finance winter project report

7/30/2019 finance winter project report

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RESEARCH REPORTON

A STUDY ONWORKING CAPITAL AND COST OF GOODS

SOLD

OF VARIAN INDUSTRIES PVT. LTD.

KANPUR INSTITUTE OF MANAGEMENT STUDIES

(AFFILIATED TO GAUTAM BUDDHA TECHNICALUNIVERSITY, LUCKNOW)

IN PARTIAL FULLFILMENT OF THE REQUIREMENTS FOR THE

AWARD OF THE DEGREE

MASTER OF BUSINESS ADMINISTRATION

(2011-2013)

UNDER THE GUIDANCE OF

(Ms. Purnima Jaiswal)

SUBMITTED BY:


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( Paras Arora )

1171470063

MBA BATCH 2011-2013

CERTIFICATE

This is to certify that Mr. Paras Arora Roll number 1171470063, a student of MBA in

Kanpur Institute of Management Studies, has carried out the research work presented in this

Research Report titled A STUDY ONWORKING CAPITAL AND COST OF GOODS

SOLD OF VARIAN INDUSTRIES PVT. LTD. for the award of Master of Business

Administration from Gautam Buddha Technical University for the academic batch 2011-

2013 , under my guidance.

Name of the Project Guide

Ms. Purnima Jaiswal

(Assistant Professor)

HOD

Kanpur Institute of Management Studies Unnao.

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DECLARATION

I, Paras Arora , hereby declare that the project work entitled A STUDY ON WORKING

CAPITAL AND COST OF GOODS SOLD OF VARIAN INDUSTRIES PVT. LTD.

submitted towards MBA Certificate is my original work and the dissertation has not formed the

basis for award of any degree, associate ship, fellowship or any similar title to the best of my

knowledge.

Place: Unnao

Date: ( Paras Arora )

1171470063

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CONTENT

Part A: Organizational study

Sl. no Topic Page no.

1 Sectorial analysis 9

Introduction to VARIAN

Company profile

History

Values

Vision

Mission

Achievement

15

15

15

15

16

16

16

3 Products 17

4 VARIAN care program 20

5 Philosophy and human face 20

6 Quality policy 21

7 Environment ,health & safety policy 22

8 Organizational structure 23

9 Financial highlights 24

10 Swot analysis 26

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Part B: Project report

Sl. no Topic Page no

1 Executive summary 28

2 Research design

Statement of the problem

Objective of the study

Limitation of the study

Types of data collection

Data collection technique

Sample design

29

29

29

30

30

31

3 Working capital (Definition) 32

4 permanent and temporary working capital 34

5 Working capital needs of a business 35

6 Working capital cycle 36

7 Factor determining the working capital requirement 41

8 Consequences of under assessment on working capital 44

9 Consequences of over assessment on working capital 45

10 Impact of inflation on working capital requirement 45

11 Impact of double shift working capital requirement 45

12 Zero working capital 47

13 Adequate working capital 47

14 Working capital leverage 48

15 Approaches to working capital finance 49

16 Financing working capital 53

17 Committee recommendation of working capital finance 54

18 Method for estimating working capital requirement 56

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19 Inventory management 58

20 Objective of inventory management 59

21 Inventory management techniques 61

22 Receivable management 63

23 Receivable collection policy 66

24 Process of receivable management 67

25 Cash management 67

26 Effects of cash deficits 67

27 Cash budget 67

28 Method of cash flow budgeting 71

29 Cash management model 72

30 Analysis and interpretation

Types of ratio 73

31 Profitability ratio 75

32 Activity ratio 78

33 Liquidity ratio 80

34 Classification of costs 83

35 Proforma of cost sheet 86

36 Conclusion 89

37 Recommendation 90

38 Bibliography 91

39 Annexure 91-94

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PART A:

ORGANIZATIONAL STUDY

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9393 12022

25301

75304

406675

1150

6400

0

10000

20000

30000

40000

50000

60000

70000

80000

90000

8th five year plan 9th five year plan10th five year plan11th five year plan

DBT

Total S& T

SECTORIAL ANALYSIS

Indias biotechnology sector is at a crossroads. On the one hand, it must find affordable solutions

to the pressing national needs in agriculture, health and energy, but on the other, it must be

competitive enough to take advantage of the lucrative international markets. The IndianGovernment established an independent Department of Biotechnology (DBT) in the Ministry of

Science and Technology as early as 1986, much before biotechnology became a buzzword.

Government funding to the S&T sector increased by eight times from the 8th Five-Year Plan to

the 11th Five-Year Plan and support to the life sciences sector steadily increased by 16 times in

the same period As a result, a firmer foundation of life sciences and biotechnology has been

created over the years in public-funded institutions, over which a strong edifice of innovation

and enterprise could be built now. Fiscal incentives include relaxed price controls for drugs,

subsidies on capital limits, and tax holidays for R&D spending. Several State Governments (e.g.

Andhra Pradesh, Karnataka, Maharashtra, Himachal Pradesh, Uttar Pradesh, Kerala and Gujarat)

have come up with added financial (e.g. tax concessions) and policy incentives (biotech parks,

incubators of their own) to spur investment in biotechnology. DBT and other organizations have

proactively taken up a number of initiatives in creating trained human resource, institutional

infrastructure (e.g. microbial culture collections, cell and tissue lines, gene banks, laboratory

animals, facilities for oligonucleotide synthesis, etc.) and a strong research base in the country in

areas relating to agriculture and forestry, human health, animal productivity, environmental

safety

and industrial production.

11

Plan Total S&T ( in crore) DBT (in crore)

8th five year plan 9393 406





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Figure: From the 8th Five-Year Plan to the 11th Five-Year Plan, governments total S&T budget

increased by eight times and DBTs budget by 16 times.

Segments of biotechnology sector

Biopharma segment

The biopharma segment mainly concentrates on vaccines, non-vaccine therapeutics, other

novel products and contract services4. Its strong impact has been on promoting low-costcommodities and forcing a price reduction on MNC bio products.

Bio services.

Bio Services segment comprises of clinical research, contract manufacturing and contract

researches.

Bio agriculture

Bio industrial

Bio industrial Services is a contract laboratory specializing in the analysis of a variety of

products and raw materials for the Pharmaceutical industry, Veterinary Health industry,

Cosmetics and the Food and additives market.

Bio informatics

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Bioinformatics was applied in the creation and maintenance of a database to store

biological information at the beginning of the "genomic revolution", such as nucleotide

and amino acid sequences. Development of this type of database involved not only

design issues but the development of complex interfaces whereby researchers could both

access existing data as well as submit new or revised data.

Category Percentage (%)

Bio pharma 67

Bio services 15

Bio agriculture 12

Bio industrial 4

Bio informatics 2

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Bio pharma

67%

Bio services

15%

Bio agriculture

12%

Bio industrial

4%Bio informatics

2%percentage(%)

Bio pharma

Bio services

Bio agriculture

Bio industrial

Bio informatics

Figure. Chart showing the segments of biotechnology sector.

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Year Bio Pharma Bio Services Bio Agriculture Bio Industry Bio Informatics

2006-07 1790 135 110 235 70

2007-08 2752 275 130 238 80

2008-09 3570 425 330 320 100

2009-10 4768 720 598 375 120

2010-11 5973 1102 926 395 145

2011-12 6399 1572 1201 410 190

Table: Revenue generated by biotechnology sector in( crore).

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COMPANY PROFILE.

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COMPANY PROFILE

Varian, Inc. is a leading worldwide supplier of scientific instruments and vacuum technologies

for life science and industrial applications. The company provides complete solutions, including

instruments, vacuum products, laboratory consumable supplies, software, training and support

through its global distribution and support systems. Varian, Inc. employs approximately 3,500

people worldwide and operates manufacturing facilities in North America, Europe and Asia

Pacific. Varian, Inc. had fiscal year 2012 sales of $807 million, and its common stock is traded

on the NASDAQ Global Select Market under the symbol "VARI." It has been opened his

company in Kolkata since 2007 with 8 products.

History:-

Varian, Inc. was formed in 1999 when Varian Associates Inc.--a pioneer of the renowned high-

tech hotbed of Silicon Valley, California. reorganized into three independent public companies:

Varian Medical Systems Inc.; Varian Semiconductor Equipment Associates Inc.; and Varian,

Inc. Varian, Inc. operates as a leading supplier in scientific instruments, vacuum technologies,

and contract manufacturing and has 14 locations in North America, Europe, and the Pacific Rim.

The company caters to the life science, health care, semiconductor processing, and industrial

industries and has over 20,000 customers. Varian's three main business segments include

Scientific Instruments, Electronics Manufacturing, and Vacuum Technologies.

VALUES:-

Our values guide the way we do businessour customers, suppliers and employees see them in

action every day when they work with us. We believe its these values that have helped us

enable our customers to excel, and have helped us attract and retain our most valuable assetour

exceptional people.

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VISION:-

The people of Varian, Inc. enhance customers' success by devising integrated, creative solutions

to their most pressing technological and process requirements. Grounded in an unbending

commitment to Inspiring Excellence, we strive to deliver the highest quality products and

services, offering exceptional value to our customers. As a result, we create growth opportunities

for employees while working to achieve the best financial performance in our industry,

providing shareholders with an excellent return on their investment.

MISSION:-

To be the market leader by providing customer delight through excellent quality, service and

cost-effectiveness in a progressive, innovative and challenging environment. We endeavour to

provide an enriching, rewarding and environment friendly work experience to our employees in

an achievement-based, high- performance culture. We will provide maximum satisfaction to all

our stakeholders.

Achievement:-

2012 Number 12 in the Business Week50 listing of best performing public corporations

2011 Number 14 in the Business Week50 listing of best performing public corporations

2008, 2009, 2010 named one ofIndustry Week's "50 Best Manufacturing Companies" in

the U.S.

2006 R&D 100 Award

2006 Forbes Global High Performer

2004, 2005 Forbes Platinum 400 list

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http://en.wikipedia.org/wiki/BusinessWeekhttp://en.wikipedia.org/wiki/BusinessWeekhttp://en.wikipedia.org/wiki/R%26D_100_Awardhttp://en.wikipedia.org/wiki/Forbeshttp://en.wikipedia.org/wiki/BusinessWeekhttp://en.wikipedia.org/wiki/BusinessWeekhttp://en.wikipedia.org/wiki/R%26D_100_Awardhttp://en.wikipedia.org/wiki/Forbes


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PRODUCTS

VARIAN provides leading edge tools and solutions for diverse, high growth applications in life

science and industry.

Scientific Instruments:-

Were leaders and innovators in creating solutions that solve a wide range of challenges in life

science and industry. In particular, we excel in creating high performance products, often

combining our diverse technologies and capabilities to create new ways to meet the evolving

needs of our customers. Our instruments, consumable supplies, and solutions are key tools in

bio-molecular and academic research, pharmaceutical R&D and manufacturing, and industrial

R&D and quality control, and in developing everything from disease-resistant crops to cosmetics

to testing drinking water and monitoring quality in the petrochemical industry.

Vacuum Technologies :-

We specialize in listening carefully to customer requirements and developing vacuum systems

tailored to meet each ones unique needs. We do this by leveraging our broad product range andour 50 years of fundamental expertise in vacuum technologies. Whether a customer is building a

mass spectrometer or a medical linear accelerator, a system for producing flat panel displays or

coating architectural glass, or experimenting in high-energy, physics experiment, Varian, Inc.

works alongside its customers to solve vacuum challenges.

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Chromatography:-

GC

Flexible solutions, for every application,

From portable Micro-GC to custom

Configurations.

Flash Chromatography

Automated systems improve performance and

Minimize routine tasks to increase productivity

Molecular spectroscopy:-

UV-Vis-NIR

Outstanding performance, flexibility and

Ease of use is what you expect from

The range of Varian spectrophotometers,

From routine to research applications.

FT-IR Imaging

Microscopes and imaging products

For medical, biological and industrial

Applications, with unmatched spatial

Resolution, speed and ease of use.

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Application-based consumables:-Application-Based

Drug Testing and Screening

Varian offers a range of USP-compliant

Dissolution vessels, paddles, and baskets,

All serialized for traceability.

Biotech Particles

Highly reproducible, functionalized

Magnetic, latex and custom particles for

Biotech applications, and solid phase synthesis supports.

Vacuum Technologies for Science and Industry

Primary Vacuum Dry Scroll Pumps

Consistent performance in a reliable,

dry vacuum in a small, economical

Package.

Vacuum Control

Precise, user-friendly mass

Spectrometer and ion pump leak

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Detectors are available with wireless

Remote capability.

Varian Care Program

The Varian Care Program adds value to your business by ensuring ongoing productivity.

Whether you need service, training or preventive maintenance, you need more than a skilled

technician. You need a good listener who will understand your situation and give you the best

advice and service possible. Our dedicated field support representatives and specialists take

pride in their work and are committed to ensuring you get the most from your investment. Our

goal is to help you increase your productivity, maximize your uptime and achieve the highest

return possible on your investment. Our experienced and highly qualified support organization is

strategically located throughout the world to ensure rapid response.

Philosophy & Human Face

Optimum utilization of knowledge:

The Group understand and values the power of knowledge and information .Thus, each

employee is encouraged to garner and utilize his knowledge data to optimum for intrinsic

development and orientation.

Solving problem with the 'Heart':

Emotions are strongly considered. Emotional approach is effective as rational for resolving

problems. The key is to understand the people and their reaction to increase tolerance towards

them.

Playing the Devil's Advocate:

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Using a negative point of view and playing the Devil's advocate in all aspects of decision-

making help to eliminate the week points and make the plan more robust and fool proof.

Negative thinking to a certain extent is a far- sighted technique for positive outcome and helps

dilute the over-confidence aspect that might hinder the success of the plan.

Be Positive:

Optimism keeps one float. Positive thinking generates positive energy that can convert an

adverse situation into striking opportunity.

Out-of-the box thinking

Creativity fuels innovations. Thinking out of the box can result in key insights that can yield

excellent results.

Managing and control

It is the duty of people at the helm of affairs to impart a guideline when things are not clear.

They must encourage creative thinking for a solution-oriented approach and have backup plansfor adverse situations ready.

Quality Policy

VARIAN INDIA PVT LTD is committed to delight customer by implementing Total Quality

Management (TQM)

We shall achieve this by:

Providing consistent product quality at right time and price.

Effectively and efficiently utilization Man, Material and Technologies.

Developing employees by providing adequate training.

Involving and motivating all employees (TET) for continual improvement in work place

and processes.

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Environment, Health and Safety Policy

Varian India Pvt Ltd, Kolkata engaged in manufacturing and supply of aggregates and

components is committed to improved Environment, Health and Safety performance continually

through:

Prevention of pollution at all times throughout entire process of activity to give a clean

environment.

Compliance at all items with legal and other requirements applicable to environmental

aspect .

Conserving natural resources and preserving through 3 R's:

Reduce,

Recycle, and

Reuse

Imbibing awareness and participation of all personnel working under the control of the

organization at all levels through appropriate training.

Creating a safe working environment to prevent injury and ill health

Sharing information on safety hazards with all personnel working under the control of

the organization and interested party.

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Organisational structure:-

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Chairman & ManagingDirector

Director

(HR)

Director

(Finance)

Director

(Technical)

Director

(Commercials)

Director

(Operation)

Director

(Projects)

General Manager

New Delhi

General Manager

Kolkata

Executive Director

(North Region)

Executive Director

(South Region)

Executive Director

(West Region)

Executive Director

(East Region)

General Manager

Chennai , Bangalore

General Manager

Mumbai


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FINANCIAL HIGHLIGHTS:-

Sales($ in

mn*)

772.8 834.7 920.6 1012.5 806.7

Year 2008 2009 2010 2011 2012

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Profit($ in

Mn*)

1.34 2.17 2.05 1.59 3.67

year 2008 2009 2010 2011 2012

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SWOT ANLYSIS

Strengths: -

The company is not able to respond very quickly as we have no red tape, no need forhigher management approval, etc.

The company is able to give really good customer care, as the current small amount

of work means we have plenty of time to devote to customers.

The companys lead consultant has strong reputation within the market.

The company is able to change direction quickly if we find that our marketing is not

working.

The company has small overheads, so can offer good value to customers.

Weaknesses: -

The company has no market presence or reputation.

The company has a small staff with a shallow skills base in many areas.

The company is vulnerable to vital staff being sick, leaving, etc.

The companys cash flow will be unreliable in the early stages.

Lack of consistency.

Opportunities: - The companys business sector is expanding, with many future opportunities for

success.

The companys local council wants to encourage local businesses with work where

possible.

The companys competitors may be slow to adopt new technologies.

Threats:

Will developments in technology change this market beyond our ability to adapt?

A small change in focus of a large competitor might wipe out any market position

we achieves.

The consultancy might therefore decide to specialize in rapid response, good value

services to local businesses. Marketing would be in selected local publications, to get

the greatest possible market presence for where possible.

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PART B:

PROJECT REPORT

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EXECUTIVE SUMMARY

VARIAN INDIA PVT LTD is leading scientific instrument and vacuum technology

manufacturer and supplier. It was started in 1948 in California by brothers RUSSEL and

SIGURD VARIAN. VARIAN is one of the largest scientific instrument and vacuum technologymanufacturing entities in the country. The company has spread its wings to reach its customers

more effectively by setting up five branches in India. (Kolkata, Chennai, Mumbai, New Delhi,

Bangalore)

Working capital (abbreviated WC) is a financial metric which represents operating liquidity

available to a business, organization, or other entity, including governmental entity. Along with

fixed assets such as plant and equipment, working capital is considered a part of operating

capital. Net working capital is calculated as current assets minus current liabilities. It is a

derivation of working capital that is commonly used in valuation techniques such as DCFs

(Discounted cash flows). If current assets are less than current liabilities, an entity has a working

capital deficiency, also called a working capital deficit.

Working Capital = Current Assets

Net Working Capital = Current Assets Current Liabilities

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http://en.wikipedia.org/wiki/Accounting_liquidityhttp://en.wikipedia.org/wiki/Current_assetshttp://en.wikipedia.org/wiki/Current_liabilitieshttp://en.wikipedia.org/wiki/Accounting_liquidityhttp://en.wikipedia.org/wiki/Current_assetshttp://en.wikipedia.org/wiki/Current_liabilities


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RESEARCH DESIGN

Statement of the problem

Working capital management is concerned with the problem arise in attempting to manage the

current assets, current liabilities and interrelation between both. It operational goal is to manage

the smooth functioning of day-to- day operation of an organization.

Objective of the Study

The objectives of the study are:

1. To know how the working capital requirement of the organisation are managed

2. To know the importance and requirement of working capital management for the

smooth functioning of the organisation.

3. To study the working capital components such as receivables accounts, cash

management, Inventory position

4. To recommend any changes, if required.

Limitations of the study

Following limitations were encountered while preparing this project:

1) Limited data: - This project has completed with annual reports; it just constitutes one

part of data collection i.e. secondary. There were limitations for primary data collection

because of confidentiality.

2) Limited period: - This project is based on five year annual reports. Conclusions and

recommendations are based on such limited data. The trend of last five year may or may

not reflect the real working capital position of the company

3) Limited area: - Also it was difficult to collect the data regarding the competitors and

their financial information. Industry figures were also difficult to get.

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Types of data collection

There are two types of data collection methods available.

1. Primary data collection:- The data which is collected fresh or first hand, and for first timewhich is original in nature. Primary data can collect through personal interview,

questionnaire etc. to support the secondary data.

2. Secondary data collection:- The secondary data are those which have already collected

and stored. Secondary data easily get those secondary data from records, journals, annual

reports of the company etc. It will save the time, money and efforts to collect the data.

Secondary data also made available through trade magazines, balance sheets, books etc.

This project is based on primary data collected through personal interview of head ofaccount department, head of SQC department and other concerned staff member of finance

department. But primary data collection had limitations such as matter confidential

information thus project is based on secondary information collected through five years

annual report of the company, supported by various books and internet sides. The data

collection was aimed at study of working capital management of the company.

The data required for the study was taken from the Finance department; some of the data

were also taken from the sales department and purchase department. Thus all the data

collected were of secondary type and no primary data was taken and used. Some of the

employees were interviewed to know about the prevailing, which helped to great extent in

making decisions about the importance of the items.

Data collection technique

The methodology adopted to collect the primary data was Personal Interview Methods,

while at the same time secondary data are taken from company magazine.

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Sampling Design

Type of sampling:Systematic sampling to the employees

Sample size: 6

Area of sampling:Finance Dept. Varian India Pvt Ltd.

Sample collection Technique: Personal Interview

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Working Capital :-

Definition of working capital

The Capital required to run the day-to-day operation of an organization is known as WorkingCapital. It can be either gross working capital or net working Capital. Gross working capital

means the total of the all current assets whereas Net working capital means the difference

between the total Current assets and Current liabilities.

WORKING CAPITAL = CURRENT ASSETS CURRENT LIABILITIES

Currentassets are those assets which will be converted in to cash within the current accounting

period or within the next year as a result of the ordinary operation of the business. They are cash

or near cash resources. These include:

Cash and Bank balances

Receivables

Pre-Paid expenses

Short-term advances

Temporary advance

Inventory

Raw materials, stores and spares

Work-in-Progress

Finished goods

The value represented by these assets circulates among several items. Cash is to buy raw

materials, to pay wages to meet others manufacturing expenses. Finished goods are produced.

These are held as inventories. When these are sold, accounts receivables are created. The

collections of accounts receivable bring cash into the firm. The cycle starts again

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Cash

Inventories

Receivables

Current liabilities are the debts of the firms that have to be paid during the current accounting

period or within the a year. These include:

Creditors for goods purchased

Outstanding expenses i.e., expenses due but not paid

Short-term borrowings

Advances received against sales

Taxes and Dividends payable

Other liabilities maturing within a year.

Working capital is also known as circulating capital, fluctuating capital and revolving

capital .The magnitude and composition keep on changing continuously in the course of

business.

Every business needs adequate liquid resources in order to maintain day-to-day cash flow. It

needs enough cash to pay wages and salaries as they fall due and to pay creditors if it to keep its

workforce and ensure its supplies.

Maintaining adequate working capital is not just important in the short term. Sufficient

liquidity must be maintained in order to ensure the survival of the business in the long-term as

well.

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Even a profitable business may fail if it does not have adequate cash flow to meet its liabilities as

they fall due.

Therefore, when businesses make investment decisions they must not only consider the

financial outlay involved with acquiring the new machine or the new building ,etc, but must also

take account of the additional current assets that are usually involved with any expansion of

activity.

Increased production increases need to hold more stock of raw material and work-in-progress.

Increased sales usually mean that the level of debtors will increase. A general increase in the

firms scale of operations tends to imply a need for greater levels of cash.

Permanent and Temporary Working Capital

Considering times as the basis of classification, there are two types of working capital viz,

Permanent and Temporary working capital.

Permanent working capital represents the assets required on continuing basis over the entire

year, whereas temporary working capital represents additional assets required at different times

during of the year.

A firm will finance its seasonal and current fluctuation business operation through short-termdebt financing. For example, in Peak season, more raw material to be purchased, more

manufacturing expenses to be incurred, more funds will be locked in debtors balance etc. In such

times excess requirement of working capital will be financed from short term financing

sources.

The permanent components current assets which are required throughout the year will generally

be financed from long-term debt and equity. Tandon Committee has referred to this types of

working capital as Core Current Assets.

Core current Assets are those required by the firm to ensure of operations which represents the

minimum levels of various items of current assets viz., stock of raw material, stock of work-in-

process, stock of finished goods, debtors balance, cash and bank etc. This minimum level of

current assets will be financed by the long term sources and any fluctuation etc. This minimum

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level of current assets will be financed by long term sources and any fluctuation over the level of

the current assets will be financed by the short-term financing. Sometimes core current assets are

also referred to as Hard core working capital

Temporary short term

Current Financing

assets

Rs. Long term

=

Debt

+

Equity

Capital Fixed

assets

Time.......................................

The management of working capital is concern with maximising the return to shareholder withinthe accepted risk constraints carried by the participants in the company.

WORKING CAPITAL NEEDS OF A BUSINESS

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Different industries have different optimum working capital profiles, reflecting their method of

doing business and what they are selling.

Business with a lot of cash sales and few credit sales should have minimal trade debtors.

Supermarkets are good examples of such businesses.

Business that exists to trade in completed products will only have finished goods in

stock. Compared this with manufactures who will also have to maintain stock of raw

material and work-in-progress.

Some finished goods, notably foodstuffs, have to be sold within a limited period because

of their perishable nature.

Larger companies may be able to use their bargaining strength as customers to obtain

more favourable, extended credit terms from suppliers. By contrast, smaller companies,

particularly those that have recently started trading (and do not have a record of

accomplishment of credit worthiness) may be required to pay their suppliers

immediately.

Some business will receive their monies at certain times of the year, although they my

incur expenses thought the year at a consistent level. This is often known as seasonality

of the cash flow. For example, travel agents have peak sales in the weeks immediately

following Christmas.Working Capital Cycle

Introduction

The working capital cycle can be define as:

The period of time, which elapses between the point at which cash begins to be expended on

the production of a product and the collection of cash from customer?

Cash is used to buy raw material and other stores, so cash is converted into raw material and

stores inventory. Then the raw material and stores are issued to the production department.

Wages are paid and other expenses are incurred in the process and work-in-process comes into

existence. Work in-process becomes finished goods. Finished goods are sold to customer on

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credit. In the course of time these customer pay cash for the goods purchase by them. Cash is

retrieved and the cycle is completed. Thus, working capital cycle consists of four stage.

The raw material and stores inventory stage

The work-in-progress stage

The finished goods inventory stage

The receivable.

The diagram below illustrates the working capital cycle for a manufacturing firm.

Work-In- progress

Raw material stock Finished goods stock

Wages & overheads sales

Trade creditors Trade debtors

Selling expenses

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Cash

Taxation Shareholders

Fixed assets loan Creditors

Lease payment

The upper portion of the diagram above shows in a simplified from the chain of a events in a

manufacturing firm. Each of the boxes in the upper part of the diagram can be seen as a tank

through which funds flow. These tanks, which are concerned with day-to-day activities, have

funds constantly following into and out of them.

The chain starts with the firm buying raw material on credit.

In due course, this stock to be used in production ,work will be carried out on the stock,

and it will become part of the firms work in progress( WIP)

Work will continue on the WIP until it eventually emerges as the finished product.

As production progresses, labour costs and overheads will need to be met.

Of course, at some stage trade creditors will need to be paid

When the finished goods are sold on credit, debtors are increased

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They will eventually pay, so that cash will be injected into the firm

Each of the areas stocks (raw material, work in progress and finished goods), trade

debtors, cash (positive or negative) and trade creditors-can be viewed as tanks into and

from which funds flow.

Working capital is clearly not the only aspect of a business that affects the amount of

cash:

The business will have to make payments to government for taxation

Fixed assets will be purchased and sold

Lesser of fixed assets will be paid their rent.

Shareholders (existing or new) may provide new funds in the form of cash.

Some shares may be redeemed for cash.

Dividends may be paid.

Long term loan creditors (existing or new) may provide loan finance ,loan will need to

be repaid from time to time , and

Interest obligation will have to be met be the business.

Unlike movement in the working capital items, most of this non- working capital cash

transaction is not every day events. Some of them are annual events (e.g. tax payments, lease

payment, dividends, interest and possibly, fixed assets purchase and sales). Others (e.g. new

equity and loan finance and redemption of old equity and loan finance would typically be rarer

events.

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Working capital cycle involves conversions and rotation of various constituents/components of

the working capital. Initially cash converted into raw materials.

Subsequently ,with the usages of fixed assets resulting in value additions ,the raw material get

converted into work in process and then into finished goods. When sold on credit, the finished

goods assume the form of debtors who give the business cash on due date. Thus, cash assumes

its original form against at the end of one such working capital cycle but in the course it passes

through various other forms of current assets too. This is how various components of current

assets keep on changing their forms due to value addition.

As a result, they rotate and business operation continues. Thus, the working capital cycle

involves rotation of various constituents of the working capital.

While managing the working capital, two characteristics of current assets should be kept in mind

viz.

1. Short life span

2. Swift transformation into other form of current assets.

Each constituent of current assets has comparatively very short life span. Investment remains in

a particular form of current assets for a short period. The life span of current assets depends

upon the time required in the activities of procurement, production, sales and collection and

degree of synchronisation among them. A very short life span of current assets results into swift

transformation into other form of current assets for a running business. These characteristics

have certain implication-

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i. Decision regarding management of the working capital has to be taken frequently and

on a repeat basis.

ii. The various components of the working capital are closely related and mismanagement

of any one component adversely affects the other components too.

iii. The difference between the present value and the book value of profit is not significant.

The working capital has the following components, which are in several form of current

assets:

1. Stock of cash

2. Stock of raw material

3. Stock of finished goods

4. Value of debtors

5. Miscellaneous current assets like short term investment loans & advances.

Factors Determining the working Capital Requirement

The is not set of universally applicable rules to ascertain working capital needs of a business

organisation. The factors which influence the need level are discussed below.

Nature of Enterprise :-

The nature and the working capital requirement of an enterprise are interlinked. While a

manufacturing industry has a long cycle of operation of the working capital, the same

would be short in an enterprise involved in providing service. The amount required also

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varies as per the nature; an enterprise involved in production would required more

working capital than a service sector enterprise.

Manufacturing / Production Policy:

Each enterprise in the manufacturing sectors has its own production policy, some follow

the policy of uniform production even if the demand varies from time to time, and others

may follow the principle of demand-based production in which production is based on

the demand during that particular phase of time. Accordingly, the working capital

requirement varies for both of them.

Operation:

The requirement of working capital fluctuates for seasonal business. The working capital

needs of such businesses may increase considerably during the busy season and decrease

during the slack season. Ice creams and cold drinks have great demand during summers;

while winter the sales are negligible.

Market Condition:-

If there is high competition in the chosen product category, then one shall need to offer

sops like credit, immediate delivery of goods etc, for which the working capital

requirement will be high. Otherwise, if there is no competition or less competition in the

market then the working capital requirement will be low.

Availability of Raw material :-

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If raw material is readily then one need not maintain a large stock of the same, thereby

reducing the working capital investment in raw material stock. On the other hand, if raw

material is not readily available then a large inventory/ stock needs to be maintained,

thereby calling for substantial investment in the same.

Growth and Expansion :-

Growth and expansion in the volume of business result in enhancement of the working

capital requirement. As business grows and expands, it needs a larger amount of working

capital. Normally the need for increased working capital funds precedes growth in

business activities.

Manufacturing Cycle :-

The manufacturing cycle starts with the purchase of raw material and is completed with

the production of finished goods. If the manufacturing cycle involves a longer period, the

need for working capital would be more. At times, business needs to estimate the

requirement of working capital in advance for proper control and management. The

factor discussed above influence the quantum of working capital in the business. The

assessment of working capital requirement is made keeping these factors in view. Each

constituent of working capital retains its form for a certain period and that holding period

is determined by the factors discussed above. So for correct assessment of the working

capital cycle requirement, the duration at various stages of the working capital estimated.

Thereafter, proper value is assigned to the respective current assets, depending on its

level of completion.

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Each constituent of the working capital is valued on the basis of valuation enumerated

above for the holding period estimated. The total of all such valuation becomes the total

estimated working capital requirement. The assessment of the working capital should be

accurate even in the case of small and micro enterprise where business operation is not

very large. We know that working capital has a very close relationship with day-to-day

operation of a business. Negligence in proper assessment of the working capital,

therefore, cans affect the day-to day operation severely. It may lead to cash crisis and

ultimately to liquidation. An inaccurate assessment of the working capital may cause

either under-assessment or over assessment of the working capital and both of them are

dangerous.

CONSEQUENCES OF UNDER ASSESSMENT ON THE WORKING

CAPITAL.

Due to lack of funds, payment of salaries may become irregular.

Inadequate working capital may lead to non-payment of creditors amount in time.

It will not allow the organization to produce the demanded number of items.

Growth may by stunted. It may become difficult for the enterprise to undertake profitable

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project due to non-availability of working capital.

Implementation of operating plans may become difficult and consequently the profit

goals may be achieved.

Cash crisis may emerge due to paucity of working funds.

Optimum capacity utilisation of fixed assets may not achieved due to non availability

of the working capital.

The business may fail to honour its commitment in time, thereby adversely affecting its

credibility. This situation may lead to business closure.

The business may be compelled to buy raw material on credit and sell finished goods on

cash. In the process it may end up with increasing cost of purchase and reducing selling

by offering discounts. Both these situation would affect profitability adversely.

Non-availability of stock due to non- availability of funds may result in production

stoppage.

While underassessment of working capital has disastrous implication on business, over

assessment of working capital also has its own dangers.

CONSEQUENCES OF OVER ASSESSMENT ON WORKING CAPITAL

Idle funds which will earn no profit.

It may lead to unnecessary purchase.

It may allow the change of misuse of funds.

It reduces the overall efficiency of the organization.

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Excess of working capital may result in unnecessary accumulation of inventory. It may lead to

offer too liberal credit terms to buyers and very poor recovery system and cash management. It

may make management complacent leading to its inefficiency.

Over-investment in working capital in makes capital less productive and reduces return on

investment. Working capital is very essential for success of a business and, therefore, needs

efficient management and control. Each of the components of the working capital needs proper

management to optimise profit.

IMPACT OF INFLATION ON WORKING CAPITAL REQUIREMENT.

When the inflation rate is high, it will have its direct impact on the requirement of the

working capital as explained below:

1. Inflation will cause to show the turnover figure at higher level even if there is no increase

in the quantity of sales. The higher the sales means the sales means the higher level of

balance in receivables.

2. Inflation will result in increase of raw material prices and hike in payment for expenses

and as a result, increase in balance of trade creditors and creditors for expenses.

3. Increase in valuation of closing stocks result in showing higher profit but without its

realisation into cash causing the firm to pay higher tax, dividends and bonus. Thus will

lead the firm in serious problem of fund shortage and firm may unable to meet its short-

term and long term obligation.

4. Increase in investment is current assets means the increase in requirement of working

capital without corresponding increase in sales or profitability of the firm.

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Keeping in view of the above, the finance manager should be very careful about the impact of

inflation in assessment of working capital requirement and its management.

IMPACT OF DOUBLE SHIFT WORKING CAPITAL REQUIREMENT

Working capital in double shift means requirement of raw material will be doubled and

other variable expenses will also increase drastically.

With the increase in raw materials requirement and expenses, the raw material inventory

and work-in- progress will increase simultaneously the creditors for goods and creditors

for expenses balances will also increase.

Increase in production to meet the increased demand which will also increase the stock of

finished goods. The increase in sales means increase in debtors balance.

Increase in production will result in increased requirement of working capital.

The fixed expenses will increase with the working capital on double shift basis.

Zero working capital

The idea is to have zero working capital i.e. at all times the current assets shall equal the current

liabilities. Excess investment in current assets is avoided and firm meets its current liabilities out

of the matching current assets.

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As current assets ratio 1 and the quick ratio below 1, there may be apprehension about the

liquidity, but if all current assets are performing and are accounted at their realisable values,

these fears are misplaced. The firm saves opportunity cost on excess investment current assets

and as bank cash credit limits are linked to the inventory levels, interest costs are also saved.

There would be self-imposed financial discipline on the firm to manage their activities within

their current liabilities and current assets and there may not be tendency to over borrow or divert

funds.

Adequate Working Capital

Working capital is the lifeblood of the organization. Without working capital, the functioning of

an organization will come to a halt. No business can run successfully without adequate amount

of working capital. The main advantages of adequate working capital are as follows:-

Solvency of the business

Adequate working capital helps in smooth running of the business. The generates revenue and

maintains the solvency of the organization.

Goodwill

Sufficient working capital helps to makes prompt payments to the creditors, which maintain the

goodwill of the organization.

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Easy Loan

Organizations having adequate working capital are viewed by the banks as good candidates to

offer the loan facilities.

Cash Discounts

Companies can make use of the discount facilities that come along with the repayment of the

credit.

Regular supply of Raw Material

Adequate working capital helps to make regular payment to the supplier.

Regular payment of Salaries

It helps to make regular payments of salaries to the employees, thereby keeping their moral high.

Working Capital Leverage

One of the important objectives of the working capital management is by maintaining the

optimum levels of the investment in current assets and reducing the level of current liabilities,

the company can minimise the investment in working capital thereby improvement in Return on

Capital employedis achieved. The term working capital leverage refers to the impact of level of

working capital on companys profitability. The working capital management should improve

the productivity of investment in current assets and ultimately it will increase the return on

capital employed. Higher levels of investment in current assets than is actually required mean

increase in the cost of interest charges on the short-term loans and working capital finance raised

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from banks etc, and will result in lower return on capital employed and vice versa. Working

capital leverage measures the responsiveness ofROCE for charges in current assets. It is

measured by applying the following formula.

Working Capital leverage = C. A

T.A C.A

Where,

C.A = Current assets

T.A = Total assets (i.e., Net fixed assets + Current assets)

C.A = Change in Current assets

Approaches to working Capital Finance

Every organization requires financing its working capital requirement. Generally, there are two

source of finance. One is long- term source and the other is short-term source. Long term is

considered less risky as the period is high and the amount repayment period is high and the

amount of interest is low. The short-term sources are considered risky as they have to be

repaying within a very short period and the interest rate is very high.

1. Conservative working capital Approach

A conservative approach suggests carrying high levels of current assets in relation to

sales. Surplus current assets enable the firm to absorb sudden variations in sales,

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production plans and procurement time without disrupting production plans.

Additionally, the higher liquidity levels reduce the risk of insolvency. But lower risk

translates into lower return. Larger investment in current assets leads to higher interest

and carrying costs and encouragement for inefficient. But conservative policy will enable

the firm to absorb day to day business risk. Under this approach long term financings

covers more than the total requirement for working capital. The excess cash is invested in

short term marketable securities and in need, theses securities are sold off in the market

to meet the urgent requirement of working capital.

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Secular Growth

Rs.

Long-Term

Financing

Seasonal

Variations Investment Marketable securities

Time

2. Aggressive working capital Approach

Under the approach current assets are maintained just to meet the current liabilities

without keeping any cushion for the variation in working capital needs. The core

working capitals financed by long-term sources of capital and seasonal variations are met

through short-term borrowings. Adoption of this strategy will minimise the investment in

net working capital and ultimately it lower the cost of financing working capital. The

main drawback of this approach is that it necessitates frequent financing and also

increase risk as the vulnerable to sudden shocks.

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Rs.

Seasonal

Variation Short term

Financing

Secular growth Long- term

Financing

Time

3. Matching working Capital approach

Under this approaches, manager undertake only the required amount of risk. The fixed

portion of working capital is financed from long-tem sources. Here the source of

financing is matched with the components of working capital.

Financing working capital

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Now let us understand the means to finance the working capital. Working capital or current

assets are those assets, which unlike fixed assets change their form rapidly. Due to this nature,

they need to be finance through short-term funds is also called current liabilities. The following

are the also called current liabilities. The following are the major sources of raising short-term

funds.

1. Suppliers Credit

At times, business gets raw material on credit from the suppliers. The cost of raw material is

paid after some time, i.e. upon completion of the credit period. Thus without having an outflow

of cash the business is in position to use raw material and continue the activities. The credit

given by the suppliers of raw material is for a short period and is considered current liabilities.

These funds should be used for creating current assets like stock of raw material, work inprocess, finished goods, etc.

A. Bank Loan

This is a major source for raising short-term funds. Banks extend loans to business to help

them create necessary current assets so as to achieve the required business level. The loans are

available for creating the following current assets.

Stock of raw materials

Stock of work in process

Stock of finished goods

Debtors.

Banks give short-term loans against these assets, keeping some security margin. The advances

given by banks against current assets are short term in nature and banks have the right to ask for

immediate repayment if they consider doing so. Thus, bank loans for creation of current assets

are also current liabilities.

B. Promoters Fund

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It is advisable to finance a portion of current assets from the promoters funds. They are long

term funds and therefore do not require immediate repayment. These funds increase the liquidity

of the business.

Committee Recommendation for working capital finance.

1. Tandon committee recommendation

The committee has three method of working out the maximum amount that a unit may

expect from the bank. The extent of bank finance will be more in the first method, less in

the second method and least in the third method.

First Method:-

Total Current assets : - *****

(-) Current Liabilities : - *****

(Other than long-term

Borrowing)

25% of above from

Long-term sources : - ******

Balance MPBF : - *****

MPBF: - Maximum Permissible Bank Finance

Second Method


(-) 25% of above from

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Borrowing)


Third Method


(-) Core Current assets : - *****

From long-term source

Real current assets

(-) 25% of above from




Borrowing)


*MPBF Maximum Bank Finance

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2. Chore Committee recommendation.

3. Vaz Committee recommendation.

4. Nayak Committee recommendation:-

To give preference to village industries, tiny industries and other small scale units .

For the credit requirement of village industries ,tiny industries and other SSI units up to

aggregate funds based working capital credit limits up to Rs. 50 lacs from banking

system, the norms for inventory and receivable as also the method of lending as per

Tandon Committee will not apply . instead ,for such units the working capital limit will

be computed at 20% of their projected annual turnover (for both new as well as existing

units) .These SSI units will be required to bring in 5% of their annual turnover as

margin money. In other words 25% of the output value should be computed as working

capital requirement ,of which at least 4/5th should be provide by banking sectors, the

remaining 1/5th representing borrowers contribution towards margin money for the

working capital.

Method for estimating working capital requirement.

There are three methods for estimating the working capital requirement of a firm:

1.Percentage of Sales Method :-

It is traditional and simple method of determining the level of working capital and its

components. In the method, working capital is determined on the basis of past experience. If ,

over the years, the relationship between sales and working capital is found to be stable ,then this

relationship may be taken as a base for determining the working capital.

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2.Regression analysis method :-

it is a useful statistical technique applied for forecasting working capital requirements. It helps in

making working capital requirement projection after establishing the average relationship

between sales and working capital and its various components in the past years. The method of

least square is used in this regard.

3.Operating cycle method:-

The following methods are used in operating cycle approach:

Total operating cycle Duration Approach

Working capital requirement is estimated using the following formula

Estimated cost of goods sold x Operating Cycle + desired cash

365 balance

Estimated working capital

Estimated cost of goods sold x Operating Cycle + desired cash

360 balance

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Individual component approach

Detailed estimation is made using the individual component of the operating cycle.

Inventory Management

Introduction:

Inventory includes all types of stocks. For effective working capital management, inventory

needs to be managed effectively. The level of inventory should be such that the total cost of

ordering and holding cost inventory is the least. Simultaneously, stock out costs should also be

minimised. Business, therefore, should fix the minimum safety stock level, re-order level and

ordering quantity so that the inventory cost is reduced and its management becomes efficient.

Every organisation required to maintain inventory for smooth running of its activities. The

investment in inventories constitutes the major proportion of the current assets. Therefore, it is

essential to have proper control and management of inventories. The purpose of inventory

management is to insure availability of material in right quality, in right time and at right

place.

Purpose of Following Inventory

i. Transaction Motive:-

In order to have smooth and continuous operation, the organizations maintain inventory.

ii. Precautionary Motive :-

In order to satisfy the fluctuating demands and supply as well as some emergency like

strikes, etc., inventory is maintained.

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iii.Speculative Motive :-

In order to take advantage of the price changes, organizations sometimes maintain

inventory to make profit.

Objective of Inventory Management:

In the context of inventory management, the firm can face the problem of meeting two

conflicting needs:

To maintain a large size of inventories of raw material and work-in-progress for efficient

and smooth production and of finished goods for uninterrupted sales operation.

To maintain a minimum investment in inventory to maximize profitability.

Both excessive and inadequate inventories are not desirable. These are two danger points,

which the firm should avoid. The objective of inventory management should be to determine

and maintain optimum level of inventory investment. The optimum level of inventory will lie

between the two danger points of excessive and inadequate inventories.

The firm should always avoid a situation of over investment and under investment in

inventories. The major dangers of over investment are:

Unnecessary tie up of the firms funds

Excessive carrying cost

Risk of liquidity

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The excessive level of inventories consumes funds of the firm, which cannot be use for any other

purpose, and thus, it involves an insurance, recording and inspection increase in proportion to

the volume of inventory. These costs will impair the firms profitability further. Excessive

inventories carried for long period increase chances of loss of liquidity. It may not be possible to

sell inventories in time and full value. Raw materials are generally difficult to sell as the holding

period increases. There are exceptional circumstances where it may pay to the company to hold

stock of raw materials. This is possible under the conditions of inflation and scarcity. Another

danger of carrying inventory is the physical deterioration of inventories in storage.

An effective inventory management should in case of certain goods of raw material,

deterioration occurs with the passage of time, or it may be due to mishandling and improper

shortage facilities.

Maintaining an inadequate level of inventories is also dangerous. The consequences of under-

investment in inventories are:

a. Production hold-ups, and

b. Failure to meet delivery commitments.

Inadequate raw material and work-in-progress inventories will result in frequent production

interruption; similarly, if finished goods are not sufficient to meet the demand of customer

regularly, they may shift to competitors, which will amount to a permanent loss to the firm. The

aim of inventory management, thus, should be to avoid excessive and inadequate levels of

inventories and to maintain sufficient inventory for the smooth and sales operation effort should.

Ensure a continuous supply of raw material to facilitate uninterrupted production.

Maintain sufficient stock of raw material in period of short supply and anticipate price

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changes.

Maintain sufficient finished goods inventory for smooth sales operation and efficient

customer service.

Control investment in inventories and keep it at an optimum level.

Inventory Management Techniques:

Economic Order Quantity-

EOQ = (2AB) 2

(CS) 2

Where,

EOQ = Economic Order Quantity.

A = Annual Consumption

B = Buying cost per order

C = Cost per unit

S = Storage and other inventory carrying cost

Fixation of Inventory Levels-

The following levels of inventory are fixed for efficient management of inventory:

Re-Order Level : - Re-order level is the level of the stock availability when a new

order should be raised.

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Re-Order level = Maximum usage X Maximum lead time

Minimum Stock Level: - Minimum stock level is the lower limit which the stock

of any stock items should not normally be allowed to fall. Their level is also

calledsafety stock or buffer stock level

Minimum stock Level = Re-order level (Average or Normal Usage X average

lead time)

Maximum Stock Level: - Maximum stock levels represent the upper limit

beyond which the quantity of any item is not normally allowed to rise.

Maximum level = Re-order level + EOQ (Minimum usage X Minimum lead

time)

Danger level: - Danger level of stock is fixed below the minimum stock level and

if stock reaches below this level.

Danger Level = Average consumption X Lead time emergency Period.

VED Analysis ( Vital, Essential, & Desirable)

FNSD Analysis ( Fast moving items, Normal moving items, Slow moving items & Dead

stock)

Pareto Analysis ( 80 : 20 Rule)

ABC Analysis

Two Bin system

Perpetual Inventory system

Continuous stock taking

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Periodic stock taking system

Input-Output Ratio

Stock Turnover Ratio

Receivables Management

Given a choice, every business would prefer selling its produce on cash basis. However due to

factors like trade policies, prevailing marketing conditions etc., businesses are compelled to sell

their goods on credit. In certain circumstances, business may deliberately extend credit as a

strategy of increasing sales. Extending credit means creating current assets in the form of

Debtors or Accounts Receivable. Investment in this type of current assets needs proper and

effective management as it to cost such as:

a. Carrying cost

This cost includes the interest on capital blocked in the debtors balance the

administration costs associated with the credit decision making and controlling of debtors

balances, cost of keeping the records of credit sales and payment ,cost of collection of

payments from customers , opportunity cost of cost of capital that can be employed

elsewhere than in debtors balances.

b. Default risk:-

There are also costs associated with the risk of default a certain portion of debtors will

never pay, and will become Bad debtswhich has to be written off of the profits of the

firm.

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Thus the objective of any management policy pertaining to account receivable would be

ensure that the benefit arising due to the receivables are more than the cost incurred for

receivable and the gap between benefit and cost increases profit. An effective control of

receivables helps a great deal in properly managing it. Each business should, therefore

,try to find out average credit extended to its client using the below given formula.

Average credit = Total amount of receivables

Extended (in days) Average credit sales per day

Each business should project expected sales and expected investment in receivables based on

various factors, which influence the working capital requirement. Form this it would be

possible to find out the average credit days using the above given formula. A business should

continuously try to monitor the credit days and see that the average credit offered to clients is

not crossing the budgeted period. Otherwise, the requirement of investment in the working

capital would increase and, as a result, activities may get squeezed. This may lead to cash

crisis.

Cash discount

Cash discounts are offered by the seller to the customer to encourage early payment. This is to

encourage payment before the end of the credit period cash discounts are cost to the seller

and benefit to the buyer.

Credit Rating Customer

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For credit rating customer the following information will be collected and processed,

depending upon which the individual limits and the term will be fixed to each individual credit

limits and the terms will be fixed each individual customer.

The experience of sales force

Financial statement of the customer

Bank checking

Companys own experience

Statistical data available with credit rating agencies.

The credit manager should check the following five Cs

Character- relates to the customers willingness to pay

Capacity- The customer should have ability to pay his dues.

Capital- The customer should have sufficient funds to pay the dues.

Collateral- The security available with the customer in paying the debt.

Condition- The economic position of the customer.

Credit Policy

A firm establish its own credit policy for proper management of debtors, otherwise it will lead

more outstanding balance in debtors account and the risk of bad debts will also arise.

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Receivable collection policy

Sometimes a customer fails to pay on the due date. The following procedure will help in

efficient collection of overdue debtors.

A reminder

A personal letter

Several telephone calls

Personal visit of salesman

A telegram

A visit from salesman responsible to customer

A reminder to the sales person that commission is based on cash received not

invoice sales.

Restriction of credit.

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Use of collection agencies.

Legal action : as a resort

Process of Receivables Management

The Following process will help in efficient management of the receivable.

Take the opinion of the sales force and internal staff

Frame the credit terms for the customer if credit is sanctioned.

Established the initial creditworthiness.

Check the credit before the despatch of consignment.

Close monitoring of the credit terms and customer compliance.

Develop the report for internal appraisal of the customer.

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Cash Management

Cash represent the liquid form of assets in an organization. A business should also maintain

adequate amount of cash to met its obligation . any shortage of cash will leads to disruption

of operation. If excess cash is maintained then it does not earn any profit for the organisation

. so maintaining adequate amount of cash , cash management is an important function of the

organization. Cash is required to meet the business obligation and it is unproductive when it

is not used.

The following are the various aspects of cash management:

a) Cash inflow and outflow

b) Cash flow within the firm

c) Cash balance held by the firm

Following are the tools used by the organization:

a) Cash Planning

it is the technique to plan and control the use of cash. A projected cash flow statement is

prepared showing the future payment and receipts of cash

b) Cash forecast and budgeting:

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Cash budget is the most important tool in the hands of an organization to manage cash. It

can be prepared on a daily basis, weekly basis or monthly basis. A cash budget typically

shows the receipt of cash and the payment of cash during a future period. At the end,

cash budget shows the cash balance for the period. Either it can be deficit or surplus cash

balance.

Cash is the liquid current assets. It is of vital importance to the daily operation of

business. While the proportion of assets helps in the form of cash is very small, its

efficient management is crucial to the solvency of the business. Therefore, planing cash

and controlling its use are very important tasks. Cash budgeting is a useful device for this

purpose.

Effects of cash Deficits

The cash balance shortage can result in the making of sub-optimal investment decision and sub-

optimal financing decisions:

Sub optimal investment decision :

These decision would includes the disposal of profitable lines of division, inability profitable

investment project , failure to maintain an adequate level of working capital.

Sub optimal financing decision:

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These decisions would include the taking out of very expensive loans and being granted

overdraft facilities subject to restrictive convents which could include personal

guarantees from directors, restrictions on investment, and restriction on additional

finance.

Cash Budget

Cash budget incorporates estimate of future inflow and outflows of cash over a projected short

period, which may usually be a year, a half or a quarter year. Effective cash management is

facilitated if the cash budget is further broken down into month, week or even on daily basis.

There are two component of cash budget:

(1) Cash Inflows and

(2) Cash outflows

The main sources for these flows are given hereunder:

Cash inflow:

(a) Cash sales

(b) Cash received from debtors

(c) Cash received from loans, deposit ,etc.

(d) Cash receipt of the revenue income

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(e) Cash received from sale of investment or assets.

Cash Outflows:

(a) Cash purchase

(b) Cash payment to creditors

(c) Cash payment for other revenue expenditure

(d) Cash payment for assets creation

(e) Cash payment for withdrawals, taxes

(f) Repayment of loan, etc.

In preparation of cash flow budgets the following points are considered :

Credit period allowed to debtors

Credit period allowed by creditors to the company for good and services.

Payments of dividends, taxation and capital expenditure etc., and the month when

cash payments are expected to be made.

Non- consideration of transaction which have no impact on cash flow e.g

Deprecation.

The bank overdraft limits allowed.

Dealing with the surplus cash e.gputting in marketable securities.

Dealing with the cash deficit.

Trends of sales.

Period of debt payment.

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Raising long-term funds during the course of cash budget etc.

Method of cash flow budgeting

Cash flow budget is a detailed budget of income and cash expenditure incorporating both

revenue and capital items. The cash flow budget can be prepared in the following ways :

1. Receipts and payment method :

In this method all the expected receipt and payment for budget period are considered . all

the cash inflow and out flow of all functional budget including capital expenditure budget

are considered . accruals and adjustments in account will not affect the cash budget.

2. Adjusted Income Method:

In the method the annual cash flow are calculated by adjusted the sales revenues and cost

figures for delays in receipts and payment and eliminating non-cash items such as

deprecation.

3. Adjusted Balance sheet method:

in this method, the budgeted balance sheet is predicted by expressing each type of asset

and short-term liabilities as percentage of the expected sales.

Cash Management Models

The following method are useful in management of cash.

Baumols Model:-

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Baumols (1952) suggested that cash may be managed in the same way as any other

inventory and that the inventory model reasonably reflect the cost- volume relationship

as well as the cash flows.

In the model, the carrying cost of holding cash-namely the interest forgone on marketable

securities is balance against the fixed cost of transferring marketable securities to each, or

vice-versa. The Banmols model find a correct balance by combining holding cost and

transaction cost so as to minimise the total cost of holding cash. Baumols model assumes

that the rate of cash usage is constant and known with certainty. The optimal level of C is

found to be :

C = (2BT)2

(I)2

Where,

C = optimal transaction size

B = fixed cost per transaction

T = Estimed cash payment during the period

I = interest on marketable securities p.a

Limitation

This model can be applied only when the payment position can be reasonably

Degree of uncertainty is high in predicting the cash flow transaction

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The model merely suggest only the optimal balance under a set of assumption.

Miller-Orr Model:

The Miller Orr-model (1966) specifies the following two control limit.

H - Upper control Limit

O - Lower control Limit

Z - The return point for cash balance.

ANALYSIS AND INTERPRETATION

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TYPES OF RATIO:-

There are a number of types of ratio of interest to the various stakeholders of a business. The

main classification of ratio is as follows:

Profitability Ratios:

Measure the relationship between gross/net profit and sales, assets and capital employed. These

are sometimes referred as performance ratios.

Activity Ratio:-

These measure how efficiently an organization uses its resources. These are sometimes referred

as assets utilization ratios.

Liquidity Ratio:

These measure the short-term and long term financial stability of the firm by examining the

relationship between assets and liabilities. These are sometime called as solvency ratios.

Investment Ratios:

This group of ratio is concerned with analysing the return for shareholder. These examine the

relationship between the member of share issued, dividend paid , value of the shares, and

company profits. For obvious reasons these are quite often categorized as shareholder ratios.

Gearing :

Examines the relationship between internal sources and external sources of finance. It is

therefore concerned with the long-term financial position of the company.

Profitability Ratios:

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A company should earn profits to survive and grow over a long period of time. Profits are

essential but it would be wrong to assume that every action initiated by management of a

company should be aimed at maximizing profits, irrespective of social consequences.

Profit is the difference between revenues and expenses over a period of time. Profit is the

ultimate output of a company and it will have no future if it fails to make sufficient profits.

Therefore, the financial manager should continuously evaluate the efficiency of the company in

terms of profits. The profitability ratios are calculated to measure the operating efficiency of the

company.

Generally, there are two types of profitability ratios

1. Profitability in relation to sales

2. Profitability in relation to investment

o Net profit ratio

o Operating profit ratio

o Return on Investment

NET PROFIT RATIO:

Net profit is obtained when operating expenses, interest and taxes are subtracted from the gross

profit. The net profit margin is measured by dividing profit after tax or net profit by sales.

NET PROFIT RATIO= NET PROFIT

SALES/INCOME FROM SERVICES

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Year Net Profit After Tax Income From Services Ratio

2010-2011 18,259,580 55,550,649 0.33

2011-2012 40,586,359 96,654,902 0.42

Interpretation:

The net profit ratio is the overall measure of the firms ability to turn each rupee of income

from services in net profit. If the net margin is inadequate the firm will fail to achieve return on

shareholders funds. High net profit ratio will help the firm service in the fall of income from

services, rise in cost of production or declining demand. The net profit is increased because the

income from services is increased. The increment resulted a slight increase in 2011 ratio

compared with the year 2012.

OPERATING PROFIT RATIO:

OPERATING EXPENSE RATIO= OPERATING PROFIT

SALES/INCOME FROM SERVICES.

Year Operating Profit Income From Services Ratio

2010-2011 31,586,718 55,550,649 0.572011-2012 67,192,677 96,654,902 0.70

Interpretation:

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The operating profit ratio is used to measure the relationship between net profits and sales of a

firm. Depending on the concept, it will decide. The operating profit ratio is increased compared

with the last year. The earnings are increased due to the increase in the income from services

because of Operations & Maintenance fee. So, the ratio is increased slightly compared with the

previous year

RETURN ON INVESTMENT:

It is an index of profitability of business and is obtained by comparing net profit with capital

employed. The ratio is normally expressed in the percentage. The term capital employed

includes share capital, reserves and surplus, long term loans such a debentures.

ROI = PAT / SHARE HOLDERS FUND

Year Profit After Tax Share Holders Fund Ratio

2010-2011 18,259,580 56,473,652 0.32

2011-2012 40,586,359 97,060,013 0.42

Interpretation:

This is the ratio between net profits and shareholders funds. The ratio is generally calculated as

percentage multiplying with 100.

The net profit is increased due to the increase in the income from services

ant the shareholders funds are increased because of reserve & surplus. So, the ratio is increased

in the current year

ACTIVITY RATIOS:

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Funds of creditors and owners are invested in various assets to generate sales and profits. The

better the management of assets, the larger is an amount of sales. Activity ratios are employed

to evaluate the efficiency with which the firm manages and utilizes its assets these ratios are also

called turnover ratios because they indicate the speed with which assets are being converted or

turned over into sales. Activity ratios, thus, involve a relationship between sales and assets. A

proper balance between sales and assets generally reflects that assets are managed well.

Fixed assets turnover ratio

Capital turnover ratio

Working Capital turnover ratio

FIXED ASSETS TURNOVER RATIO:

NET ASSETS TURNOVER RATIO= SALES/ INCOME FROM SERVICES

NET FIXED ASSETS

Year Income From

finance winter project report

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