A study on Working Capital Management

@Royal Classic Group

Presented By,Syed Quaiser Hussain

Meaning of Working Capital

The capital which is required for day to day routine activities like payment of wages, purchase of raw material etc. is known as working capital.

Objective of Working Capital Management

The administration of the firm’s current assets and the financing needed to support current assets.

Kinds of working Capital

Kinds of

Working Capital

On the basis of Concept

Gross Working Capital

Net Working Capital

On the basis ofTime

Permanent Working Capital

Regular working Capital

Reserve working Capital

Temporary Working Capital

Seasonal Working Capital

Special Working Capital

Graphic presentation of Working Capital

Time

Am

ou

nt

of

work

ing

cap

ital

Am

ou

nt

of

work

ing

cap

ital

Time

Permanent or Fixed working capital

Temporary or Variable Working Capital

Temporary or Variable Working Capital

Permanent or Fixed working capital

Working Capital Cycle

Factors affecting working capital

1. Nature of Business2. Size of Business3. Production Policy4. Manufacturing process5. Seasonal Variations6. Credit policy7. Rate of Growth of Business8. Price level changes9. Rate of stock turnover10. Working capital cycle

Factors affecting estimation of

working capital

1. Total cost incurred on material, wages, overheads.

2. The length of time for which raw material are to remain in

stores before they are issued to production.

3. The length of production cycle.

4. The average debt- collection period

5. The amount of cash required to pay day – to – day expenses.

6. The average debt payment period.

7. Time lag in the payment of wages and other expenses.

8. The average amount of cash required to make advance

payments.

Determining the working capital financing mix

Sources of

Long- term/ Fixed/

Permanent Working Capital

1. Shares

2. Debentures

3. Public Deposits

4. Retained Earnings

5. Long term Loans from Financial Institution

Sources of

Temporary/Variable/

Short-term Working Capital

1. Indigenous Bankers2. Trade Credit3. Advances4. Factoring5. Accrued Expenses6. Deferred Incomes7. Commercial Paper8. Commercial Banks

Balance SheetShort Term Items

15

Current assets 2008-09 2009-10 (Rs. in Crore)Inventories 96.42 83.10

Sundry Debtors 45.20 39.95

Cash & Bank 7.27 5.56

Loan & Advances 23.67 27.48

172.57 156.10

Current liabilitiesShort term borrowings 95.85 101.33

Trade and other payables 23.10 27.07

Other financial liabilities 0.96 1.15

Short term provisions 8.91 8.03

128.82 137.58

Turnover 292.89

Cost of goods sold 198.02

Operating Cycle

16

Purchase Resources Pay Sell on Credit Receive Cash

Inventory Conversion 103 days Receivables Conversion 50 days

Payables Period Cash Conversion Cycle

51 days 101 days Operating Cycle 152

Operating & Cash Cycle

Operating Cycle Cash Cycle

2008-09 198.24 132.16

2009-10 152.79 101.16

10

30

50

70

90

110

130

150

170

190

2008-09

2009-10

Days

ANALYSIS OF WC

Ratio Analysis

FundsFlowAnalysis

WorkingCapitalBudget

Ratio Analysis It is a simple arithmetical expression of one number to another. The

technique of ratio analysis can be employed for measuring short term liquidity or working capital position of the firm. The following ratios may be calculated for this purpose:-

Current ratio. Acid test ratio. Inventory turnover ratio. Receivables turnover ratio. Payables turnover ratio. Working capital turnover ratio. Debt-Equity Ratio. Return on Investment. Gross Profit Ratio. Net Profit Ratio.

Liquidity Ratios

Current Ratio

Quick Ratio

0

0.2

0.4

0.6

0.8

1

1.2

1.4

1.6 1.33

1

1.44

0.630000000000003

1.2

0.56

Industrial Standard 2008-09 2009-10

Activity Ratios

2008-09

2009-10

0

1

2

3

4

5

6

Industrial Average

Inventory Turnover

66

2.713.52

Debtors Turnover Ratio

2008-09

2009-10

0

1

2

3

4

5

6

7

8

Industrial Average

Debtors Turnover

6

6

5.77

7.33

Creditors Turnover Ratio

2008-09

2009-10

5.2

5.3

5.4

5.5

5.6

5.7

5.8

5.9

6

6.1

6.2

Industrial Average

Creditors Turnover

6

6

5.52

6.12

Working Capital Turnover Ratio

2008-09

2009-10

0

1

2

3

4

5

6

7

8

Industrial Average

Working Capital Turnover

88

3.46

7.46

Credit Policy @ RCG

The important dimensions of a firm’s credit policy are:

Credit quality standards Credit period Cash discount Collection effort

Credit Assessment

Considering Following ratios decision can be made on the financial strength of the company

MDA (Multiple Discriminant Analysis) - The Z score Model

Z-Test: The Edward Altman Z score: This method uses the following combination of a set of 5 financial ratios. This score uses statistical techniques to predict a company's probability of failure using the following variables from a company's financial statements.

The above ratios calculated are then multiplied by the weighs and the results are added together as follows:

Z-Score = A x 3.3 + B x 0.999 + C x 0.6 + D x 1.2 + E x 1.4Z-Score = A x 3.3 + B x 0.999 + C x 0.6 + D x 1.2 + E x 1.4

Where, A, B, C, D, E are the results of five ratios calculated:

The Interpretation of Z score:

Z-SCORE above 3.0 - On the basis of financial figures the Company is safe Z-SCORE between 2.7 and 2.99 - This is a range where one should be cautious Z-SCORE between 1.8 and 2.7 - This is a range where there are good chances for the company going bankrupt within 2 years of operations from the date on which the financial figures were given. Z-SCORE BELOW 1.80 - There is a very high probability of financial embarrassment.

Z-SCORE above 3.0 - On the basis of financial figures the Company is safe Z-SCORE between 2.7 and 2.99 - This is a range where one should be cautious Z-SCORE between 1.8 and 2.7 - This is a range where there are good chances for the company going bankrupt within 2 years of operations from the date on which the financial figures were given. Z-SCORE BELOW 1.80 - There is a very high probability of financial embarrassment.

Debtors management @ RCG

There are 132 debtors for the financial year ending 31st march 2010 with an outstanding amount of 39.95crores. The total debtors are classified into 4 main segments:

ExportersMBO-DistributorsUrban Retail DivisionOthers

The preference of the security from debtors at RCG diagrammatically shown below:

Open Credit

Post dated cheque

Letter of Credit

Bank Guarantee

Receivable Purchases

Cash Sales

Short term financing @ RCG Channel Financing:   Discounting of Bills drawn by a company and in favour of the company’s Dealers / Distributors To provide Overdraft facility to the dealers / distributors who have business dealings with large Corporate. Receivable Purchase Financing: Under this financing the company discounts it receivables with the

banks. On maturity of these receivables the company collects the amount from these debtors and pays it to the bank.

Export Financing: Under this financing also the company discounts it receivables with the banks but

these receivables are not backed up by the Insurance Company. On maturity of these receivables the company collects the amount from these debtors and pays it to the bank.

The banks that the company has collaborated for channel financing are the Corporation bank and the ICICI while for receivable purchase the company has collaboration with Axis bank & ICICI bank. The bank discounts the purchases with the prevailing interest rates for the amount and the maturity period. The maximum period that the company has agreed with the banks for due dates of the receivables is 90 days.

Recommendation to the Company of my study

Conversion of open credit customers to bank financed customers

Factoring without recourse Factoring/discounting backed by Insurance companies Credit Assessment: The financial numbers of private

companies may not be reliable. Thus the company should use other parameters also to determine the credit scoring of a debtor. The parameters often used for credit rating are customer’s profile, its market share, technology standards, capital investment, credit history and ability to pay debts on time.

Securitization from open credit customers

Conclusion On comparison of the financial information of the Royal

Classic Group for the year ended March 2009 & March 2010, during the time of slowdown of the economy the sales of the company was deteriorated there was increase in outstanding amount of debtors which is improved debtors has decreased by 13.14% and company has recorded growth in sale by 12%, the company has managed its operations well. The management of current assets, current liabilities and the working capital is also satisfactory. It is so because the company recorded an increase in sales and decrease in the working capital thus deleveraging by efficient management of its assets.

Limitations of the Study Credit policies of other companies: For an effective study of any subject,

comparison is very important. Thus to know the effectiveness of the credit policies of the Royal Classic Group, comparison of credit policies should be done with its competitive companies. But, the credit policy of other companies is unavailable for making comparison.

  Time: I have interacted with maximum possible members in the company to gather

as much information as possible. But as there is a shortage of time I was unable to interact with some of the members and get more information on the credit policies of the company. Also due to shortage of time, I mainly concentrated on the items of the assets side of the balance sheet during the project. Change in the items like Debtors, Inventory, Loans & Advances were more into focus than the liabilities.

  As I was at head office of domestic division I couldn’t gather much information

about export division.

Bibliography

Financial Management Theory & Practice, Prasanna Chandra Working Capital Management and Control, Principles & Practice, Satish.

B. Mathur, Working Capital management, Hrishikesh Mukherjee Management Accounting, M.Y Khan & P.K Jain Royal Classic Group Annual Report, 2008-09 & 2009-10

  Web References: www.capitaline.com www.rcg.in

Thank You