Meaning of Project Work

Project:
The word project means a piece of work planned or presented to achieve a particular aim. It is indeed a piece of working involving Research. It has been my sincere effort to study the different aspects of Working Capital. This is a project report on working capital analysis of Jay Cable Industries.

Concept of Working Capital

Working Capital:
Working capital management is a significant in Financial Management due to the fact that it plays a pivotal role in keeping the wheels of a business enterprise running. Working capital management is concerned with short term decisions. Shortage of funds for working capital has caused many businesses to fail and in many cases, has retarded their growth. Lack of efficient and effective

utilization of working capital leads to earn low rate of return on capital employed or even compels to sustain losses. The need for skilled working capital management has thus become greater in recent years. A firm invests a part of the permanent capital in fixed assets and keeps a part of it for working capital .i.e., for meeting day to day expenses The requirement of working capital varies from company to company depending upon the nature of business, production policy, market condition, seasonality of operations condition of supply.etc. Working capital to company is like blood to human being. It is the most vital ingredient of a business. Working capital management if carried out effectively, efficiently and consistently, will ensure the health of an organization. A company invests its fund for long term purposes and for short term operations. That portions of a companys capital, invested in short term or current assets to carry on its day to day operations smoothly, is called the Working Capital. Working capital refers to a firms investment in short term assets viz., cash, short-term securities, amounts receivable and inventories of raw materials, work in progress and finished goods. It refers to all aspects of current assets and liabilities. The management of working capital is no less important than the management of long term financial management. Sufficient liquidity is necessary and must be achieved and maintained to provide the funds to pay-off obligation as they arise or mature. The adequacy of cash and other current assets together with their efficient handling virtually determine the survival of the company. The efficient working capital management is necessary to maintain a balance of liquidity and profitability. If the funds are tied up in idle current assets represents poor and inefficient working capital management which effects the firms liquidity as well as profitability.

Working capital is defined as the excess of current assets over current liabilities. All elements of working capital are quick moving in nature and therefore, require constant monitoring for proper management. For proper management of working capital, it is required that a proper assessment of its requirement is made. The magnitude and composition keep on changing continuously in the course of business. If the working capital level is not properly maintained and managed, then it may result in unnecessary blockage of scarce resources of the company. Therefore, the finance manager should give utmost care in management of working capital. Working capital is thus: Current assets Current liabilities

Working capital is also known as circulating capital, fluctuating capital and revolving capital, because cash is converted into stock of good, stock sold on credit bases create syndry creditors, which produce bills receivable and ultimately bills receivable get converted into cash

Diagram showing Circulating flow of Working Capital

Sources of Working Capital:

Fixed / Permanent capital: The following sources may be utilised for financing fixed working capital: 1. Issue of shares 2. Issue of debenture

3. Ploughing back of profits I. Variable / seasonal / special working capital The following may be used 1. 2. 3. 4. 5. 6. Credit from financial institutions

Retained earning Sales of shares Trade creditors Allowing cash discount to debtors to collect prompt cash Bank loan against hypothecation of stock in trade or mortgage of fixed assets etc

Short-term credit is generally used as a means of financing circulating assets and meeting operating expenses of the business. Borrowing from short-term sources is often an advantageous way of financing the temporary expansion of floating assets. Short- term financial requirement can be met by the commercial banks. They provide finance on liberal terms and conditions and bring flexibility in financial planning for short period. Besides this, other sources of short- term credit include customers advances, instalment credit, trade credit, accounts receivable, financing etc
A.

Borrowings from Banks: The commercial banks meet the financial requirements in any of the following ways:
i.

Cash Credit:

This is the most popular way of providing short-term working capital. A company has to furnish a security of tangible assets such as stock of raw material, stock of semi- finished goods or finished goods. In the absence of security, a borrower gives promissory note signed by two sureties.
ii.

Line of Credit:

The bank agrees to allow the company to borrow up to a certain amount. A company has to keep certain amount of deposit with the bank as security.
iii.

Discounting of Bills:

Companies discount their bills or promissory notes or hundies with their banks.
iv.

Overdraft:

Banks provide overdraft facilities up to a certain amount. v. Term Loans: Term loans mean advances granted for a period of more than one year or so.
B.

Trade Credit: A company gets credit from its suppliers. Trade credit facilitates the purchase of goods without immediate payment. No interest is charged. The period of trade credit depends upon the financial resources of the supplier, nature of product, location of the customer, traditions of trade, degree of competition in the market, and the eagerness of the supplier to sell his stocks.

C.

Instalment Credit: This is known as consumer credit. Some portion of the price is paid in cash and the balance is paid in instalments. Interest is charged on the outstanding balance.

D.

Customer Advances: Many times the suppliers or manufactures of goods insist on advances from customers along with orders.

E.

Accounts Receivable Financing: The accounts receivables of a business concern are bought by a financing company or money is advanced against security of accounts receivables.

F.

Public Deposits: Deposits are invited and accepted by companies from public for periods ranging from 6 months to 5 years or so. Rate of interest varies according to the period. However, it is more by 2 % or so than that of banks. To secure finance by this method depends upon the creditworthiness of the company. The public must feel assured of getting their deposits back on the security.

G.

Shares, debentures and Ploughing Back of profits: Though these sources are mainly meant for financing capital, some amount is used also for meeting the needs of working capital, especially permanent working capital.

Need for Working Capital:

Working capital is significant because of 1) Adequate working capital is required to continue uninterrupted business. 2) It is essential to run the day to day business activities 3) To ensure the maximizing the wealth of the firm. 4) To enable to increase the rate of return on investments. 5) To meet the short term obligations of a business enterprise. 6) To increase the operational efficiency of a firm. 7) To utilize the maximum available resources. 8) To earn considerable profits.

Planning of Working Capital Requirements:

The finance manager has to plan requirement of working capital on the basis of the following points:
1.

Estimate the Requirements: On the basis of their forecasts of the volume of business operations of the company, the finance executives have to estimate the amount of fixed capital and working capital requirement in a given period of time. Besides estimating the amount of capital, the finance executives also have to forecast the time when additional funds from outside source will be required and the approximate rate of interest.

2.

Composition or Structure of Capital: The finance executives have to decide the composition of capital.

3.

Choices of Sources: There are various sources available for raising finance such as shares, debentures, banks, other financial institutions, public deposits, etc. Finance executives have to decide the source or sources of financing taking into consideration merits and demerits of each source and the need of the business. They have to select the source which is the most beneficial and suitable his business, as also the availability.

4.

Investment Decision: Out of long-term funds, what amount is so be utilized for working capital is required to be decided.

5.

Management of Cash-Flow: Cash is needed to pay off creditors, for purchase of raw materials, pay to labour and to meet everyday expenses. There should not be shortage of cash at any time as it may affect adversely the creditworthiness of the company. However, there should not be excess cash laying idle. Therefore, it is necessary to prepare cash-flow statement in advance.

Objectives of Working Capital Management:

The basic objectives of working capital management are as follows: By optimising the investment in current assets and by reducing the level of current liabilities, the company the locking-up of funds in working capital thereby, it can improve the return on capital employed in the business. The second most objective of working capital management is that the company should always be in a position to meet the current obligations which should properly be supported by the current assets available, with the firm. But maintaining excess funds in working capital means locking up of funds without return.

 The firm should manage its current assets in such a way that the marginal return on investment in these assets is not less than the cost of capital employed in finance the current assets. The firm should maintain proper balance between current assets and current liabilities to enable the firm to meet its day to day financial obligation.

Factors Determining Working Capital

Factors determining working capital requirement:

There is no set of universally applicable rules to ascertain working capital need of an organization. The factors which influence the need level are discussed below

Nature of business: If we look at the balance sheet of any trading organization, we find major parts of the resources are deployed on current assets, particularly stock in trade. Whereas in case of a transport organization major part of funds would be locked up in fixed assets like motor vehicles , spares and work shed etc. and the working capital component would be negligible. The service organization needs lesser working capital than trading and financial organization. Therefore, the requirement of working capital depends upon the nature of business carried by the organization. Manufacturing Cycle: Time span required for the conversion of raw material into finished goods is a block period. The period, in reality, extends a little before and after the Work In Progress. This cycle determines the need of working capital. In case of industries with long manufacturing process or production cycle .more funds are required for working capital .The industries involved in quick conversion or raw material into finished units or having lesser production cycle requires lesser amount of working capital. Production Process: In case of labor intensive industries high working capital is needed, But in case of capital intensive industries the production process is faster and it requires lesser amount of working capital due to lesser conversion costs. Business Cycle: This is another factor that determines the need level. Barring exceptional cases, there are variations in the demands for goods/services handled by an organization. Economic boom or recession etc, have their influence on the

transactions and consequently on the quantum of working capital required. More working capital is needed during peak or boom conditions. But in case of economic recession or low inflationary conditions, the company requires low or moderate working capital. Seasonal Variations: A variation apart, seasonality factors creates production or even storage problem. Mustard and many other oil seeds are Rabi crops. They are to be purchased in a season to ensure continuous operation of oil plants. Further there are woolen garments which have demand during winter only. But manufacturing operations has to be conducted during the whole year resulting in working capital blockage during off season. Scale of Operation: Operations level determine working capital demand during a given period, Higher the scale; higher will be the need for working capital. However, pace of sales turnover {quick or slow} is another factor. Quick turnover calls for lesser investment in inventory, while low turnover rate necessitates larger investment. Inventory Policy: The traditional production systems generate more stocks of finished goods and high level of raw materials and WIP stocks are maintained and the stock holding period is also more. In such cases more working capital is needed. The adoption of JIT, supply chain management, vendor management will drastically reduce the levels of raw materials, WIP and finished goods stocks and, therefore, fewer amounts of funds are invested in inventory. Credit Policy:

Credit policy of the business organization includes to whom, when and to what extent credit may be allowed. Amount of money locked-up in account receivables has its impact on working capital. The liberal credit period and followup procedure will increase the investment in debtors balances and simultaneously increase working capital requirement, than concerns resorting to strict credit and collection procedures. Accessibility to Credit: Creditworthiness is the precondition for assured accessibility to credit. Accessibility in banks depends on the Flow of credit i.e., the level of working capital.

Business Standing: In case of newly established concerns the materials are required to be purchased in cash and the sales are to be made on credit basis. Such new concerns require high levels of working capital. But the established companies can negotiate for credit terms with suppliers and sell the product at lesser credit period to customers. Therefore, it requires less working capital than concerns with lesser business standing. Growth of Business: Growth and diversification of business call for larger volume of working fund. The need for working capital does not follow the growth of business operations but precedes it. Working capital need is in fact assessed in advance in reference to the business plan. Market Condition:

In a buyers market i.e., the market with fierce competition, the companies are forced to sell on credit, with liberal credit and collection policies. This increases the level of investment in working capital due to increase in debtors balances and its administration costs. But if the seller market prevails, the quick disposal of stocks, high percentage of cash sales, strict credit and collection policies etc. reduces the need of working capital. Supply Situation: In easy and stable supply situation, no contingency plan is necessary and precautionary steps in inventory investment can be avoided. But in case of supply uncertainties, lead time may be longer necessitating larger basic inventory, higher carrying cost and working need for the purpose. Aggressive approach cannot be adopted in such situation. Environmental Factors: Political stability brings in stability in money market and trading world. Things mostly go smooth. Risk ventures are possible with enhanced need for working capital finance. Similarly, availability of local infrastructural facilities like road, transport, storage and market etc. influence business and working capital need as well.

Working Capital: Types & Strategies

Types of Working Capital

Gross and Net Working Capital:
Generally the working capital has its significance in two perspectives. These are gross working capital and net working capital is called balance sheet approach of working capital.
Gross Working Capital:

The term gross working capital refers to the firms investment in current assets. According to this concept working capital refers to a firms investment in current assets. The amount of current liabilities is not deducted from the total of current assets. The concept of gross working capital is advocated for the following causes. Profits of the firm are earned by making investment in its funds in fixed and current assets. This suggests the past of the earning relate to investment in current assets. Therefore, aggregate of current assets should be taken to mean the working capital. The management is more concerned with the total current assets as they constitute the total funds available for operating purposes than with the sources from which the funds come. As increase in the overall investment in the enterprise also brings an increase in the working capital. Net Working Capital: The term net working capital refers to the excess of current assets over current liabilities. It refers to the difference between current assets and current liabilities. The net working capital is a qualitative concept which indicates the

liquidity position of a firm and the extent to which working capital needs may be financed by permanent sources of funds. The concept looks into the angle of judicious mix of long-term and short-term funds for financing current assets. A portion of net working capital should be financed with permanent sources of funds. The gross and net working capital is ascertained as below: Current Assets: Raw material stock Work-in-process stock Finished goods stock Sundry debtors Bills receivable Short term investments Cash and bank balances Gross working capital Less: Current Liabilities Creditors for materials Creditors for expenses Bills payable Tax liability Short-term loans Net working capital xxx xxx xxx xxx xxx xxx xxx Amt xxx xxx xxx xxx xxx xxx xxx xxx Amt

Net Working Capital = Current Assets Current Liabilities

Positive and Negative Working Capital:

The net working capital of a firm may be positive or negative

The positive net working capital represents the excess of current assets over current liabilities. Sometimes the net working capital turns to be negative when current liabilities are exceeding the current assets. The negative working capital position will adversely affect the operations of the firm and its profitability. The chronic negative working capital situations will lead to closure of business and the enterprise is said to be technically insolvent.

Disadvantages of Negative Working Capital: The disadvantages suffered by a company with negative working capital are as follows: The company is unable to take advantage of new opportunities or adapt to change. Fixed assets cannot be used efficiently in situation of working capital shortage. The operating plans cannot be achieved and will reduce the profitability of the funds. It will stagnate the growth of the firm. Employee moral will be lowered due to financial difficulties The operating inefficiencies will creep into daily activities Trade discounts are lost. A company with ample working capital is able to finance large stock and can therefore, place large orders. Cash discounts are lost. Some companies will try to persuade their debtors to pay cash by offering them a cash discount, off the price owned.

 The advantages of being able to offer a credit line to customers are foregone. Financial reputation is lost result in non- cooperation from trade creditors in times of difficulty There may be concerted action by creditors and will apply to court for winding up. It would be difficult to get adequate working capital finance from banks, financial institutions.

Strategies in Working Capital Management:

In the past banks were the only sources of funds for the working capital needs for business sector. At present more finance options are available to Finance Manager to see the operations of his firm go smoothly. Depending on the risk exposure of business, the following strategies are evolved to manage the working capital. Conservative Approach: A conservative strategy suggest not to take any risk in working capital management and to carry high levels of current assets in relation to sales. Surplus current asset enable the firm to absorb sudden variations in sales, production plans, and procurement time without disturbing production plans. It requires to maintain high level of working capital and it should be financed by long-term funds like share capital or long-term debt. Availability of sufficient working capital will enable smooth operational activities of the firm and there would be no stoppages of production want of raw materials, consumables. Sufficient stocks of finished goods are maintained to meet the market fluctuations. The higher liquidity level reduces the risk of insolvency. But lower risk translates into lower return. Large investments in current assets lead to

higher interest and carrying costs and encouragement for inefficiency. But conservative policy will enable the firm to absorb day to day business risks. It assures continuous flow of operations and eliminates worry about recurring obligations. Under this strategy, long term financing covers more than the total requirement for working capital. The excess cash is invested in short- term marketable securities and in need, these securities are sold- off in the market to meet the urgent requirements of working capital.

Financing strategy: Long term funds = Fixed assets + Total permanent current assets + Part of temporary current assets Short term funds = Part of temporary current assets

Aggressive Approach: Under this approach current assets are maintained just to meet the current liabilities without keeping and cushion for the variations in working capital needs. The core working capital is financed be long-term sources of capital, and seasonal are met through short- term borrowings. Adoption of this strategy will minimize the investment in net working capital and ultimately it lowers the cost of financing working capital. The main drawbacks of this strategy are that it necessitates frequent financing and also increases risk as the firm is vulnerable to sudden shocks. A conservative current asset financing strategy would go for more long-term finance which reduces the risk of uncertainty associated with

frequent refinancing. The price of this strategy is higher financing costs since long-term rates will normally exceed short-term rates. But when aggressive strategy is adopted, sometimes the firm runs into mismatches and defaults. It is the cardinal principle of corporate finance that long- term assets should be financed by long-term sources and short term assets by a mix of short term sources.

Financing strategy: Long term funds = Fixed assets + Part of permanent current assets Short term funds = Part of permanent current assets + Total temporary current assets

Matching Approach: Under matching approach to financing working capital requirements of a firm, each asset in the balance sheet asset side would be offset with a financing instrument of the same approximate maturity. The basic objective of this method of financing is that the permanent component of current assets, and fixed assets would be met with long term funds and the seasonal or short term variations in current assets would be financed with short term debt. If the long term funds are used for short term needs of the firm, it can identify and take steps to mismatch in financing. Efficient working capital management techniques are those that compress the operating cycle. The length of the operating cycle is equal to the sum of the lengths of the inventory period and the receivables period. Just in time inventory management technique reduce carrying costs by slashing the time that goods are parked as inventories. To shorten the receivables period without necessarily reducing credit period,

corporate can offer trade discounts for prompt payment. This strategy is also called as hedging approach.

Financing Strategy: Long term Funds = Fixed assets + Total permanent current assets Short term Funds = Total temporary current assets

Zero Working Capital Approach: This is one of the latest trends in working capital management. The idea is to have zero working capital i.e. at all times the current assets shall equal the current liabilities out of the matching current assets. As current ratio is 1 and the quick ratio below 1, there may be apprehensions about the liquidity, but if all current assets are performing and are accounted at their realizable values, these fears are misplaced. The firm saves opportunity cost on excess investments in current assets and as bank cash credit limits are linked to the inventory levels, interest costs are also saved. There would be a self imposed financial discipline on the firm to manage their activities within their current liabilities and current assets and there may not be a tendency to over borrow or divert funds. Zero working capital also ensures a smooth and uninterrupted working capital cycle, and it would pressure the Finance Managers to improve the quality of the current liabilities and the possibility of having overdue may diminish. The tendency to postpone current liability payments has to be curbed and working capital always maintained at zero. Zero working capital would call

for a fine balancing act in Financial Management, and the success in this endeavor would get reflected in healthier bottom lines.

Total Current Assets = Total Current Liabilities Total Current Assets - Total Current Liabilities = Zero