a#! f"#a#%).

T) -a#!) wa+ )1")0 'o f"#a#%) o#l2 a &a' of ')

wo!"#$ %a&"'al $a& ') o') &a' wa+ 'o -) f"#a#%)0 -2 ')

-oow) fo( ') lo#$/')( +o1%)+. Wo!"#$ %a&"'al $a& "+ 0)f"#)0

a+ C1)#' A++)'+ ("#1+ %1)#' l"a-"l"'")+ )3%l10"#$ -a#!-oow"#$+. C1)#' A++)'+ w"ll -) 'a!)# a' )+'"(a')0 *al1)+ o

*al1)+ a+ &) ') Ta#0o# Co(("'')) #o(+, w"%)*) "+ low).

C1)#' A++)'+ w"ll %o#+"+' of "#*)#'o2 a#0 )%)"*a-l)+, )f))0 a+

Ca$)a-l) C1)#' A++)'+ 6CCA7 a#0 o') %1)#' a++)'+ 6OCA7. I#

*")w of '"+ a&&oa% 'o -a#! l)#0"#$ , ') %o(("'')) +1$$)+')0

')) ()'o0+ of 0)')("#"#$ ') &)("++"-l) l)*)l of -a#!-oow"#$+.

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TAN63N C377ITTEE REC377EN6ATI3NS

THE COMMITTEE SUGGESTED THE FOLLOWING THREE METHODS OFDETERMINING THE PERMISSIBLE LEVEL OF BANK BORROWINGS?>. T) (ao a)a+ %o*))0 -2 ') )%o(()#0a'"o#+ a) w))!+

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VA COMMITTEE RECOMMENDATIONS

THE VA COMMITTEE HAS E:TENDED THE CONCEPT OF NAYAK

COMMITTEE TO ALL BUSINESS ENTERPRISES, WHICH ALSO HAS

BEEN ACCEPTED AND IMPLEMENTED.

THE BORROWERL HAS TO BRING IN A MARGIN OF OF THE

PRO4ECTED TURNOVER FROM LONG TERM SOURCES AS HISCONTRIBUTION AND WOULD BE PROVIDED BY THE FINANCING

BANK. THUS THE WORKING CAPITAL LIMITS HAVE NO RELATION TO

THE CURRENT ASSETS WHICH IS A TOTAL DEPARTURE FROM

TANDON AND CHORE COMMITTEES.

IN ARRIVING AT OF THE PRO4ECTED TURNOVER AS THE

WORKING CAPITAL RE8UIREMENT, THE COMMITTEE HAS ASSUMED

AN AVERAGE OF FOUR WORKING CAPITAL CYCLES IN A YEAR.

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;3RBIN! CA5ITA> >E:ERA!E

T?E TER7 ;3RBIN! CA5ITA> >E:ERA!E RE+ERS T3 T?E

I75ACT 3+ >E:E> 3+ ;3RBIN! CA5ITA> 3N C375AN@GS5R3+ITA8I>IT@. T?E ;3RBIN! CA5ITA> 7ANA!E7ENT

S?3U>6 I75R3:E T?E 5R36UCTI:IT@ 3+ IN:EST7ENTS IN

CURRENT ASSETS AN6 U>TI7ATE>@ IT ;I>> INCREASE T?E

RETURN 3N CA5ITA> E75>3@E6. ?I!?ER >E:E>S 3+

IN:EST7ENT IN CURRENT ASSETS T?AN IS ACTUA>>@REUIRE6 7EAN INCREASE IN T?E C3ST 3+ INTEREST

C?AR!ES 3N T?E S?3RT TER7 >3ANS AN6 ;3RBIN!

CA5ITA> +INANCE RAISE6 +R37 8ANBS ETC AN6 ;I>>

RESU>T IN >3;ER RETURN 3N CA5ITA> E75>3@E6 AN6 :ICE

:ERSA.

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;3RBIN! CA5ITA> >E:ERA!E

;3RBIN! CA5ITA> >E:ERA!E 7EASURES T?ERES53NSI:ENESS 3+ R3CE +3R C?AN!ES IN

CURRENT ASSETS. IT IS ;3RBE6 8@ A55>@IN! T?E

+3R7U>A

;"rkin% ca&ital levera%e J K chan%e in R3CE K chan%e in Current Assets

Return "n Ca&ital em&l"ed i.e. R3CE J

Earnin%s 8e$"re Interest and Ta'es

T"tal Assets

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;3RBIN! CA5ITA> >E:ERA!E

The ,"rkin% ca&ital levera%e re$lects the

sensitivit "$ the return "n ca&ital em&l"ed t"

the chan%es in level "$ current assets. ;"rkin%

ca&ital levera%e ,"uld be less in the case "$ca&ital intensive units even th"u%h t"tal ca&ital

em&l"ed is the same. ;"rkin% ca&ital levera%e

e'&resses the relati"n "$ e$$icienc "$ ,"rkin%

ca&ital mana%ement ,ith the &r"$itabilit "$ thec"m&an.

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;3RBIN! CA5ITA> >E:ERA!E

;"rkin% ca&ital levera%e J C.A.

T.A H LC.A ,here

CA J Current Assets

TA J T"tal Assets

(Net $i'ed assets M Current Assets) LC.A J Chan%e in Current Assets.

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5R38>E7 1 3N ;3RBIN! CA5ITA> >E:ERA!E

D +r"m the $"ll",in% in$"rmati"n calculate the res&"nsiveness "$R3CE $"r chan%es in current assets (Rs. >akhs)

5articulars C"m&an C"m&an @

+i'ed Assets *44 244

Current Assets 244 *44

T"tal Assets 44 44

E8T 4 4

R3CE 1K

1K

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S3>UTI3N T3 T?E A83:E 5R38>E7 3N ;C>

;"rkin% ca&ital levera%e J CA < TA H L CA

C"m&an J Rs. 244 lakhs < Rs.44 lakhs H Rs. -4 lakhs J 4.-*

C"m&an @ J Rs.*44 lakhs < Rs.44 lskhs H Rs./4 lakhs J 4./2

Analsis H +r"m the ab"ve analsis it is "bserved that ,"rkin% ca&ital levera%e

is hi%her $"r C"m&an @ and there$"re it is m"re res&"nsive as c"m&ared t"

C"m&an .

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5R38>E7 2 3N ;3RBIN! CA5ITA> >E:ERA!E

+"ll",in% in$"rmati"n is %iven "$ 7ars >td ( Rs. >akhs)

+i'ed Assets *44Current Assets 244

T"tal Assets 44

The entire current assets are bein% $inanced b the bank $inance at 1/K &.a. The earnin%s

8e$"re ta' (E8T) "$ the c"m&an is Rs. 144 lakhs. The c"m&an is &lannin% t" reduce its

>evel "$ investment in current assets b Rs. 144 lakhs ,ith an e$$icient ,"rkin% ca&ital

7ana%ement. Sh", the im&act "$ chan%e in ,"rkin% ca&ital "n the c"m&anGs return "nInvestment (R3I).

(i) Calculati"n "$ R3I &ri"r t" reducti"n in Current Assets

R3I J E8T ' 144 J Rs.144 lakhs ' 144 J 24K

T"tal Assets Rs. 44 lakhs

(ii) Calculati"n "$ R3I a$ter reducti"n "$ current asses t" Rs.144 lakhs (Rs >akhs)

E8T 144Add Savin%s in interest char%es due t" restricti"n in investment in C A 1/

T"tal E8T 11/

Revised R3I J Rs.11/ lakhs < Rs-44 lakhs ' 144 J 2K . Thus ,ith the e$$icient

7ana%ement "$ ,"rkin% ca&ital b reducin% the level "$ investments in CA the c"m&an can im&r"ve

its

R3I $r"m 24K t" 2K.