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Assessment of Working Capital Finance Project

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Assessment of Working Capital Finance Project

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                               EXECUTIVE SUMMERY

        It gives me great pleasure to present this project report on working capital finance

at bank of Maharashtra, credit department, head office, Pune. The project was carried out

from 1st June 2007 to 31st July 2007.

        The main objective of the project was to study various types of working capital

finance provided by banks. To know details the procedure of assessment of working

capital finance extended by banks.

        Wheels of business cannot move without money. Availability of money is being

limited and wants being unlimited. So procurement of fund is one of the important

functions in commercial & non-commercial enterprises and utilizes it for maximization

of business profits.

Business enterprises need funds to meet their different types of requirements,

   i.   Long-term requirement

 ii.    Medium-term requirement

 iii.   Short-term requirement

        Working capital requirement is the short-term requirement. Working capital is the

investment needed for carrying out day-to-day operations of the business smoothly. Bank

is one of the important sources of working capital requirement. Bank gives various

facilities to the borrowers.

       In this project I have considered various banking facilities for the working capital

finance to the industries. It covers almost important aspect relating to assessment &

follow up of working capital finance. After discussing the procedure followed by bank,

For assessing working capital requirement case studies have been given with necessary

data in the prescribed forms demonstrate the calculable done by bank to arrive at

maximum permissible bank finance. An inventory & receivables constitute the major

portion of the total working capital requirement.

                                    Company Profile

The Birth

Registered on 16th Sept 1935 with an authorized capital of Rs 10.00 lakh and

commenced business on 8th Feb 1936.

The Childhood

Known as a common man's bank since inception, its initial help to small units has given

birth too many of today's industrial houses. After nationalization in 1969, the bank

expanded rapidly. It now has 1292 branches (as of 30th September 2005) all over India.

The Bank has the largest network of branches by any Public sector bank in the state of


The Adult

The bank has fine tuned its services to cater to the needs of the common man and

incorporated the latest technology in banking offering a variety of services.

Our Philosophy

   o Technology with personal touch.

Our Emblem

The Deepmal

   o With its many lights rising to greater heights.

The Pillar

   o Our institution- Symbolizing strength.

The 3 M's


      Mobilisation of Money

      Modernisation of Methods and

      Motivation of Staff.

Our Aims

The bank wishes to cater to all types of needs of the entire family, in the whole country.

Its dream is "One Family, One Bank, Maharashtra Bank".

The Autonomy

The Bank attained autonomous status in 1998. It helps in giving more and more services

with simplified procedures without intervention of Government.

Our Social Aspect

The bank excels in Social Banking, overlooking the profit aspect; it has a good share of

Priority sector lending having 46% of its branches in rural areas.

Other Attributes

Bank      is     the    convener      of       State     level      Bankers        committee

Bank has signed a MoU with EXIM bank for co-financing of project exports

Bank    offers     Depository   services    and        Demat     facilities   in    Mumbai.

Bank has captured 97.68% of its total business through computerization.


   To know the various types of working capital finance provided by banks.

   To analyze in detail the procedure of assessment of working capital finance

     extended by bank.

   To apply these procedure at a practical level with the help of case studies.

                            RESEARCH METHODOLOGY

       This is analytical research area where we analyses information with cause and its

effects relationship. This analysis leads to the simple conclusions of whether to lend

money to the institution for business.

       Also if the money is lend then there is reality the norms are not always perfect and

hence it is essential to priorities stringent parameters and secondary parameters.

Research Type                                    Analytical

Source of Data                                   Primary and Secondary

Sample Unit                                      Industries applying for loan

Sample                                           Case studies

Sample Technique                                 Allocation of Case

Analysis Tool used                               Financial Analysis

Primary Data:

       Observation, Discussion with the manager.

       The company profile, annual reports have been obtained from BOM.

Secondary Data:

Secondary data relating to the procedure of assessment of working capital finance, old

sanction proposals, RBI guidelines etc. have been sourced from reference books.


In accounting,” Working capital is the difference between the inflow and outflow of

funds. In other words, it is the net cash inflow. It is defined as the excess of current assets

over current liabilities and provisions. In other words, it is net current assets or net

working capital.

A study of working capital is of major importance to internal and external analysis

because of its close relationship with the day-to-day operations of a business. Working

Capital is the portion of the assets of a business which are used on or related to current

operations, and represented at any one time by the operating cycle of such items as

against receivables, inventories of raw materials, stores, work in process and finished

goods, merchandise, notes or bill receivables and cash.

Working capital comprises current assets which are distinct from other assets. In the first

instance, current assets consist of these assets which are of short duration.

Working capital may be regarded as the life blood of a business. Its effective provision

can do much to ensure the success of a business while its inefficient management can

lead not only to loss of profits but also to the ultimate downfall of what otherwise might

be considered as a promising concern.

The funds required and acquired by a business may be invested to two types of assets:

1. Fixed Assets.

2. Current Assets

Fixed assets are those which yield the returns in the due course of time. The various

decisions like in which fixed assets funds should be invested and how much should be

invested in the fixed assets etc. are in the form of capital budgeting decisions. This can be

said to be fixed capital management.

Other types of assets are equally important i.e. Current Assets.

These types of assets are required to ensure smooth and fluent business operations and

can be said to be life blood of the business. There are two concepts of working capital —

Gross and Net. Gross working capital refers to gross current assets. Net working capital

refers to the difference between current assets and current liabilities. The term current

assets refers to those assets held by the business which can be converted into cash within

a short period of time of say one year, without reduction in value. The main types of

current assets are stock, receivables and cash. The term current liabilities refer to those

liabilities, which are to be paid off during the course of business, within a short period of

time say one year. They are expected to be paid out of current assets or earnings of the

business. The current liabilities mainly consist of sundry creditors, bill payable, bank

overdraft or cash credit, outstanding expenses etc.


The need of gross working capital or current assets cannot be overemphasized. The object

of any business is to earn profits. The main factor affecting the profits is the magnitude of

sales of the business. But the sales cannot be converted into cash immediately. There is a

time lag between the sale of goods and realization of cash. There is a need of working

capital in the form of current assets to fill up this time lag. Technically, this is called as

operating cycle or working capital cycle, which is the heart of need for working capital.

This   working     capital   cycle   can    be    described   in   the   following     words.

If the company has a certain amount of cash, it will be required for purchasing the raw

material though some raw material may be available on credit basis. Then the company

has to spend some amount for labour and factory overheads to convert the raw material in

work in progress, and ultimately finished goods. These finished goods when sold on

credit basis get converted in the form of sundry debtors. Sundry debtors are converted in

cash only after the expiry of credit period. Thus, there is a cycle in which the originally

available cash is converted in the form of cash again but only after following the stages of

raw material, work in progress, finished goods and sundry debtors. Thus, there is a time

gap for the original cash to get converted in form of cash again. Working Capital needs of

company arise to cover the requirement of funds during this time gap, and the quantum of

working capital needs varies as per the length of this time gap.

Thus, some amount of funds is blocked in raw materials, work in progress, finished

goods, sundry debtors and day-to-day requirements. However some part of these current

assets may be financed by the current liabilities also. E.g. some raw material may be

available on credit basis, all the expenses need not be paid immediately, workers are also

to be paid periodically etc. But still the amounts required to be invested in these current

assets is always higher than the funds available from current liabilities. This is precise

reason why the needs for working capital arise. From the Financial management point of

view, the nature of fixed assets and current assets differ from each other

1. The fixed assets are required to be retained in the business over a period of time and

they yield the returns over their life, whereas the current assets loose their identity over a

short period of time, say one year.

2. In the case of current assets, it is always necessary to strike a proper balance between

the liquidity and profitability principles, which is not the case with fixed assets. E.g. If

the size of current assets is large, it is always beneficial from the liquidity point of view

as it ensures smooth and fluent business operations. Sufficient raw material is always

available to cater to the production needs, sufficient finished goods are available to cater

to any kind of demand of customers, liberal credit period can be offered to the customers

to improve the sales and sufficient cash is available to pay off the creditors and so on.

However, if the investment in current assets is more than what is ideally required, it

affects the profitability, as it may not be able to yield sufficient rate of return on

investment. On the other hand, if the size of current assets is too small, it always involves

the risk of frequent stock out, inability of the company to pay its dues in time etc. As

such, the investment in current assets should be optimum. Hence, it is necessary to

manage the individual components of current assets in a proper way. Thus, working

capital management refers to proper administration of all aspects of current assets and

current liabilities. Working Capital Management is concerned with the problems arising

out of the attempts to manage current assets, current liabilities and inter-relationship

between them. The intention is not to maximize the investment in working capital nor is

it to minimize the same. The intention is to have optimum investment in working capital.

In other words, it can be said that the aim of working capital management is to have

minimum investment in working capital without affecting the regular and smooth flow of

operations. The level of current assets to be maintained should be sufficient enough to

cover its current liabilities with a reasonable margin of safety. Moreover, the various

sources available for financing working capital requirements should be properly managed

to ensure that they are obtained and utilized in the best possible manner.


The amount of working capital required depends upon a number of factors which can be

stated as below

Nature of Business:

Some businesses are such, due to their very nature, that their requirement of fixed capital

is more rather than working capital. These businesses sell services and not the

commodities and not the commodities and that too on cash basis. As such, no funds are

blocked in piling inventories and also no funds are blocked in receivables. E.g. Public

utility services like railways, electricity boards, infrastructure oriented projects etc. Their

requirement of working capital is less. On the other hand, there are some business like

trading activity, where the requirement of fixed capital is less but more money is blocked

in inventories and debtors. Their requirement of the working capital is more.

Length of Production Cycle:

In some business like machine tool industry, the time gap between the acquisitions of

raw material till the end of final production of finished product itself is quite high. As

such more amounts may be blocked either in raw materials, or work in progress or

finished goods or even in debtors. Naturally, their needs of working capital are higher.

On the other hand, if the production cycle is shorter, the requirement of working capital is

also less.

Size and Growth of Business:

In very small companies the working capital requirements are quite high overheads,

higher buying and selling costs etc. As such, the medium sized companies positively have

an edge over the small companies. But if the business starts growing after a certain limit,

the working capital requirements may be adversely affected by the increasing size.

Business I Trade Cycles:

If the company is operating in the period of boom, the working capital requirements may

be more as the company may like to buy more raw material, may increase the production

and sales to take the benefits of favourable markets, due to the increased sales, there may

be more and more amount of funds blocked in stock and debtors etc. Similarly, in case of

depression also, the working capital requirements may be high as the sales in terms of

value and quantity may be reducing, there may be unnecessary piling up of stocks

without getting sold, the receivables may not be recovered in time etc.

Terms of Purchase and Sales:

Sometimes, due to competition or custom, it may be necessary for the company to extend

more and more credit to the customers, as a result of which more and more amounts is

locked up in debtors or bills receivables which increase working capital requirements. On

the other hand, in case of purchases, if credit is offered by the suppliers of goods and

services, a part of working capital requirement may be financed by them, but if it is

necessary to purchase these goods or services on cash basis, the working capital

requirement will be higher.


The profitability of the business may vary in each and every individual case, which in its

turn may depend upon numerous factors. But high profitability will positively reduce the

strain on working capital requirements of the company, because the profits to the extent

that they are earned in cash may be used to meet the working capital requirements of the

company. However, profitability has to be considered from one more angles so that it can

be considered as one of the ways in which strain on working capital requirements of the

company may be relieved. And these angles are:

Taxation Policy:

How much is required to be paid by the company towards its tax liability?

Dividend Policy:

How much of the profits earned by the company are distributed by way of dividend?

Effect of Inflation on Working Capital Requirement:

The phase of inflation can be identified with the situation of increasing price levels,

increasing demand and increasing supply. As such, the working capital requirements

multiply during the phase of inflation due to increasing cost of production and increasing

level of sales turnover. However, in order to control the increasing demand for working

capital during the period of inflation, the following measures may be applied.

Possibility of using cheaper substitute raw material, without affecting the quality, should

be explored. For this purpose, research activities may be conducted. Attempts should be

made to reduce the production costs to maximum possible extent. For this purpose, the

techniques like time and motion study, incentive schemes, cost reduction programmes

etc. may be implemented. Attempts should be made to reduce the operating cycle to the

maximum possible extent. Aiming at greater turnover at short intervals will go a long

way to reduce the stress on working capital requirements. Attempts should be made to

reduce the locked up working capital in non-moving or obsolete inventories. A clear-cut

policy should be formulated and followed for timely disposal of non- moving and

obsolete inventories. Similarly, efficient management information system should be

developed to reflect the position of inventory from the various angles. Attempts should be

made to reduce the amount looked up in receivables. Quicker realization of debts will go

a long way to reduce the stress on working capital requirements. Attempts should be

made to make the payments of to creditors in time. This helps the business to build up

good reputation and increases its bargaining power with respect to period of credit of

credit for payment and other conditions.

Attempts should be made to match the projected cash inflows and projected cash

outflows. If they do not match, some of the payments should be postponed or purchases

of certain avoidable items should be deferred. Estimation of Working Capital

Requirements: First of all estimates of all current assets should be made. These current

assets may include stock, debtors. Cash/Bank balance prepaid expenses etc.

Difference between the estimated current assets and current liabilities will represent the

working capital requirements. To this sometime a standard percentage may be added to

take care of the contingencies. This technique is known as Cash Cost technique of

estimating of working capital requirements. There is another technique available for

estimating working capital requirements also and that is in the form of Balance Sheet

Method. In this the forecast is made of various assets and liabilities, the difference

between assets and liabilities indicating either the surplus or deficiency of cash. There are

various   methods    available   for   financing    the   working    capital   requirements:

Flied or Permanent or Core Working Capital:

This indicates the amount of minimum working capital, which is required to be

maintained by every business at any point of time, in order to carry on the business on

permanent and uninterrupted basis.

Variable or Temporary Working Capital:

This indicates that amount of working capital required by the business which is over and

above fixed or permanent or core working capital. This need of the working capital may

vary depending upon the fluctuations in demand as a result of changes in production or


As far as financing of the fixed or permanent needs of working capital are concerned,

these needs should be met out of the long term sources of funds, Own generation of

funds, out of the profits earned, shares or debentures.

As far as financing of the variable or temporary needs of working capital are concerned,

these needs can be met from the various sources:

1. A part of these needs may be financed by way of the credits available from the

suppliers of material or services and of delayed payment of expenses.

2. A part of these needs may be financed by way of long term sources of funds in the

form of own generation of funds, out of profits earned shares, debentures and other long

term borrowings, public deposits etc.

3. A part of these needs may be financed by way of long term sources of funds in the

form of own generation of funds, out of profits earned, shares, debentures and other long

term borrowing.

4. A major portion of these working capital needs are financed by the Banks. In

financing the working capital needs of the business, the credit obtained from Banks plays

a very important role.

Bank Credit as a Source of Meeting Working Capital Requirements:

While bank credit is considered as a major source of meeting the working capital

requirement of the industry, the banks have to consider the following factors before

meeting their requirements.

A].What should be the amount of working capital assistance?

B].What should be the form in which working capital assistance may be extended?

C].What should be the security that should be obtained for extending the working capital


Amount of Assistance:

To obtain the bank credit for meeting the working capital requirements, the company will

be required to estimate the working capital requirements and will be required to approach

the banks along with the necessary supporting data. On the basis of the estimates

submitted by the company, the bank may decide the amount of assistance which may be

extended, after considering the margin requirements. This margin is to provide the

cushion against the reduction in the value of security. If the company fails to fulfill its

obligations, the bank may be required to realize the security for recovering the dues.

Margin money is meant to take care of the possible reduction in the value of security. The

percentage of margin money may depend upon the credit standing of the company,

fluctuations in the price of security or the directives of Reserve Bank of India from time

to time.

Form of Assistance:

After deciding the amount of overall assistance to be extended to the company, the bank

can disburse the amount in any of the following forms

Non-Fund Based Lending

Fund Based Lending

Non-Fund Based Lending

In case of Non-Fund Based Lending, the lending bank does not commit any physical

outflow of funds. As such, the funds position of the lending bank remains intact. The

Non-Fund    Based    Lending    can   be   made    by    the   banks   in   two   forms-

a. Bank Guarantee:

Suppose Company A is the selling company and Company B is the purchasing company.

Company A does not know Company B and as such is concerned whether Company B

will make the payment or not. In such circumstances, D who is the Bank of Company B,

opens the Bank Guarantee in favour of Company A in which it undertakes to make the

payment to Company A if Company B fails to honour its commitment to make the

payment in future. As such, interests of Company A are protected as it is assured to get

the payment, either from Company B or from its Bank D. As such, Bank Guarantee is the

mode which will be found typically in the seller’s market. As far as Bank D is concerned,

while issuing the guarantee in favour of Company A, it does not commit any outflow of

funds. As such, it is a Non-Fund Based Lending for Bank D. If on due date, Bank D is

required to make the payment to Company A due to failure on account of Company B to

make the payment, this Non-Fund Based Lending becomes the Fund Based Lending for

Bank D which can be recovered by Bank D from Company B. For issuing the Bank

Guarantee, Bank D charges the Bank Guarantee Commission from Company B which

gets decided on the basis of two factors-what is the amount of Bank Guarantee and what

is the period of validity of Bank Guarantee. In case of this conventional for of Bank

Guarantee, both company A as well as Company B get benefited as it is able to make the

credit purchases from Company A without knowing Company A. As such, Bank

Guarantee     transactions   will   be   applicable   in   case   of   credit   transactions.

In some cases, interests of purchasing company are also to be protected. Suppose that

Company A which manufactures capital goods takes some advance from the purchasing

Company B. If Company A fails to fulfill its part of contract to supply the capital goods

to Company B, their needs to be to be some protection available to Company B. In such

circumstances, Bank C which is the banker of Company A opens a Bank Guarantee in

Favour of Company B in which it undertakes that if Company A fails to fulfill its part of

the contract, it will reimburse any losses incurred by Company B due to this non

fulfillment of contractual obligations. Such Bank Guarantee is technically referred to as

performance Bank Guarantee and it ideally found in the buyer’s market.

b. Letter of Credit:

The non-fund based lending in the form of letter of credit is very regularly found in the

international trade. In case the exporter and the importer are unknown to each other.

Under these circumstances, exporter is worried about getting the payment from the

importer and importer is worried as to whether he will get the goods or not. In this case,

the importer applies to his bank in his country to open a letter of credit in favour of the

exporter whereby the importer’s bank undertakes to pay the exporter or accept the bills or

drafts drawn by the exporter on the exporter fulfilling the terms and conditions specified

in the letter of credit.

Fund Based Lending

In case of Fund Based Lending, the lending bank commits the physical outflow of funds.

As such, the funds position of the lending bank gets affected. The Fund Based Lending

can be made by the banks in the following forms-

Loan: -

In this case, the entire amount of assistance is disbursed at one time only, either in cash or

by transfer to the company’s account. It is a single advance. The loan may be repaid in

instalments,     the   interests     will   be    charged     on     outstanding     balance.

Overdraft: - In this case, the company is allowed to withdraw in excess of the balance

standing in its Bank account. However, a fixed limit is stipulated by the Bank beyond

which the company will not be able to overdraw the account. Legally, overdraft is a

demand assistance given by the bank i.e. bank can ask for the repayment at any point of

time. However in practice, it is in the form of continuous types of assistance due to

annual renewal of the limit. Interest is payable on the actual amount drawn and is

calculated on daily product basis.

Cash Credit: -

In practice, the operations in cash credit facility are similar to those of overdraft facility

except the fact that the company need not have a formal current account. Here also a

fixed limit is stipulated beyond which the company is not able to withdraw the amount.

Legally, cash credit is a demand facility, but in practice, it is on continuous basis. The

interests is payable on actual amount drawn and is calculated on daily product basis.

Bills purchased or discounted: -

This form of assistance is comparatively of recent origin. This facility enables the

company to get the immediate payment against the credit bills raised by the company.

The bank holds the bill as a security till the payment is made by the customer. The entire

amount of bill is not paid to the company. The Company gets only the present worth of

the amount of bill, the difference between the face value of the bill and the amount of

assistance being in the form of discount charges. On maturity, bank collects the full

amount of bill from the customer. While granting this facility to the company, the bank

inevitably satisfies itself about the credit worthiness of the customer. A fixed limit is

stipulated in case of the company, beyond which the bills are not purchased or discounted

by the bank.

Working Capital Term Loans: -

To meet the working capital needs of the company, banks may grant the working capital

term loans for a period of 3 to 7 years, payable in yearly or half yearly installments.

Packing Credit: -

This type of assistance may be considered by the bank to take care of specific needs of

the company when it receives some export order. Packing credit is a facility given by the

bank to enable the company to buy the goods to be exported. If the company holds a

confirmed export order placed by the overseas buyer or a letter of credit in its favour, it

can approach the bank for packing credit facility.

Operating cycle:

       The time between purchase of inventory items (raw material or merchandise) and

their conversion into cash is known as operating cycle or working capital cycle. The

longer the period of conversion the longer will be the period of operating cycle. A

standard operating cycle may be for any time period but does not generally exceed a

financial year. Obviously, the shorter the operating cycle larger will be the turnover of the

fund invested for various purposes. The channels of investment are called current assets.

                           OPERATING CYCLE


                                                   Purchase of
            Receipt from                          raw material,
              debtors                              components

Creation of                                                       Creation of
receivables                                                       A/c payable
 (Debtors)                                                        (Creditors)

                                                                  Payments to
Sales of                                                           creditors

           Warehousing                            operation: wages &
           of Finished                               salaries, fuel,
              Goods                                   power, etc

                               Office, selling,
                               distribution and
                               other expenses

                                WORKING CAPITAL FINANCE

        A manufacturing concern needs finance not only for acquisition of fixed assets

but also for its day-to-day operations. It has to obtain raw materials for processing, pay

wage bills & other manufacturing expenses, store finished goods for marketing & grant

credit to the customers. It may have to pass through the following stages to complete its

operating cycle-

   i.   Conversion of cash into raw materials – raw material procured on credit, cash

        may have to be paid after a certain period.

 ii.    Conversion of raw materials into stock in process.

 iii.   Conversion of stock in process into finished goods.

 iv.    Conversion of finished goods into receivables/debtors or cash.

  v.    Conversion of receivables/debtors into cash.

        A non-manufacturing trading concern may not require raw material for their

processing, but it also needs finance for storing goods & providing credit to its customers.

Similarly a concern engaged in providing services, it may not have to keep inventories

but it may have to provide credit facility to its customers. Thus all enterprises engaged in

manufacturing or trading or providing services require finance for their day-to-day

operations, the amount required to finance day-to-day operation is called working capital

& the assets & liabilities are created during the operating cycle are called current assets &

current liabilities. The total of all the current assets is called gross working capital & the

excess of current assets over current liabilities is called net working capital.

        When entrepreneurs for financing working capital requirements approach the

banks, the bank has to examine the viability of the project before agreeing to provide

working capital for it. Financial institutions & bank while providing term loan finance to

unit for acquisition of fixed assets does a detailed viability study. They have to ensure

that the project will generate sufficient return on the resources invested in it. The viability

of a project depends on technical feasibility, marketability of the products, at a profitable

price, availability of financial resources in time & proper management of the unit. In brief

the project should satisfy the tests of technical, commercial, financial & managerial


        Proper co-ordination amongst banks & financial institution is necessary to judge

the viability of a project & to provide working capital at appropriate time without any

delay. If a unit approaches banks only for working capital requirement & no viability

study has been done earlier which is done at the time of providing term loans, a detailed

viability study is necessary before agreeing to provide working capital finance.

        In the view of scarcity of bank credit, its increasing demand from various sectors

of economy & its importance in the development of economy, bank should provide

working capital finance according to production requirements. Therefore it is necessary

to make a proper assessment of total requirement of the working capital, which depends

on the nature of the activities of an enterprise & the duration of its operating cycle. It has

to be ensured that the unit will have regular supply of raw material to facilitate

uninterrupted production. The unit should be able to maintain adequate stock of finished

goods for smooth sales operation. The requirement of trade credit, facilities to be given

by the unit to its customers should also be assessed on the basis of practice prevailing in

the particular industry/trade which assessing above requirements, it should also be

ensured that carrying cost of inventories & duration of credit to customers are minimized.

After assessing the total requirement of working capital, a part of working capital

requirement should be financed for the long term & partly by determining maximum

permissible bank finance.

                        ASSESSMENT OF WORKING CAPITAL

 A unit needs working capital funds mainly to carry current assets required for its

 operations. Proper assessment of funds required for working capital is essential not only

 in the interest of the concerned unit but also in the national interest to use the scare credit

 according to production requirements. Inadequate levels of working capital may result in

 under-utilization of capacity and serious financial difficulties. Similarly excessive levels

 may lead to unproductive use of credit and unnecessary interest Burdon on the unit.

 Proper assessment of working capital requirement may be done as under-

I. Norms for inventory and receivables:

   If the bank credit is to be linked with production requirements, it is necessary to assess

   the requirements on the basis of certain norms. The ‘study group to frame guidelines to

   follow-up of bank credit’ (Tandon Study Group) appointed by Reserve Bank of India

   had suggested the norms for inventory and receivables regarding 1: major industries on

   the basis of company finance studies made by Reserve Bank process periods in the

   different industries, discussions with the industry experts and feed-back received on the

   interim report. The norms suggested by Tandon Study Group are being reviewed from

   time to time by the Committee of Direction constituted by the Reserve Bank to keep a

   constant view on working capital requirements. The committee has representatives

   from a few banks and it generally once in a quarter. It also consults the representatives

   from industry and trade. It keeps a watch on the various issues relating to working

   capital requirements and gives various suggestions to suit the changing requirements of

   the industry and trade.

   Banks make their own assessment of credit requirements of borrowers based on a total

   study of borrowers’ business operations and they can also decide the levels of holding

   each item of inventory as also of receivables which in their view would represent a

   reasonable built up of current assets for being supported by banks’ finance. Banks may

   also consider suitable internal guidelines for accepting the projections made by the

   borrowers regarding sundry creditors as sundry creditors are taken as a source of

   financing current assets (inventories, receivables, etc.), it is necessary to project them

   correctly while calculating need of bank finance for working capital requirements.

II. Computation of Maximum Permissible Bank Finance (MPBF):

   The Tandon Study group had suggested the following alternatives for working out the

   maximum permissible bank finance:-

      a. Bank can work out the working capital gap. i. e. total current assets less current

          liabilities other than bank borrowings and finance a maximum of 75 per cent of

          the gap; the balance to come out of long-term funds, i.e. owned funds and term


      b. Borrower should provide for a minimum of 25 per cent of total current assets

          out of long-term funds, i.e. owned funds and long term borrowings. A certain

          level of credit for purchases and other current liabilities inclusive of bank

          borrowings will not exceed 75 per cent of current assets.

      It may be observed from the above that borrower’s contribution from long term

funds would be 25 per cent of the working capital gap under the first method of lending

and 25 per cent of total current assets under the second method of lending. The above

minimum contribution of long-term funds is called minimum stipulated Net Working

Capital (NWC) which comes from owned funds and term borrowings.

      Above two method of lending may be illustrated by taking the following example of

a borrower’s financial position, projected as at the end of next year.

      Current Liabilities             Amt               Current Assets              Amt

Creditors for purchase                   200 Raw materials                           380

Other current liabilities                100 Stock in process                         40

                                         300 Finished goods                          180

Bank borrowing, including bills          400 Receivables,       including   bills    110

discounted with bankers                         discounted with bankers

                                                Other current assets                  30

                                         700                                         740

First method                                       Second method
Total current assets          740                  total current assets          740
Less: current liabilities                          25% of above from long term
Other than bank borrowings 300                     sources                       185

Working capital gap           440                                                555
25% of above from long term                        less: current liabilities
Sources                       110                  Other than bank borrowings 300
Maximum permissible bank 330                       Maximum permissible bank 255
Finance                                            finance
Excess Bank borrowings        70                   Excess Bank borrowings        145
Current ratio                 1.17:1               Current ratio                 1.33:1

        It may be observed from the above that in the first method, the borrower has to

provide a minimum of 25 per cent of working capital gap from ling-term funds and it

gives a minimum current ratio 1.17:1. In the second method, the borrower has to provide

a minimum of 25 per cent of total current assets from long-term funds and gives a

minimum current ratio of 1.33:1.

        While estimating the total requirement of long-term funds for new projects,

financial institutions/banks should calculate for working capital on the basis of norms

prescribed for inventory and receivables and by applying the second method of lending.

A project may suffer from shortage of working capital funds if sufficient margin for

working capital is not provided as per the second method of lending while funding new

projects. Proper co-ordination between banks & financial institutions is necessary to

ensure availability of sufficient working capital finance to meet the production


III. Classification of current assets & Current liabilities:

     In order to calculate net working capital & maximum permissible bank finance, it is

     necessary to have proper classification of various items of current assets & current

     liabilities. All illustrative lists of current assets & current liabilities for the purpose of

     assessment of working capital are furnished below;

     Current assets: -

         a. Cash and bank balances

         b. Investments

         c. Receivables arising out of sales other than deferred receivables (including bills

             purchased & discounted by bankers)

         d. Installments by deferred receivables due within one year

         e. Raw materials & components used in the process of manufactured including

             those in transit

         f. Stock in process including semi finished goods

         g. Finished goods including goods in transit

         h. Other consumable spares

         i. Advance payment for tax

         j. Prepaid expenses

         k. Advances for purchases of raw materials, components & consumable stores

         l. Payment to be received from contracted sale of fixed assets during the next 12


Current Liabilities:

 a. Short-term borrowings (including bills purchased & discounted) from

           Banks and       ii.       Others

 b. Unsecured loans

 c. Public deposits maturing within one year

 d. Sundry creditors (trade) for raw material & consumer stores & spares

 e. Interest & other charges accrued but no due for payments

 f. Advances/progress payments from customers

 g. Deposits from dealers selling agents, etc.

 h. Statutory liabilities

           Provident fund dues

           Provision for taxation

           Sales-tax, excise, etc.

           Obligation towards workers considered as statutory

 i. Miscellaneous current liabilities

           Dividends

           Liabilities for expenses

           Gratuity payable within one year

           Any other payments due within one year

Notes on classification of Current Assets & Current Liabilities:

   1. Investment in shares, debenture, etc. and advances to other firms/companies, not

       connected with the business of the borrowing firm, should be excluded from

       current assets. Similarly investment made in units of Unit Trust of India & other

       mutual funds & in associate companies/subsidiaries, as well as investment made

       and/or loans extended as inter-corporate deposits should not be included in the

       build-up of current assets while assessing maximum permissible bank finance.

   2. The borrowers are not expected to make the required contribution of 25 per cent

       from long-term sources in respect of export receivables. Therefore, export

       receivables may be included in the total current assets for arriving at the

       maximum permissible bank finance but the minimum stipulated net working

       capital may be reckoned after excluding the quantum of export receivables from

       the total current assets.

   3. ‘Dead inventory’ i.e. slow moving or obsolete items should not be classified as

       current assets.

   4. Security deposits/tender deposits given by borrower should be classified as non-

       current assets irrespective of whether they mature within the normal operating

       cycle of one year or not.

   5. Advances/progress payments from customer should be classified as current

       liabilities. However, where a part of advances received is required by government

       regulations to be invested in certain approved securities, the benefit of netting

       may be allowed to the extent of such investment and the balance may be classified

       as current liability.

6. Deposits from dealers, selling agents, etc. received by the borrower may treated as

   term liabilities irrespective of their tenure if such deposits are accepted to be

   repayable only when the dealership/agency is terminated. The deposits, which do

   not fulfill the above condition, should be classified as current liabilities.

7. Disputed liabilities in respect of income tax, excise, custom duty and electricity

   charges need not be treated as current liabilities except to the extent of provided

   for in the books of the borrower. Where such disputed liabilities are treated as

   contingent liabilities for period beyond one year, the borrower should be advised

   to make adequate provision so that he may be in a position to meet the liabilities

   as & when they accrue.

8. If disputed excise liability has been shown as contingent liability or by way of

   notes to the balance sheet, it need not be treated as current liability for calculating

   the permissible bank finance unless it has been collected or provided for in the

   accounts of borrowers. A certificate from the Statutory Auditors of the borrowers

   may be obtained regarding the amount collected from the customers in respect of

   disputed excise liability or provision made in the borrowers’ accounts. The

   amount of excise duty payable should be treated as current liability for the

   purpose of working out the permissible limit of the bank finance strictly on the

   basis of the certificate from the borrowers’ Statutory Auditors. The same principle

   may also be applied for disputed sales tax dues.

9. In case of other statutory dues, dividends, etc., estimated amount payable within

   one year should be shown as current liabilities even if specific provisions have not

   been made for their payment.

      10. As per the instructions issued by the Reserve Bank in October, 1993, the entire

          term loan investment falling due for payment in the next twelve months need not

          be treated as an item of current liabilities for the purpose of arriving at MPBF.

          However all overdue term loan should be treated as current liabilities unless the

          loan has been rescheduled by the financial institutions/banks. It may be added that

          the entire amount of term loan installments payable within the next twelve months

          which is kept outside the current liabilities while calculating MPBF. Need not be

          taken into account while computing net working capital (NWC). However the

          entire amount of term loan installments due within the next twelve months should

          continue to be treated as current liability for the purpose of calculating the current


IV. Information/Data required for assessment of working capital:

    In order to assess the requirements of working capital on the basis of production needs,

    it is necessary to get the data from the borrowers regarding their past/projected

    production, sales, cost of production, cost of sales, operating profit, etc. in order to

    ascertain the financial position of the borrowers & the amount of working capital needs

    to be financed by banks, it is necessary to call for the data from the borrowers regarding

    their net worth, long term liabilities, current liabilities, fixed assets, current assets, etc.

    the Reserve Bank prescribed the forms in 1975 to submit the necessary details

    regarding the assessment of working capital under its credit authorization scheme. The

    scheme of credit authorization was changed into credit monitoring arrangement in

1988. The forms used under the credit authorization scheme for submitting necessary

information have also been simplified in 1991 for reporting the credit sanctioned by

banks above the cut-off point to reserve bank under its scheme of credit monitoring


     As the traders and merchant exporters who do not have manufacturing activities

are not required to submit the data regarding raw materials, consumable stores, goods-

in-process, power and fuel, etc., a separate set of forms has been designed for traders

and merchant exporters. In view of the peculiar nature of leasing and the hire purchase

concerns, a separate set of forms has also designed for them.

     In addition to the information/data in the prescribed forms, bank may also call for

additional information required by them depending on the nature of the borrowers’

activities & their financial position. The data is collected from the borrowers in the

following six forms: -

 1. Particulars of the existing/proposed limits from the banking system (form I)

     Particulars of the existing credit from the entire banking system as also the term

 loan facilities availed of from the term lending institutions/banks are furnished in this

 form. Maximum & minimum utilization of the limits during the last 12 months

 outstanding balances as on a recent date are also given so that a comparison can be

 made with the limits now requested & the limits actually utilized during the last 12


2. Operating Statement (Form II)

   The data relating to last sales, net sales, cost of raw material, power & fuel, direct

labour, depreciation, selling, general expenses, interest, etc. are furnished in this form.

It also covers information on operating profit & net profit after deducting total

expenditure from total sale proceeds.

3. Analysis of Balance Sheet (Form III)

   A complete analysis various items of last year’s balance sheet, current year’s

estimate & following year’s projections is given, in this form. The details of current

liabilities, term liabilities, net worth, current assets, other non-current assets, etc. are

given in this form as per the classification accepted by banks.

4. Comparative statement of current assets & current liabilities (Form IV)

   This form gives the details of various items of current assets and current liabilities

as per classification accepted by banks. The figures given in this form should tally

with the figures given in the form III where details of all the liabilities & assets are

given. In case of inventory, receivables and sundry creditors; the holding/levels are

given not only in absolute amount but also in terms of number of month so that a

comparative study may be done with prescribed norms/past trends. They are indicated

in terms of numbers of months in bracket below their amounts.

     5. Computation of Maximum Permissible Bank Finance (Form V)

         On the basis of details of current assets & liabilities given in form IV, Maximum

     Permissible Bank Finance is calculated in this form to find out credit limits to be

     allowed to the borrowers.

     6. Fund Flow Statement (Form VI)

         In this form, fund flow of long term sources & uses is given to indicate whether

     long term funds are sufficient for meeting the long term requirements. In addition to

     long term sources and uses, increase/decrease in current assets is also indicated in this


V. Check list for verification of the information/data:

         Bank should verify not only the arithmetical accuracy of the data furnished by the

    borrowers but also the logic behind various assumptions based on which the projections

    have been made. For this purpose, bank officials should hold discussions with the

    borrowers on projected sales, level of operations, level of inventory, receivables, etc. if

    necessary, a visit to the factory may also be made to have a clear idea of products and




The banker examines the proposal of the letter of credit from two angles:

    o The cases where letter of credit is required once only

    o The cases where letter of credit is required once regularly.

In the second category it is convenient for the banker to fix the separate limit of the letter

of credit.



The buyer does not receive the goods immediately on the placement of the order on the

seller. There is always long time log between the order placement and the receipt of the

material. This period is also referred to as the lead-time.

Example: -

If it is assumed that the total raw material requirement is Rs.240lacs per annum and the

normal lead time is 2 months, the buyer will be required to place order so that he has at

least 2 months stock (ignoring safely level). Thus, the total number of order placed would

be 6 per year and the value of per order would be Rs.40 Lacs. This is shown below

Assessment of the limits under LC- with lead-time

Annual requirement of raw material                     240 Lacs

Normal lead time                                       2 months

Value per order (A)                                    240/6=Rs.40 Lacs

Margin for customer @20%(B)                            Rs 8 Lacs

Limits under letter of credit (A-B)                    Rs 32 Lacs

Assessment of the limits under letter of credit-without lead-time

Annual requirement of raw material                       240 lacs

Monthly requirement of raw material                      240/12 months =20 lacs

Normal inventory level (1 month)                         Rs 20 lacs

Value per order (A)                                      Rs 20 lacs

Margin for customer @ 20% (B)                            Rs 4 lacs

Limits under letter of credit (A-B)                      Rs 16 lacs


There is no standard formula for assessment of bank guarantee limit. The details

pertaining to nature of guarantees, particulars of the contract, period for which the

guarantee is sought and the amount of guarantee to be obtained, this information along

with the view on the creditworthiness of the borrower and relationship with the bank

comprise the major input towards deciding the sanction of limits required by borrower.

Appropriate conditions regarding cash margin and securities have to be laid down to

protect the interest of the bank..



The revised credit process is introduced with a view of reducing the time lag in the

sanction of credit besides clearly delineating the areas of responsibilities of various

functionaries. As per this the revised process is divide into two components that is Pre

sanctioning and Post sanctioning

In the pre sanctioning it is the only time that the bank can take due assessment and

precautions to make sure that the investments are done for the benefit of the bank. The

post sanctioning is the follow of the payment. Incase the payment defaults then the

account will go into NPA in stages and the bank is then said to scrutinize the said



Obtain loan application

When a customer required loan he is required to complete application form and submit

the same to the bank also the borrower has to be submit the required information along

with the application form.

                                       PRE SANCTION

                       APPRAISAL &                    SANCTIONING


The information, which is generally required to be submitted by the borrower along with

the loan application, is under: -

      Audited balance sheets and profit and loss accounts for the previous three year(in

       case borrower already in the business)

      Estimated balance sheet for current year.

      Projected balance sheet for next year.

      Profile for promoters/directors, senior management personnel of the company.

      In case the amount of loan required by borrower is 50 lacs and above he should be

       submit the CMA Report

 Examine for preliminary appraisal

 RBI guidelines. Policies

 Prudential exposure norms and bank lending policy

 Industry exposure restriction and related risk factors.

 Compliance regarding transfer of borrowers accounts from one bank to

   another bank

 Government regulation / legislation impact on the industry

 Acceptability of the promoter and applicant status with regards to other

   unit to industries.

 Arrive at the preliminary decision.

 Examine/analysis /assessment

 Financial statement (in the prescribed forms) refers figure WC cycle & BS

   assessment thumb rules.

 Financial ratio & Dividend policy.

 Depreciation method

 Revaluation of fixed assets.

 Records of defaults (Tax, dues etc.)

 Pending suits having financial implication (Customs, excise etc.)

 Qualifications to balance sheet auditors remarks etc.

 Trend in sales and profitability and estimates /projection of sales.

 Production capacities and utilization: past & projected production

   efficiency and cost.

            Estimated      working    capital   gap   W.R.T     acceptable    buildup   of

               inventory/receivables/other current assets and bank borrowing patterns.

            Assess MPBF –determine facilities required

            Assess requirement of off balance sheet facilities viz.L/cs,B/gs etc.

            Management quality, competence, track records

            Company’s structure and system

            Market shares of the units under comparison.

            Unique feature

            Profitability factors

            Inventory/Receivable level

            Capacity utilization

            Capital market perception.


Supervision and follow up: -

Sanction credit limit of working capital requirement after proper assessment of proposal

is alone not sufficient. Close supervision and follow up are equally essential for safety of

bank credit and to ensure utilization of fund lend. A timely action is possible only close

supervision and followed up by using following techniques.

   o Monthly stock statement

   o Inspection of stock

   o Scrutiny of operation in the account

o Quarterly/half quarterly statements.

o Under information system

o Annual audited report

                             POST SANCTION

                FOLLOW UP                     MONITORING &



Consequent upon the withdrawal of requirement of prior authorization under the

erstwhile credit authorization scheme (CAS) and introduction of a system of post

sanction scrutiny under credit monitoring arrangement (CMA) the database forms have

been recognized as CMA database. The revised forms for CMA database as drawn up by

the sub-committee of committee of directions have come into use from 1st April 1991.

The existing forms prescribed for specified industries continue to remain in force. With a

view to imparting uniformity to the appraisal system, database from all borrowers

including SSI units enjoying working capital limits of Rs. 50 lacs and more from the

banking system should be obtained.

The revised sets of forms have been separately prescribed for industrial borrowers and

traders/merchant exporters. The details of forms are as under: -

Form 1: - particulars of the existing/proposed limit from the banking system.

Form 2: -Operating statement.

It contains data relating to gross sales, net sales, cost of raw material, power and fuel, etc.

It gives the operating profit and the net profit figures.

Form 3 : - Analysis of balance sheet.

It is complete analysis of various items of last years balance sheet; current years estimate

and following years projection are given in this form.

Form 4 : - Comparative statement of current asset and liabilities.

Details of various items of current asset and current liabilities are given.

The figures in this form must tally with those in form III.

Form 5: - Computation of maximum permissible bank finance for working capital.

The calculation of MPBF is done in this form to obtain the fund based credit limits to be

granted to the borrower.

Form 6: - Fund flow statement

It provides the details of fund flow from long term sources and uses to indicate weather

they are sufficient to meet the borrowers long term requirements.


The various risk faced by any company may be broadly classified as follows:

Industry Risk: It covers the industry characteristic, compensation, financial data etc.

Company/ business risk: It considers the market position, operating efficiency of the

company etc.

Project risk: It includes the project cost, project implementation risk, post project

implementation etc.

Management risk: It covers the track record of the company, their attitude towards risk,

propensity for group transaction, corporate governance etc.

Financial risk: financial risk includes the quality of financial statements, ability of the

company to raise capital, cash flow adequacy etc.


The drawing power that a borrower enjoys at any one point depends on each components

of working capital. The bank for each component, which the borrower must hold as his

contribution to finance working capital, prescribes margins. The drawing power of the

borrower can be best explained with the following illustration


Suppose a borrower has Rs 100.00 lacs as working capital limit sanctioned to him by a


The security provided by the borrower to the bank is the hypothecation of inventory.

Suppose, the borrower needs to hold an inventory level of say 130 lacs in order to enjoy

Rs 100 lacs as his working capital limit.

The actual level of inventory with the borrower at a point is say 110 lacs.

The inventory margin prescribed by the bank is say 25 %

Therefore with this inventory level, the borrower enjoys only Rs 82.5 lacs as his working

capital limit as against Rs 100 lacs.

Inventory level (Required)                         Rs 130 lacs

Drawing power of borrower                          Rs 100 lacs

Inventory level (Actual)                           Rs 110 lacs

Margin prescribed by bank 25 %

Drawing power of borrower                          110-(0.25× 110) = Rs 82.5 lacs

Suppose, the borrower holds Rs 150 lacs of inventory,

Inventory level (required)                         Rs 150 lacs

Drawing power of borrower                          Rs 100 lacs

Inventory level (actual)                           Rs 150 lacs

Margin prescribed by bank 25 %

Drawing power of borrower                          150 − (0.25 × 150) = Rs. 112.2 lacs

Therefore, in this case the borrower would still enjoy Rs 100 lacs as his working capital

limits as against Rs 112.5 lacs.

Therefore, the lower of the two is always considered as the working capital limit or the

drawing power of the borrower sanctioned by the bank.


Banks need some security from the borrowers against the credit facilities extended to

them to avoid any kind of losses. securities can be created in various ways. Banks

provide credit on the basis of the following modes of security from the borrowers.

Hypothecation: under this mode of security, the banks provide credit to borrowers

against the security of movable property, usually inventory of goods. The goods

hypothecated, however, continue to be in possession of the owner of the goods i.e. the

borrower. The rights of the banks depend upon the terms of the contract between

borrowers and the lender. Although the bank does not have the physical possession of the

goods, it has the legal right to sell the goods to realize the outstanding loans.

Hypothecation facility is normally not available to new borrowers.

Mortgage: It is the transfer f a legal / equitable interest in specific immovable property

for securing the payment of debt. It is the conveyance of interest in the mortgaged

property. This interest terminated as soon as the debt is paid. Mortgages are taken as an

additional security for working capital credit by banks.

Pledge: The goods which are offered as security, are transferred to the physical

possession of the lender. An essential prerequisite of pledge is that the goods are in the

custody of the bank. Pledge creates some kind of liability for the bank in the sense that

‘Reasonable care’ means care, which a prudent person would take to protect his property.

In case of non-payment by the borrower, the bank has the right to sell the goods.

Lien: The term lien refers to the right of a party to retained goods belonging to other

party until a debt due to him is paid. Lien can be of two types viz. Particular lien i.e. A

right to retain goods until a claim pertaining to these goods are fully paid, and General

lien, Which is applied till all dues of the claimant are paid. Banks usually enjoyed general



Working capital is made available to the borrower under the following arrangements;


RBI till 1997 made it obligatory for availing working capital facilities beyond a limit (Rs

500 million in 1997), through the consortium arrangement. The objective of the

arrangement was to jointly meet the financial requirement of big projects by banks and

also share the risks involved in it.

While it consortium arrangement is no longer obligatory, some borrowers continue to

avail working capital finance under this arrangement. The main features of this

arrangement are as follows;

Bank with maximum share of the working capital limits usually takes the role of ‘lead


Lead bank, independently or in consultation with other banks, appraise the working

capital requirements of the company.

Banks at the consortium meeting agree on the ratio of sharing the assessed limits.

Lead bank undertakes the joint documentation on behalf of all member banks.

Lead bank organizes collection and dissemination of information regarding conduct of

account by borrower.


    Multiple banking is an open arrangement in which no banks will take the lead role.

Most borrowers are shifting their banking arrangement to multiple banking arrangements.

The major features are –

Borrower needs to approach multiple banks to tie up entire requirement of working


Banks independently assessed the working capital requirements of the borrower.

Banks, independent of each other, do documentation, monitoring and conduct of the


Borrowers deals with all financing banks individually.


A syndicated credit is an agreement between two or more lenders to provide a borrower

credit facility using common loan agreement. It is internationally practiced model for

financing credit requirements, wherein banks are free to syndicate the credit limit

irrespective of quantum involved. It is similar to a consortium arrangement in terms of

dispersal of risk but consist of a fixed repayment period.



Bank follows certain norms in granting working capital finance to companies.

These norms have been greatly influenced by the reconditions of various committees

appointed by the RBI from time to time. The norms of working capital finance followed

by banks are mainly based on the recommendation of Tandon committee and chore


These committees were appointed on the presumption that the existing system of bank

lending of number of weakness industries in India have grown rapidly in the last three

decades as result of which, the industrial system has become vary complex. The banks

role has shifted from trade financing to industrial financing during this period.

However, the banks lending practices and styles have remained the same. Industries

today fail to use bank finance efficiently. Their techniques of managing funds are

unscientific and non-professional. The industries today lack            in reducing costs,

optimizing the use of inputs, conserving resources etc.

The weakness of the existing system highlighted by the Dehejia committee in 1968 and

identified by the tondon committee in 1974, are as follows:

It is the borrower who decides how much he would borrow ;the bankers does not decide

how much he would lend and is, therefore, not in a position to do credit planning. The

bank credit is treated as the first sources of finance and not as supplementary to other

sources of finance.

The amount of credit is extended is based on the amount of security available and not on

the level of operations of the borrower.

Security does not by itself ensure safety of bank. Funds since all bad sticky advances are

secure advances. Safety essentially lies in the efficient follow up of the industrial

operations of the borrower.

We discuss the following committee’s important finding and recommendations for bank

finance: -





The Tandon committee was appointed by the RBI in July 1974 and headed by Shri.

Prakash L. Tandon, the chairman of the Punjab national bank, to suggest guidelines for

rational allocation and optimum use of bank credit taking into consideration the weakness

of the leading system. Bank credit, which had become a scare commodity, strictly

rationed to meet the credit requirement of all the sectors. The larger sector of the industry

needed strict rationing becomes

It was over relying on bank finance and pre empted most of it while the other sectors

were not getting even their due share. Therefore, the method and criterion adopted for

fixing credit ration needed to be standardized so that there is minimum scope for miss-use

or part of the credit uses. The Tandon committee was concern exactly with this problem.

Its report laid down as to how the credit ratio of individual borrowers could be fixed at

imposed certain obligation on them for the efficient use of the credit made available.

The recommendation of the Tandon committee based on the following notions:

The borrower should indicate the demand for credit for which he should draw operating

plans for the ensuring year and supply them to the banker. This would facilitate credit

planning at the banks level and help the banker in evaluating the borrower’s credit needs

in a more realistic manner.

The banker should finance only the genuine production needs of the borrower. The

borrower maintained reasonable levels inventories and receivables. Efficient management

of resources should therefore be ensured to eliminate slow moving and flabby


The working capital needs of borrower cannot entirely finance by the banker. The banker

will finance only a reasonable part of it for the remaining; the borrower should depend on

his own fund. Recommendation of Tandon committee accordingly, the Tandon

committee put forth in the following recommendations

Inventory and receivables norms

The borrower is allowed to hold only a reasonable level of current asset, particularly

inventory and receivable. The committee suggested the maximum level of raw material,

stock in process, finished goods, which corporate in an industry should be to hold.

Only the normal inventory based on a production plan, lead-time of supplies, economic

ordering levels and reasonable factor safety should be financed by the banker.

Lending norms:

The banker should finance only a part of the working capital gap; the other part should be

financed by the borrower form long-term sources.

The current asset will be taken on the estimate values or values as per the Tandon

committee norms, whichever is lower.

The current will consist of inventory and receivables, referred as chargeable current

assets (CCA), and other current assets (OCA).


The Tandon committee suggested the following three methods of determining the

permissible level of bank borrowings-

The borrower will contribute 25 % of the working capital gap from long term fund i.e

owned fund and term borrowings; the remaining 75 % can be financed from bank

borrowings. This method gives a minimum current ratio of 1:1. This method was

considered suitable only for very small borrowers where the requirement 0 credit was less

than Rs 10 lacs

The borrower will contribute 25 % of the total current assets from long-term funds i.e.

owned funds and term borrowings. A certain level of credit for purchases and other

current liabilities will be available to fund the building up of current assets and the bank

will provide the balance. Consequently, the current liabilities inclusive of bank borrowing

could not exceed 75 % of current assets. This method gives a current ratio of 1.3:1. This

method was considered for all borrowers whose credit requirements were more than Rs

10 lacs.

The borrower will contribute 100 % of core current assets, defined at the absolute

minimum level of raw material, processed stock, finished goods and stores, which are in

the pipeline. A minimum level of the 25 % of the balance of the current assets should be

finance from the long term funds and term borrowings. This method covers straightness

the current ratio. The third is the ideal method. Borrowers in the second stage are not

allowed to revert to the first stage. This method applies to all borrowers having credit

limit in excess of Rs.20 lacs from the bank. However this method was not accepted for


In some cases, the net working capital was negative or 25 % of the working capital gap.

The new systems allowed this deficiency to be financed in addition to the permissible

bank finance by the bank. This kind of credit facility is called working capital demand

loan, which was to be regulated over a period of time depending on the funds generating

capacity and ability of the borrower.

The working capital demand loan is not allowed to be raised in the subsequent year. For

additional credit in subsequent year, the borrower’s long-term sources were required to

provide 25 % of the additional working capital gap.

4. Style of credit:

The committee recommended the bifurcation of total credit limit into fixed and

fluctuating parts.

The fixed component is then treated as demand loan for the year representing minimum

level of borrowing, which the borrower expected to use through out the year.

The fluctuating component is taken care of by a demand cash credit. It could be partly

used by way of bills.

The new CC limit should be placed on a quarterly budgeting reporting system.

The interest rate on the loan components should be charged lower than the cash credit

amount. The RBI has stipulated the interest differentiate at 1 %.

The cash credit limits sanctioned (fluctuating) are currently 205 and the loan components

(fixed) are 80 %.


The committee advocated for grater flow of information from borrower to the bank for

operational purpose and for the purpose of supervision and flow of up credit.

Information should be provided in the following forms:


It should contain the production and sales estimates for the current and next quarter. also,

the current asset current liabilities estimates for the next quarter should be mentioned.

Quarterly information system: Form II:

It should contain the actual production and sales finger during the current year and the

latest completed year. Also, actual current asset and current liabilities for the latest

completed quarter should be mention.

Half year operating statement form IIIA:

Actual operating performance for the half year ended against the estimate should be


Half year fund flow statement: Form IIIB:

It should contain the estimate as well as the actual sources and use of fund for the half

year ended.

Borrowers with a credit limit of more than1 crore are required to supply the quarterly


The bank to follow up and supervise the use of credit should properly use the information

supplied by the borrower.

The bank must ensure that the bank credit was used for the purposes for which it is

granted, keeping in view the borrowers operation and environment.

The bank should confirm whether the actual result is in conformity with the expected

results. A+/- 10% variation is considered normal.

The banker should be treated as a partner in the business with whom information should

be shared freely and frankly.

The recommendations of the Tandon committee have been widely debated and criticized.

The bankers have found a difficult to implement the committee’s recommendations.

However, the Tandon committee has brought about a perceptible change in the outlook

and attitude of both the banker and their customers. They have become quite aware in the

matter of making the best use of a scare resource like bank credit. The committee has

help in bringing the financial discipline through a balanced and integrated scheme of

bank lending. Most of banks in India, even today continue to look at the needs of the

corporate in the light of recommendation of the Tandon committee



In April 1979, the RBI constituted a working group to review the system of cash credit

under the chairmanship of Mr. K. B. Chore, Chief Officer, DBCOD, RBI. The main

terms of reference for the group were to review the cash credit discipline and relate credit

limit to production.


Bank credit: -

Borrower should contribute more funds to finance their working capital requirement and

reduce their dependence on bank credit. The committee suggested placing the second

method of lending as explain in the Tandon committee report.

In case the borrower is unable to comply with this requirement immediately, he would be

granted excess borrowing in the form of working capital loan (WCTL).

The WCTL should be paid in seamy annual installments for a period not exceeding 5

years and a higher rate of interest than under the cash credit system would be charged.

This procedure should apply to those borrowers, having working capital requirements of

more than Rs 10 lacs.


Bank should appraise and fix separate limits for the “peak level” and normal “non pick

level” credit requirements for all borrowers in excess of Rs. 10 lacs indicating the

relevant periods.

With the sanctioned limits for these two periods, the borrower should indicate in advance

his need for funds during the quarter. Any deviation in utilization of funds Beyond 10%

should be considered irregular and is subject to penalty fix by the RBI (2% p.a. over the

normal rate)

Bank should discourage ad hoc or temporary credit limits. If sanction under exceptional

circumstances the same should be given in the form of a separate demand loan and

additional interest of at least 1% should charged.

Lending system:

The system of three types of lending should continue i.e. cash credit loan and bills

wherever possible; the bank should replace cash credit system by loan and bills.

Bank should scrutinize the cash credit accounts of large borrowers one’s a year.

Bifurcation of cash credit account into demand loan fluctuating cash credit component, as

recommended by the Tandon committee should discontinue.

Advances against books debts should be converted to bills wherever possible and at least

50% of cash credit limit utilize for financing purchases of raw material inventory should

also be charged to the bill system.

Information System

The discipline relating to the submission of Quarterly Statements to be obtained from

the borrower should be strictly adhered to in respects of all borrowers having working

capital limits of more than Rs.50 lacs.

If the borrower does not submit report within the prescribed time, he should be penalized

by charging a penal rate of interest, which is 2% p. a. more than the contracted rate.

Banks should insists the public sector undertakings and large borrower to maintained

control accounts in their books to give precise data regarding their dues to the small units

and furnish such data in their quarterly reports.

Other recommendations:

Request for relaxation of inventory norms and for ad hoc increases in limits should be

subjected by banks to close scrutiny and agreed only in exceptional circumstances.

Delays on the part of the banks in sanctioning credit limits should be reduced in cases

where the borrowers cooperate in giving the necessary information about their past

performance and future projection in time.

Autonomous institutions on the lines of the discount houses in U.K may be set up to

encourage the bill system of financing and to facilitate all money operations.

There should be a “cell” attached to the chairmen’s office at the central office of each

bank to attend to matters like immediate communication of credit control measures at the

operational level.

The central offices of bank should take a second look at the credit budget as soon as

changes in the credit policy are announced by the RBI and they should revised their plan

of action in the right of new policy and communicate the corrective measures at the

operational levels at the earliest.

Bank should give particular attention to monitor the key branches and critical accounts.

The communication channels and system and procedures with in the banking system

should be toned up so as to ensure that minimum time is taken for collection of




Help to measure liquidity and financial strength, indication of availability of current

assets to pay current liabilities. The higher the ratio betters the liquidity position.

Generally it should be at least 1.33.


Indicate size of stakes, stability and degree of solvency. Indicates how high the stake of

the creditors is. Indicate what proportion of the company finance is represented by the

tangible net worth. The lower the ratio, greater the solvency. Anything over 5 should be

viewed with concern.

The ratio should be studied at the peak level of operations.


This ratio indicates operating efficiency. Indication of net margin of profit available on

Rs. 100 sales. Trend for company over a period should be encouraging.



It indicates the number of times total debt service obligation consisting of interest and

repayment of the principal in installment is covered by the total fund available after taxes.

With the help of this ratio (popularly known as DSCR), we can find out whether the loan

taken for acquisition of fixed assets can be rapid conveniently.

This ratio of 1.5 to 2 considered adequate.

We have already touched upon depreciation as non cash expenditure and since the funds

are available with the enterprise to that extent. It is in order to ask for this sum in

reduction of loan.



The ratio indicates adequacy of profit to cover interest. Higher the ratio more is the

security to the lender.

                        Analysis & Interpretation of the data

                                    Case studies

Case study 1:

Comparative Balance Sheet and Performance / Financial Indicators:

                               Abridged Balance sheet

                                                                   (Rs in lacs)
Liabilities 31.03.04   31.03.05 31.03.06 Assets            31.03.04 31.03.05      31.03.06
            Audited    Audited Prov.                       Audited Audited        Prov.
Capital     17.53      18.41    84.84    FA                23.15     26.64        150.73
Reserves                                 Depr.             5.85      6.38         21.42
NW          17.53      18.41    84.84    Net Block         17.30     20.26        129.31
TL          12.43      15.98    2.98     Cash &            1.47      0.84         2.51
Unsec Ln                                 RM
TL from                2.46     81.46    WIP
TL(car)     1.76       1.88      0.38        FG            12.77      16.53       15.00
Scred                                        Rec- Dom      8.18       12.01       35.13
Bk Borr     9.11       13.08     15.00       Export
OCL         0.09       0.15                  OCA           1.19       2.32        2.71
TCL         9.20       13.23     15.00       TCA           23.61      31.70       55.35
                                             Tot NCA
                                             Acc Loss
Tot Liab    40.91      51.96     184.66      Tot Ass       40.91      51.96       184.66

                                          31.03.2004      31.03.05      31.03.06
* Net Worth                               17.53           18.41         84.84
Less: Revaluation Reserves                -               -             -
Less: Intangible Assets                   -               -             -
Tangible Net Worth                        17.53           18.41         84.84


Particulars                                  31.03.04         31.03.05         31.03.06
Net Sales                                    56.11            95.70            180.00
% Increase / Decrease                        71.1%            70.55%           88%
Net Profit After Tax                         0.57             0.89             8.62
% to Net Sales                               1.01%            0.93%            4.79%
Cash Accruals                                6.42             7.28             30.04
TNW excl Revaluation Reserve                 17.53            18.41            84.84
TOL / TNW Ratio                              1.33             1.82             1.18
NWC                                          14.41            18.47            40.35
Current Ratio                                2.57             2.40             3.69

1. Sales: As partners have been engaged in marketing the new technology to various

users for the initial 2/3 years vigorously and their efforts are started yielding results.

During the year 2005 the firm has obtained approval from BHEL, NTPC, and HAL for

use of its products – DSC & ESC. Agreement with NTPC through BHEL (Haridwar) is

exclusive supply (not to any other companies) for annual turnover of Rs. 250.00 Lacs.

The orders are of repetitive nature. Besides BHEL (Hyd) have also started placing sample

orders. The firm has also been able to secure orders from HAL (Koraptut) for DSC &


During the year up to Nov’05 the firm has already done sale of Rs. 100.00 lacs besides

the job work. Orders worth Rs. 150.00 lacs from BHEL (Haridwar) are on hand

scheduled to be completed before March’06. Completion of this of these orders will

enable the firm to achieve a sale of Rs. 250.00 lacs by this year end. This is acceptable.

2. Profit: Hitherto the net profit in terms of sales has been about 1.00%. Against this

backdrop the estimated profitability of 4.79% in the current appears unreasonable. During

discussion it is clarified that as the firm has shifted its focus from mare job work to direct

selling the margin will be high. In fact it has set up its own machining plant and has

secured approval from BHEL for the Quality of its own materials.

It used to pay for job works to other companies/firms for the machining purpose. This

payment was to the tune of 25% (appx) of the job work revenue. For the year 2005 as the

job work is being done in-house the expenses are estimated to be hardly 5%. Besides,

margin of direct selling of its materials is better. Moreover with increased sales the

marginal revenue would be proportionately high adding to the increased yield. In view of

the above factors we may accept the profitability estimates made by the firm. In the

coming 7 years the firm has estimated profitability ranging from 8.5% to 12.5%. This

appears to be on the higher side. As the sales are estimated to stabilize at Rs. 312.00 lacs

we may accept the profitability of 4.79% as acceptable for the year 2005. Accordingly the

net profit for the 2nd year would be Rs. 13.70 lacs and then Rs. 14.95 lacs p. a.

3. Cash Accrual: With addition to fixed assets the depreciation shall be high. Thus with

accepted profitability the accrual would be Rs. 30.00 lacs for the year 2005 followed by

Rs. 32.03 lacs, Rs. 30.62 lacs respectively. The position is acceptable.

4. TNW: Up to 2004-05 the TNW has been increasing with retention of profits. In the

year 2005 for the expansion plan the partner have agreed in bring in additional capital of

Rs. 46.00 lacs, Remaining Rs 20.00 lacs from internal accrual. We have discussed the

issue of infusion of capital by partners. It is informed that depending upon the advice of

their auditors they would be either increasing the amount of individual capital and/or

brings in unsecured loans from friends/relatives to be converted to capital over a period

of time. Since the existing work is being carried out from their own sources the branch is

advised to obtain a CA’s certificate certifying the amount investing that will be

   considered as their contribution. Since the cash accrual for the year 2005 is accepted at

   Rs. 30.00 lacs the remaining contribution of Rs. 20.00 lacs from partners appears


   5. TOL/TNW: The ratio has been below 2.00 up to 31.03.05 and with proposed capital

   infusion the same is estimated to be about 1.18 which is acceptable being well within

   benchmark level.

   6. NWC & C. R.: Both the parameters have been well above their respective benchmark

   levels and are estimated to improve further over the existing levels. It may be mentioned

   that even though the firm is increasing its production capacity and consequently sales it

   has not requested any additional working capital. During discussion it is gathered that

   with direct selling the payment term would be 90 % against supply of materials which

   would improve its cash flow and hence there will not be additional requirement of

   working capital. However the partners have informed that after the expansion is

   completed in March 06 they may approach us for additional working if required at that

   point of time.

   Thus the overall financial position of the firm is satisfactory.

   Assessment of present proposal: -

   A. Working capital assessment:

      A. Comments on: -

 i.   Sales projections: Already discussed.

ii.   Inventory & receivables: Except the receivables the firm has estimated other current

      asset as per past trend and hence acceptable. The holding level of receivables has

      been 1.5 month to 1.75 months sales. For the current year it has estimated the same to

   be 2.33 months. It is clarified that as the firm would be executing Rs 150.00 lacs

   worth of orders from BHEL in next 4 months ( At least Rs 80.00 lacs as accepted by

   us) there will be concentration of debtors at the year end. Hence the estimates appear

   reasonable. Creditors have been nil and are estimated to be nil too.

Against this background PBF is calculated as under.

   B. Working of MPBF: -


           Particulars                                31.03.04 31.03.05 31.03.06

                                                      Audited   Audited   Projected

           a. Total current assets                    23.61     31.70     55.35

           b. OCL Excl. short term BB                 0.09      0.15      -

           c. Working Capital Gap(a-b)                23.52     31.55     55.35

           d. Min. Stipulated NWC                     5.90      7.93      13.84

           (25% of TCA)

           e. Actual/Projected NWC                    14.41     18.47     40.35

           f. Item c-d                                17.62     23.62     41.51

           g. Item c-e                                9.11      13.08     15.00

           h. MPBF                                    9.11      13.08     15.00

           i. excess borrowings if any                -         -         -

Case Study 2:

Comparative Balance Sheet and Performance / Financial Indicators:

Bridged Balance Sheet:

                                                           (Rs in lacs)
Liabilities   31.03.04 31.03.05 31.03.06 Assets           31.03.04 31.03.05                 31.03.06
              (Audit) (Audit) (Estm)                      (Audit) (Audit)                   (Estm)
Capital       27.77    36.30    41.42    Net Block        3.10        2.45                  1.71
Unsec Ln      1.00     1.00     5.00     Advance/Deposits 0.34        0.34                  1.09
Term          1.18     0.68     -        Sundry Debtors   24.17       28.59                 58.69
Sundry        1.15       13.87      11.71       Stock                 34.52      59.92      70.36
Bank          29.75      45.80      100.00      Recurring Dep         0.75       1.53       1.60
Chits         6.20       -          -           Cash                  2.74       2.30       3.21
Other         1.63       4.24       3.86        OCA                   3.06       4.14       25.33
                                                Chits                 -          2.62       -
Total         68.68      101.89     161.99      Total                 68.68      101.89     161.99

                                  31.03.2004        31.03.05     31.03.06        31.03.07
Net Worth                         27.77             36.30        41.42           48.04
Less: Revaluation Reserves        -                 -            -               -
Less: Intangible Assets           -                 -            -               -
Tangible Net Worth                27.77             36.30        41.42           48.04


Particulars                        31.03.04          31.03.05      31.03.06       31.03.07
                                   (audited)         (audited)     (estimated)    (projected)
Net Sales                          720.26            1126.16       1749.64        1866.08
% Increase / Decrease                                56%           55%            6.63%
Net Profit After Tax               0.41              0.25          0.23           0.23
Cash Accruals                      3.87              3.51          4.81           4.74
TNW excl Revaluation Reserve       27.77             36.30         41.42          48.04
TOL / TNW Ratio                    1.47              1.81          2.91           2.49

NWC                                26.51         35.19          43.62           50.79
Current Ratio                      1.68          1.55           1.38            1.44

Net Sales: The firm deals in the products of Hindustan Lever Ltd and Bharti Tele Ltd

(Airtel). The estimated sale for 2004-05, as per last review, was Rs. 1405 lacs, with a

growth of 95% over previous year. However the actual sales were Rs. 1126 lacs, with a

growth of 56%. Achievement is 80%. In this connection, the firm has informed that the

estimated growth of 20% in Hindustan Lever products could not be achieved and hence

the variation. This is due to policy changes contemplated by HLL to reduce the no. of

dealers as well as product consolidation.

For the year 01.04.05 to 31.01.06, the firm has estimated a sale of Rs. 1749.64 lacs and

for the next year, projected a sale of Rs. 1866.08 lacs. Till September 05, the firm was

dealing in detergents, Lakme products of Hindustan Ltd and the products of Airtel. From

October 05, the firm added the business of personal of Hindustan Lever Ltd. The

performance of the firm during the year 01.04.05 to 31.01.06 is as under:

Detergent of Hindustan Lever Ltd                     : Rs. 536 lacs

Lakme of Hindustan Lever Ltd                         : Rs. 135 lacs

Personal products of HLL                             : Rs. 121 lacs (Oct 05 to Jan 06)

Airtel                                               : Rs. 642 lacs

Total                                                : Rs. 1434 lacs

Considering the actual sale of Rs. 1434 lacs in the first ten months the estimated sales of

Rs. 1750.00 lacs during the current year appears reasonable. As per the estimate, the

growth in sales during the year 05-06 is 55% compared to 04-05. in this connection, the

firm has informed that they were allotted more areas/jurisdiction by Hindustan Lever Ltd.

For the next year, the firm has projected a sale of Rs. 1866 lacs, with the break up of sales

as under:

Detergent of Hindustan Lever Ltd                      : Rs. 602 lacs (12.3% growth)

Lakme of Hindustan Lever Ltd                          : Rs. 168 lacs (24%)

Personal products of HLL                              : Rs. 388 lacs (7% annualized)

Airtel                                                : Rs. 708 lacs (10.28%)

Total                                                 : Rs. 1866 lacs

The growth of the sale projected for the next year is around 7%. The estimated/projected

sales, appears achievable in view of the performance of the firm in the past and during

the year till Jan 06.

Net Profit: The firm has been earning profits consistently, but the margin is very thin.

During 2004-05 the profitability further dropped as compared to its previous year mainly

due to competitive pricing in the consume/personal goods segments offered by various

companies. The profitability has been between 0.25% in 2004-05 and is estimated to be

0.23% in the year 2005-06 followed by similar trend in the next year. The trend is

estimated/projected to continue. Hence it is acceptable.

Tangible Net Worth: The firm has been maintaining the TNW at a satisfactory level.

Major portion of the profits are retained in the business. During the year 2005-06 the firm

has proposed to infuse additional capital of Rs. 2.00 lacs followed by Rs. 4.00 lacs in the

next year. The position is acceptable.

TOL/TNW: The ratio has been consistently below the bench mark level. However

compared to the previous years, the present level estimated/projected is higher in view of

view of the additional borrowings for the increased turnover. However the same is still

below the bench mark.

Net Working Capital: The firm has been maintaining NWC at more than 25% of TCA

level which is above the stipulated bench mark and is estimated to well within the bench

mark too. The firm has proposed infusion of addition unsecured loan of Rs. 4.00 lacs to

improve the NWC position. A suitable certificate from the CA is to be obtained to this

effect. An undertaking is to be obtained not to repay this unsecured loan during current of

our credit facilities.

Current Ratio: The firm has been maintaining current ratio at a satisfactory level.

Through the estimated level for the year 2005-06, is slightly lower compared to year

2004-05 – it is still above the bench mark level.

Thus overall financial position is satisfactory.

Assessment of Proposal:

    A. Working capital assessment

    Comments on:

           i.   Inventory:

                As per past trend, the level of stocks held by the firm is between 18 days

             to 20 days during last tow years and the same is estimated to be 15 days in this

             year 2005-06. This being an improvement over the past years is acceptable.

          ii.   Receivables:

          As per past trend, the level of credit allowed by the firm is between 0.30 to

      0.40 month’s sales. However the firm estimated/projected a higher level of

      0.54 month’s sale this level appears on the higher side and therefore bank

      recast the figures of receivables with a 0.40 month’s sales. Accordingly the

      acceptable level of debtors would be Rs. 58.50 lacs.

iii.      Other Current Assets:

          The current assets include cash and bank deposits (RD). The

      estimated/projected level of these assets is in conformity with the earlier


          Other than the above, the firm has another current asset in the form of

      ‘Claims Receivable’. These are amount receivables from M/s Hindustan Lever

      Ltd for any breakage in stock supplied. Till year 2004-05 the level was quite

      on lower side oaround Rs. 3 to 4 lacs. However during the year 2005-06 and

      2006-07, the firm has estimated/projected a higher level of Rs. 25 lacs and Rs.

      30 lacs respectively. In this connection the firm has informed that present

      outstanding claims receivable from Hindustan Lever Ltd is around 25 lacs and

      the level is likely to continue. The branch is to obtain a CA’s certificate in this


iv.       Sundry Creditors:

          The firm is reportedly not getting any credit from either Hindustan Lever

      Ltd of Airtel. However the firm has estimated/projected a level of Rs. 11 lacs

      for miscellaneous credits. The level is in conformity with the past trend.

 v.       Other Current Liability:

                 The other current liabilities include provisions for expenses and taxation.

              The estimated/projected level is in conformity with the past trend.

        vi.      Method Lending:

                 The method of lending is based on build up of current assets and

              liabilities, with second method of lending.

       vii.      Comments on NWC:

                 The estimated/projected NWC is adequate to meet the margin requirement

              of working capital.

              B. Working of MPBF:

    Particulars                    31.03.04                 31.03.05    31.03.06      31.03.07
                                   (audited)                (audited)   (Estimated)   (Projected)
A   Total Current Assets           65.24                    99.10       159.19        165.60
B   TCL (except bank borrowings)   8.98                     18.11       15.57         14.81
C   Working Capital Gap            56.26                    80.99       143.62        150.79
D   Minimum stipulated margin (25% 16.31                    24.78       39.80         41.40
    of TCA)
E   Actual/ estimated NWC          26.51                    35.19       43.62         50.79
F   Item (c-d)                     39.95                    56.21       103.82        109.39
G   Item (c-e)                     29.75                    45.80       100.00        100.00
H   MPBF (lower of above two)      29.75                    45.80       100.00        100.00
I   Excess borrowings, if any      -                        -           -             -

Case Study 3:

Comparative Balance Sheet and Performance / Financial Indicators:

                                                                      (Rs in lacs)

Liabilities   31.03.04   31.03.05   31.03.06      Assets   31.03.04    31.03.05      31.03.06
              Audited    Aud        Estm                   Audited     Aud           Estm
Capital       16.20      17.20      17.20         FA       30.59       46.97         64.37
Reserves      4.70       4.82       15.10         Depr.    6.63        12.26         21.25
Def tax       0.27       2.15       2.10
NW            21.17      24.17      34.40         Net      23.97       34.71         43.12
TL            1.92       8.99       10.66         Cash     5.34        6.02          6.77
Unsec Ln      14.16      18.17      16.71         RM
OTL                                               WIP
TTL           16.08      27.16      27.37         FG       10.64       11.33         24.50
Scred         3.49       6.06                     Rec-     7.23        12.70         40.80
Bk Borr                             25.00         Export
OCL           9.36       12.80      36.00         OCA      2.82        2.49          4.64
TCL           12.85      18.86      61.00         TCA      26.03       32.54         76.71
                                                  Oth      -           2.86          2.86
                                                  Oth      0.10        0.08          0.08
Tot Liab      50.10      70.19      122.77        Tot      50.10       70.19         122.77

                                            31.03.2004     31.03.05        31.03.06
* Net Worth                                 21.17          24.17           34.40
Less: Revaluation Reserves
Less: Intangible Assets                     0.10           0.08            0.08
Tangible Net Worth                          21.07          24.09           34.32


Particulars                                  31.03.04         31.03.05        31.03.06
Net Sales                                    75.35            61.21           204.00
% Increase / Decrease                        69.36%           -ve
Net Profit After Tax                         3.15             2.00            10.29
% to Net Sales                               4.18%            3.28%           5.04%
Cash Accruals                                6.03             7.63            19.29
TNW excl Revaluation Reserve                 21.07            24.09           34.32
TOL / TNW Ratio                              1.37             1.91            2.57
NWC                                          13.18            13.68           15.71
Current Ratio                                2.02             1.73            1.26


1. Sales: Sales mean service charges/ consultancy fees received for the NDT inspection

and course fees received for its various training programs on NDT. As mentioned earlier

the company is mainly doing NDT inspection of oil refineries of Reliance Industries,

ONGC, and NTPC. The consultancy fees depend upon the volume of machineries put

under NDT inspection. During 2004-05 the sales have declined due to this factor only. It

may be mentioned here that during the year the course fees have grown by 200% whereas

consultancy fees have declined by 65% (appx). In the year 2005-06 the company has

received contracts worth Rs 87.00 lacs from RIL for its Jamnagar Plant. The company

has estimated a sale of Rs 204.00 lacs comprising consultancy fee & component sale of

Rs 180.00 lacs and training fees of Rs 24.00 lacs. The training fee is slightly less than the

last year’s fees. As on 30.11.05 the company has already booked a sale of Rs129.00lacs.

Besides it has orders from small & medium companies. As such we are of the view that

the company would be in a position to achieve a sale of Rs150.00lacs. We may accept the

said level.

2. Net Profit: Profit margins in consultancy works are comparatively more. Therefore

with decline in consultancy fees the profitability has declined during 2004-05. During

2005-06 the company has estimated a net profit of Rs 10.29 lacs with profitability of

5.04%. The company officials have clarified that with increased sales and without any

additional cost the marginal revenue will be more. Moreover net profit as of 30.11.05 as

declared by the company has been Rs. 10.10 lacs. Accordingly the estimates appear


3. TNW: With 100% retention of net profit the TNW acceptable as on 31.03.06 would be

Rs. 34.40 lacs.

4. TOL/TNW: The ratio for the last three years has been below the bench mark and is

expected to be so in the current year too.

5. NWC & C.R: During 2002-03 sundry creditor’s mode of financing was resorted to by

the company for its working funds and partly for its fixed assets resulting in C.R. below

1.00. This imbalance is rectified in 2003-04 by raising capital and infusing unsecured

loans from directors and others. The position as at 31.03.05 is also above the respective

bench mark. However during the current year the company proposes to add fixed assets

from its internal accruals and partly out of its existing built up of NWC resulting in

reduction in NWC level to 20% of the TCA. Consequently current ratio is estimated at

1.26. In fact as the minimum acceptable NWC is 20% and current ratio is 1.25 the

proposed estimates can be acceptable as the purpose of utilization of NWC is for

acquiring fixed assets required for business purposes only.

Thus overall financial position is satisfactory.

 Assessment of Present Proposal:

  A. Working Capital Assessment:

A. Comments on:

  i.    Sales Projections: Already dealt with elsewhere in the note.

 ii.    Comments on NWC: Already discussed.


The company had requested for project specific working capital (CC) facility of Rs 25.00

lacs for its contract worth Rs 87.00 lacs from RIL which will be completed within 4

months. This job is completed. But the company is able to obtain similar contracts from

others like L&T, South Central railways etc in ensuing months for which it requires the

working capital. In fact for the next year it has estimated a sale of more than Rs. 200.00


As at 30.11.05 the TCA level is Rs. 62.57 lacs which is 49% of total sales as on that date.

For the current year it has estimated a TCA level of Rs. 76.71 lacs which works out to

51% of accepted sales level. Since the estimated level is more or less equivalent to the

actual level as on 30.11.05 we may accept the same. The company has estimated an OCL

level of Rs. 36.00 lacs which as per the actual level prevailing as on 30.11.05. This is

acceptable too. Accordingly PBF is arrived as under.

  i.   TCA level accepted        Rs76.71lacs

ii.    OCL                       Rs36.00lacs

iii.   WCG                       Rs40.71lacs

iv.    Required NWC (20%)        Rs15.34lacs

 v.    Estimated level           Rs15.71lacs

vi.    MPBF                      Rs25.00lacs.


    The requirement of working capital finance is ever increasing.

    Loans and advances formed a major portion of the current assets of the firm

      because of which the working capital gap is large.

    The bank prefers to use the second method of lending working capital under the

      MPBF rather than evolving their own method.

    In most of the cases, hypothecation and/or mortgage are used to create securities

      for the banks.

    Bank has their own internal credit rating procedure to rate the clients (Borrowers).

    After doing the assessment of the financial indicators it is up to the judgment of

      the top management of the bank to sanction such loan. The very decision could be

      against the assessment result.

    If the company is with bank from inception stage then they are given preference,

      as credible and loyal party over their financial indicators.

    There is a stiff competition to the nationalized banks from the foreign investors as

      their lending rates are much lower than nationalized banks.

    Today the foreign investors are very big threat to business and its existence.

    Bank of Maharashtra has kept a conservative look to banking.


    Closely monitoring and inspecting the activities and stocks of the borrowers from

      time to time can avoid the misuse of working capital

    While working out the working capital limits, banks must exclude the loans and

      advances from the current assets. The assessment should be done mainly stock

      and the inventory level of borrower.

    Bank must extend working capital finance through non-fund based facilities.

    Another ideal method would be to use LC as the primary source of extending,

      working capital clubbed with bill discounting. This would ensure that the credit is

      put to the right use by the borrower and repayment is guaranteed to the bank.

    The bank must further secure themselves by holding a second charge on all the

      fixed assets of the borrower.

    The time period taken by the banks to sanction the limits should be significantly

      reduced to allow the borrowers to make use of the credit when the need is most








         EDITION, 2000.



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