Download - Working capital management
• Submit by Syed Shah Hussain Naqvi
• HND RPL in Quantity Surveying Batch 12
Working Capital Management
Capital
capital is the keynote of economic development. In this modern age, the level of economic development is determined by the proportion of capital available.
Capital (economics), A factor of production that is not wanted for itself but for its ability to help in
producing other goods.
Definition of Working Capital
Working Capital refers to that part of the firm’s capital, which is required for financing short-term or current assets such a cash marketable securities, debtors and inventories. Funds thus, invested in
current assets keep revolving fast and are constantly converted into cash and this cash flow
out again in exchange for other current assets. Working Capital is also known as revolving or
circulating capital or short-term
KINDS OF WORKING CAPITAL
WORKING CAPITAL
BASIS OF CONCEPT
BASIS OF TIME
Gross Working Capital
Net Working Capital
Permanent / Fixed
WC
Temporary / Variable
WC
Regular WC
Reserve WC
Special WC
Seasonal WC
Components of Working CapitalThe working capital cycle is made up of four
core components:Cash & Cash equivalent.
Creditors/accounts payable.Inventory/stock in hand.
Debtors/accounts receivables.
Significance of Gross WC
• Optimum investment in CA Investment in CA must be adequate CA investment should not
be inadequate or excessive inadequate WC can disturb production and can also threaten the solvency of firm , if it fails to meet its current obligation excessive investment in CA should be avoided , since it impairs firms profitability
• Financing of CA Need for WC arises due to increasing level of business activity
& it is to provided quickly some time surplus fund may arises which should be invested in Short term securities , they should not be kept idle
Significance of Net Working Capital
• Maintaining Liquidity position For maintaining liquidity position there is a need to maintain CA sufficiently in excess of CL
• Judge Financial Soundness of a firm The Net working capital helps creditors and investors to judge financial soundness of a firm
BALANCE SHEET OF ABC COMPANY AS ON 31-3-2000
Liabilities R’s Assets R’s
Equity Shares20000
0 Goodwill 20000
8% Debentures10000
0Land and Building
150000
Reserve & Surplus 50000Plant and Machinery
100000
Sundry Creditors15000
0 Inventories
Bills Payable 30000 Finished Goods 60000
Outstanding Expenses 20000 Work in process 40000
Bank Overdraft 50000 Prepaid Expenses 20000
Provision for Taxation 20000
Marketable Securities 60000
Proposed Dividend 30000 Sundry Debtors 90000
Bills Receivables 20000
Cash & Bank
Balance 90000
TOTAL65000
0 TOTAL65000
0
Difference between permanent & temporary working capital
Amount Variable Working Capitalof WorkingCapital
Permanent Working Capital
Time Permanent and temporary working capital for Stable firm
Variable Working CapitalAmount of WorkingCapital
Permanent Working Capital
Time Permanent and temporary working capital for Growing firm
• Operating cycle concept
• Maximization of share holder’s wealth of a firm is possible only when there are sufficient return from the operations
• Successful sales activity is necessary for earning profit sales do not convert into cash immediately
• There is invisible time lap between the sale of good and receipt of cash
• The time taken to convert raw material into cash is known as operating cycle
• Conversion of cash into raw material • Conversion of raw material into work in progress• Conversion of Work in progress into finished goods • Conversion of finished good into Sales ( Debtors and cash )
Operating Cycle in Manufacturing firm
Cash
RawMaterials
W I P
Finished Goods
Debtors SALES
Operating cycle of Non Manufacturing Firm
www.bcasqr.com
cash
Receivables
Stock of finished goods
Importance of Working Capital• It is important we work out the right level of
working capital you will need. If the working capital is too:– High - Business has surplus funds which are not earning a return; and – Low - May indicate that your business is facing financial difficulties.
• To Forecast the optimum working capital requirement the following formula may be used:– (Estimated cost of good sold x Operating cycle) + Desired cash balance.– Operating Cycle, O = R + W + F + D – C– Where, O = Duration of operating cycle.
R = Raw Material storage period.
W= Work-in-process period.
F = Finished Good Storage period.
D = Debtors collection period.
C = Creditors payment period.
Working Capital Financing• Fund Based:
– Cash Credit – Overdraft– Bills Discounting– Working Capital Demand Loan
• Non Fund Based:– Letter of Credit – Bank Guarantee
• Structured Product:– Factoring– Commercial Paper– Securitization of receivables– Buyers/Supplier credit.
Shah Tubes Ltd.• Among the 3 top manufacturer of the steel tubes, pipes and
hollow sections in India.• Delhi based with 5 manufacturing location at northern,
southern and western part of the India with installed capacities ½ Million MTPA.
• Despite a slowdown in the Indian economy Company has recorded a gross sales growth of 56% over 2010-11, EBIDTA growth of 26.19% and net profit growth of 13.83%.
• Intends to double production capacity to a million tonnes per annum by 2015 and generating revenues worth US$1 billion.
• Plan to increase presence in new geographies including Tier II & Tier III cities.
APL Apollo Tubes Ltd.• Among the 3 top manufacturer of the steel tubes, pipes and hollow
sections in India.• Delhi based with 5 manufacturing location at northern, southern
and western part of the India with installed capacities ½ Million MTPA.
• Despite a slowdown in the Indian economy Company has recorded a gross sales growth of 56% over 2010-11, EBIDTA growth of 26.19% and net profit growth of 13.83%.
• Intends to double production capacity to a million tonnes per annum by 2015 and generating revenues worth US$1 billion.
• Plan to increase presence in new geographies including Tier II & Tier III cities.
Working Capital CycleShah Tubes Ltd
Tubes Industry
30 Days
44 Days
60 Days 60 Days
30 Days
30 Days
40 Days
34 Days
Working Capital CycleAPL Apollo Tubes Ltd
Tubes Industry
30 Days
44 Days
60 Days 60 Days
30 Days
30 Days
40 Days
34 Days
Operating Cycle in number of days
Working Capital Cycle : No. of days F-2012 F-2011Inventory
Raw Material 14 22
Finished Goods 16 35
Debtors 44 46
Total 74 103
Creditors 34 36
Net Working Capital 40 68
Current Ratio - Analysis
Mar '12 Mar '11 Mar '10 Mar '09 Mar '080.00
0.50
1.00
1.50
2.00
2.50
3.00
3.50
4.00
4.50
5.00
3.60
4.45
2.78
3.87
3.00
As per Tondon Committee
Current Assets : Mar '12 Mar '11
Inventories 93.00 97.22
Sundry Debtors 139.89 80.68
Cash and Bank Balance 3.15 1.20
Total 236.04 179.10 Current Liabilities 65.52 40.22
Net Current Assets 170.52 138.88
75% on current assets 177.03 134.33 Less: Current Liabilities 65.52 40.22
MPBF
111.51 94.11
Analysis of Peer CompaniesKEY RATIOS SHAH Man
IndMah
Seam
OPBDIT (% of Total operating Income) 6.7% 12.7% 20.5%
OPBIT (% of Sales) 6.1% 10.4% 19.6%
PBT (% of Sales) 4.0% 8.8% 19.4%
PAT (% of Sales) 2.7% 6.0% 13.6%
Analysis of Peer Companies’ Particulars SHAH Man Ind Mah Seam
Sources Of Funds
Total Share Capital 21.3 27.6 35.3
Equity Share Capital 21.3 27.6 35.3
Share Application Money 8.3 - -
Reserves 236.9 617.3 2,724.6
Networth 266.5 644.9 2,759.8
Secured Loans 192.5 230.2 1.6
Unsecured Loans - - 29.3
Total Debt 192.5 230.2 30.9
Total Liabilities 459.0 875.2 2,790.7 Application Of Funds
Gross Block 140.8 589.8 1,502.2
Less: Accum. Depreciation 16.7 241.8 179.5
Net Block 124.1 348.0 1,322.7
Capital Work in Progress 33.9 0.9 9.9
Investments 76.8 302.5 473.6
Inventories 93.0 160.2 717.2
Sundry Debtors 139.9 298.5 362.2
Cash and Bank Balance 3.2 107.8 20.1
Total Current Assets 236.0 566.5 1,099.6
Loans and Advances 85.0 284.5 261.1
Total CA, Loans & Advances 321.1 851.0 1,360.6
Current Liabilities 87.4 557.5 366.7
Provisions 9.6 69.7 9.4
Total CL & Provisions 96.9 627.2 376.1
Net Current Assets 224.1 223.8 984.6
Total Assets 459.0 875.2 2,790.7
KEY RATIOS SHAH Man Ind
Mah Seam
Current Ratio
3.6
1.4
3.4
Holding Days
Inventory
Raw Material 14.0
18.6
94.0
Finished Goods 16.0
13.8
24.6
Sundry Debtors 44.0
63.2
54.5
Sundry Creditors34.0
132.9 31.1
Recommendation
• The company should increase its creditors cycle to 60 days as per the industry benchmark.
• The company can also look for channel financing through contractual arrangement with its present lender.
• The company has recently shown tremendous growth towards trading goods. The company should reduce its inventory through efficient supply chain management .
• The company should also explore the possibilities of factoring keeping in mind the factoring cost ( both recourse and non- recourse) vis a vis collection cost and bad debt as a percentage of sale.
• The company has improved its rating from LBBB+ to A- ( long term) as per recent ICRA rating. The company can also go for financing its working capital through commercial paper, if accessible which is available at a lower cost.
Short term Borrowings v/s Credit Period
• The Company has obtained short term obligations at around 13.6 % .
• It is very important to understand that as per the credit policy of the company it offers around 2%( 0 days) cash discount to its debtors for payment upfront.
• The company needs to make an effective credit policy to ensure that the credit period offered is not at the cost of its earnings.
• The company also needs to ensure that the implicit cost imbedded in the credit period does not exceed market rate of competitive goods.
Recommendations
• The company has exports of 273million in the recent years. The same has reduced from 334 million in previous years.
• The company can search for innovative products such as forfeiting or pre shipment or post shipment finance
• Advantages:(1) Improved liquidity.(2) Convert credit sales into cash sales.(3) Credit limit does not get blocked
Pros Cons
• Signifies efficient working capital management.
• Saving in interest expenses.• Less risk of Bad-debt• For eg. Automobile Industry
• Risk of failure to meet short-term obligation.
• May result in lower credit rating because of failure/delay in payments.
• Bank may charge higher interest rate.
• For eg. Steel Industry
Negative Working Capital