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thesis
CONTENTS
LIST OF TABLES
LIST OF TABLES
S.no Table title Page No.
1 Industry overall growth
2 Company Details
3 Research Report
LIST OF FIGURES
EXECUTIVE SUMMARY
Indian Railways (IR) has mixed operations – passenger and freight – that generate
resources for its development expenditure, as well as fully covering its operational costs.
This is in sharp contrast to most world railways that depend on a subsidy for operations
and development expenditure. While IR would strive to increase earnings through higher
throughput levels and generate more funds through its own resources, the constraints of
fixed expenditure, largely comprising staff related expenses and fuel costs make it
difficult to achieve the target. Operational and safety considerations dictate the need to
ensure adequate provision for working expenses. Global developments significantly
influenced the Indian economy after 2008-2009 and resulted in moderation in growth
compared with the robust growth in preceding years. IR is presently passing through a
difficult phase which began with the slowdown in the economy and implementation of
the Sixth Pay Commission's recommendations. While earnings continue to grow both in
the passenger and goods segments, the expenditure on account of increases in salaries,
allowances and pensions has been much higher than after previous Pay Commissions.
This case explores this difficult period for IR when there was a major increase in
operating expenditure largely due to the implementation of the recommendations of the
Sixth Central Pay Commission and because of the global economic slowdown.
CERTIFICATE OF COMPLETION
CHAPTER I
INTRODUCTION TO THE TOPIC
Railways Minister Suresh Prabhu presented his maiden Railway budget on Thursday
February 26, 2015. He did cheer passengers by not increasing fares but highlighted
different methods that the Railways in following to increase its revenues.
Planning Commission and its five-year plans may have been done away with by the
Narendra Modi government but Prabhu believes that making five year plans will help in
the transformation of Indian Railways.
With this budget, he marked the beginning of Five Year Action Plan. He spelled out a
total investment of Rs 8,56,020 crore between 2015 to 2019.
Since Prabhu did not raise passenger fares, he sought out other means to finance the
massive expansion plans of Indian Railways and its transformation project.
He said that the Railways will work with PSU and private organisations to access long
term money. He also said that Railways will seek better technology from overseas.
3. Funding
Prabhu said that to fund the Rs 8,56,020 crore investment, he has approached banks and
pension funds. He announced that multilateral banks and pension funds have shown very
keen interest in investing in Railways. The minister was hopeful that innovative channels
of financing like these will help Railways gather the much needed money it needs for its
transformation plan.
4. Operating ratios
Prabhu said that operating ratios of Indian Railways stood at 91.8% in 2014-15. He said
that these ratios have been the best so far and would be expected to be even better in next
financial year, at 88.5%.
5. Decentralisation
The minister said that Railways need quick decision-making and the work is going on to
make that happen. He said that work is being decentralised to achieve this goal. Human
resources training and development is also being taken up so that better governance
standards are enforced.
CHAPTER II
ABOUT INDIAN RAILWAYS
2.1 HISTORY
The first railway on Indian sub-continent ran over a stretch of 21 miles from Bombay to
Thane. The idea of a railway to connect Bombay with Thane, Kalyan and with the Thal and
Bhore Ghats inclines first occurred to Mr. George Clark, the Chief Engineer of the Bombay
Government, during a visit to Bhandup in 1843.
The formal inauguration ceremony was performed on 16th April 1853, when 14 railway
carriages carrying about 400 guests left Bori Bunder at 3.30 pm "amidst the loud applause of
a vast multitude and to the salute of 21 guns." The first passenger train steamed out of
Howrah station destined for Hooghly, a distance of 24 miles, on 15th August, 1854. Thus
the first section of the East Indian Railway was opened to public traffic, inaugurating the
beginning of railway transport on the Eastern side of the sub-continent.
In south the first line was opened on Ist July, 1856 by the Madras Railway Company. It ran
between Vyasarpadi Jeeva Nilayam (Veyasarpandy) and Walajah Road (Arcot), a distance
of 63 miles. In the North a length of 119 miles of line was laid from Allahabad to Kanpur on
3rd March 1859. The first section from Hathras Road to Mathura Cantonment was opened to
traffic on 19th October, 1875.
These were the small beginnings which is due course developed into a network of railway
lines all over the country. By 1880 the Indian Railway system had a route mileage of about
9000 miles. INDIAN RAILWAYS, the premier transport organization of the country is the
largest rail network in Asia and the world's second largest under one management.
Indian Railways is a multi-gauge, multi-traction system covering the following:
With a view to complete strategically important projects within a stipulated period of time, a
non-budgetary investment initiative for the development of Railways has been launched..
Under the scheme all the capacity bottlenecks in the critical sections of the railway network
will be removed at an investment of Rs.15,000 crore over the next five years. These projects
would include:
1.Strengthening of the golden Quadrilateral to run more long-distance mail/express and
freight trains at a higher speed of 100 kmph.
4.Accelerated completion of those projects nearing completion and other important projects.
New Steps towards Safety and Security :
Safety of 13 million passengers that Indian Railways serve every day is of paramount
importance to the system. Over the years, apart from the regular safety norms followed, the
network has taken a number of steps through innovative use of technology and stepped up
training to its manpower to enhance safety standards. Constitution of Rs.17,000 crore non-
lapsable Special Railway Safety Fund (SRSF) to replace the arrears of aging assets of
Railways over the next six years has been a historical move in this direction. A number of
distressed bridges, old tracks, signalling system and other safety enhancement devices will
be replaced during this period. As far as budget allocation for safety is concerned, Rs.1,400
crore was allocated in the revised estimate for the year 2014-2015 and Rs.2,210 crore for the
year 2015-2016. Extensive field trials of the Anti-Collision Device (ACD), indigenously
developed by Konkan Railway, is going on and once deployed across the Zonal Railways,
this innovative technology will help railways reduce accidents due to collision between
trains.
The financial position of Indian Railways has been slowly but steadily improving. Some of
the highlights of the financial performance during 2014-2015 include: improved operating
ratio from 98.8 per cent to 96.6 per cent, savings in ordinary working expenses of Rs.1,487
crore, Depreciation Reserve Fund (DRF) balance goes up from Rs. 78.04 crore during
March last year to Rs.632.99 crore during same time this year. Railways have established a
new milestone in incremental freight loading during July this year by carrying 5.70 million
tonnes of goods. Freight loading for the last financial year crossed the target and attained
492.31 million tonnes.
To take care of the unreserved segment of the passengers, a new pilot project on computer
based unreserved ticketing has been launched this year. Of the 13 million passengers served
by the network everyday, nearly 12 million are unreserved passengers. To cater to this huge
segment, computer based ticketing systems has been launched for all stations in Delhi area
and in due course throughout the country. With this, unreserved tickets can be issued even
from locations other than the boarding station and will reduce crowds at booking offices and
stations.
Indian Railway Catering and Tourism Corporation
with the assistance of Centre for Railway Information Systems has launched On-line
ticketing facility which can be accessed through website irctc.co.in. Computerized
reservation facilities were added at 245 new locations. At present these facilities are
available at 758 locations in the country covering about 96 per cent of the total workload of
passenger reservation. Computerized Reservation related enquiries about accommodation
availability, passenger status, train schedule, train between pair of stations etc. have been
made web enabled.
A pilot project for issuing monthly and quarterly season tickets through Automated Teller
Machines (ATMs) has been launched in Mumbai this year and has been found very
successful. Another pilot project for purchasing tickets including monthly and quarterly
season tickets through Smart Card has also been launched.
"National Train Enquiry System" has been started in order to provide upgraded passenger
information and enquiries. This system provides the train running position on a current basis
through various output devices such as terminals in the station enquiries and Interactive
Voice Response System (IVRS) at important railway stations. So far the project has been
implemented at 98 stations.
Railways have established their own intra-net 'Railnet' It provides networking between
Railway Board, Zonal Headquarters, Divisional headquarters, Production Units, Training
Centers etc.
Sterling Performance by PSUs The public sector undertakings of the Railways, especially
IRCON and RITES, scored commendable achievements during the last three years. IRCON
International has achieved a record turnover of Rs.900 crore during 2014-2015 and the
foreign exchange earnings of this prestigious organization has increased six fold over the
years. At the international level, IRCON is at present executing different projects in
Malaysia, Bangladesh and Indonesia. The PSU has registered a strong presence in the
international scenario by its sterling track record.
RITES, another prestigious PSU under the Ministry has scaled new heights in performance,
profit and dividend to the shareholders during the last three years. Its turn over increased
from Rs.172 crore in 1999 to Rs.283 crore in 2002. RITES for its sterling performance
secured the prestigious ISO-9001 Certification this year. The company has also entered into
export/leasing of locomotives in different countries in Asia and Africa. RITES is operating
all over the world including Columbia, UK, Iran, Malayasia, Myanmar, Bangladesh, Sri
Lanka, Tanzania, Uganda, Ethiopia, Turkmenistan and Uzbekistan.
Indian Railways Finance Corporation Limited secured excellent rating for fourth year in
succession by the Department of Public enterprises on the basis of the performance targets.
Besides, Standards and Poor's, the international credit rating agency, also reaffirmed the
sovereign ratings to IRFC. The Corporation has been making profits and paying dividends.
Indian Railway Catering & Tourism Corporation ( IRCTC ) Internet based ticket
booking has been launched by IRCTC in Delhi, Chennai, Bangalore, Mumbai and Calcutta
this year. Hygienic and air-conditioned food plazas having consumer-friendly ambience
opened at Pune and Chennai and license for similar plazas awarded for 17 more locations. In
all, 50 such plazas will be opened by the end of this financial year across the zonal
Railways. Railneer - packaged drinking water is to be made available from December this
year.
More than half a lakh tourists have availed the value added tour package programme
launched by the Corporation this year.
Konkan Railway Corporation (KRC), the technological marvel of Indian Railways, has
invented quite a few new technologies. Anti Collision Device (ACD), state-of-art indigenous
technology of KRC is currently under-going intensive field trials and is capable of avoiding
collision between trains. Sky bus metro is another innovative, economic and eco-friendly
mass rapid transportation solution devised by Konkan Railway. Self Stablising Track (SST)
devised by KRC, which is undergoing trials at present, will help Railways run the fastest
train in the near future and will make tracks much more safe and sustainable.
The participation of both private and public sectors in developing rail infrastructure has gone
up. A joint venture company was formed with Pipava Port authorities to provide broad
gauge connectivity to Pipava Port. MoUs have been signed between Ministry of Railways
and the State governments of Andhra Pradesh, Karnataka, Maharashtra, West Bengal, Tamil
Nadu and Jharkhand in developing rail infrastructure in these States.
Telecommunication - New Trends :
To give improved telecommunication systems on Railways, Optical Fibre based
communication systems has been adopted and laying OFC has increased to 7,700 route
kilometer this year. Rail Tel Corporation has been created to make a nationwide broadband
multimedia network by laying optical fibre cable along the railway tracks. This system will
provide better operational and passenger amenities and additional revenue to Railways.
New Technologies :
India became the first developing country and the 5th country in the world to roll out the
first indigenously built "state-of-the-art" high horse power three phase electric locomotive
when the first such loco was flagged off from Chittranjan Locomotive Works (CLW). CLW
has been achieving progressive indigenisation and the cost of locomotives has come down to
the level of Rs.13.65 crore.
Diesel Locomotives Works, Varanasi has produced state-of-the-art 4000 HP AC/AC diesel
locomotive in April this year. These locos are capable of hauling 4,800 tonne freight trains
at a speed of 100 KMPH and can run continuously up to 90 days in one stretch without any
major maintenance.
Indian Railways achieved a number of recognitions and awards in sports, tourism sector and
for excellence in operational matters. In the Common Wealth Games in Manchester, the
Indian teams record performance has been mainly due to Railway team's excellence in
sports. Except one member the entire women's Hockey team which bagged the gold medal
belonged to Railways. Mohd Ali Qamar of Indian Railways has bagged gold medal for
boxing and other participants from Railways helped India win medals in many a team
events. A number of sportspersons from Railways were conferred with the coveted Arjuna
Awards and other major sports awards.
Darjeeling Himalayan Railways attained the World Heritage Status from UNESCO.
Fairy Queen, the oldest functioning steam engine in the world, which finds a place in the
Guinness Book of World Records, got Heritage Award at the International Tourist Bureau,
Berlin in March, 2000. On operational front, Delhi Main station entered the Guinness Book
for having the world's largest route relay interlocking system.
Social obligations and care for weaker sections
Senior citizens, students, disabled persons etc. enjoy concessional benefits from Railways.
New initiatives in this area during the last three years include reduction of age limits for
special concession to senior women citizen from 65 to 60 years, blind and mentally
challenged persons can now travel in AC classes on confessional rates. Free second class
Monthly Season Tickets (MSTs) for school going children upto tenth standard for travel
between home and school was also introduced.
Indian Railways is in constant touch with Railways across the world to bring in state-of-art
facilities in its system. Towards this, a Memorandum of Understanding was singed during
the Eighth Session of the Indo-Austria Joint Economic Commission held in Vienna. This
seeks to promote and deepen long-term infrastructure-specific cooperation between Indian
and Austrian Railways to their mutual benefit.A three-day International Conference of
Union of Railways was organised by Indian Railways in New Delhi in which hundreds of
delegates from various industries and Railways around the world participated.
RLY UNIT
GM/ CAO/ DIR.
SERVICE
CENTRAL
S K JAIN
IRSE
EASTERN
G C AGARWAL
IRSE
NORTHERN
V K GUPTA
IRSE
NORTH EASTERN
V RAMACHANDRAN (L/A)
IRSS
NF
R S VIRDI
IRSME
N F (CONS.)
A K VERMA (L/A)
IRSE
SOUTHERN
A K MITTAL (L/A)
IRSE
SOUTH CENTRAL
G N ASTHANA
IRSME
SOUTH EASTERN
A K VERMA
IRSME
WESTERN
MAHESH KUMAR
IRSSE
CLW
RADHEY SHYAM
IRSE
DLW
B P KHARE
IRME
ICF
ABHAY KUMAR KHANNA
IRAS
RCF
B N RAJASEKHAR
IRSME
RAIL WHEEL FACTORY
RAJEEV BHARGAVA
IRSE
CORE / ALD
JAGDEV KALIA
IRSEE
METRO / KOLKATA
RADHEY SHYAM (L/A)
IRSE
RDSO / LKO
V RAMACHANDRAN
IRSS
RSC / VADODARA
NIRAJ KUMAR
IRSME
EAST CENTRAL
VARUN BHARTHUAR
IRSME
EAST COAST
INDRA GHOSH
IRTS
NORTH CENTRAL
ALOK JOHRI
IRSME
NORTH WESTERN
R C AGARWAL
IRSSE
SOUTH EAST CENTRAL
ARUNENDRA KUMAR
IRSME
SOUTH WESTERN
A K MITTAL
IRSSE
WEST CENTRAL
S V ARYA
IRTS
COFMOW (CAO/R)
P K AGARWAL HAG
IRSME
D M W (CAO/R)
A K Kansal HAG
IRSME
IRIEEN / NASIK
R K MEHTA
IRSEE
IRIMEE / JAMALPUR
B L RAIKWAR, HAG
IRSME
IRICEN / PUNE
C P TAYAL, HAG
IRSE
IRISET / SEC.
SATYENDRA KUMAR, HAG
IRSSE
IRITM / LKO
Ms.ASHIMA SINGH, SAG
IRTS
CAMTECH /GWALIOR
A R TUPE, ED / SAG
IRSME
FUTURE PLANS
157-year-old Indian Railways spearhead the reforms without tears that even many a
public sector undertakings in the country dared not to do even today? The candid
comment of the Railways minister Mamata Bannerjee that of passengers and essential
goods and commodities have to be spared from any fare/freight hike, it has to invite
country’s corporate sector, investors to invest in the new projects that the Railways either
have decided or are intending to take up in near future keeping its Vision 2020 in broader
perspective. She is one to place social responsibility over and above every other things
and to attain that she has to call for private sector participation in railway projects without
diluting the importance and position of the Indian railways as one of the prime movers of
Indian economy. PPP model is not anyway sending any message that “Railway is going
for privatization, it will remain a Government organization”.
Assuring investment proposals be cleared with 100 days for which a Special Task Force
is being set up, Mamata said private investment policy guidelines will be made easy,
simple and investment friendly. One could gauge the speed at which and massive funds
that would required to spruce up 157-year-old rail network to achieve Vision 2020 : The
route-kms of the Railways was 53,596 kms in 1950. After a span of 58 years, it now
stands at only 64,015 kms adding just 10,419 kms an annual average of only 180 kms.
"Should commercial viability be only criterion to judge this need of connectivity?
Or, should social responsibility be an important consideration? I prefer the latter",
she told the members of Parliament while presenting Budget on February 24, 2017.
In her Budget speech the minister said the Railways needs connectivity for industries,
ports, tourist centres, universities, religious places, coal mines etc. and that is why the
Ministry has set a target to add 25,000 kms of new lines in the next ten years as outlined
in Vision 2020. For the first time ever, in line with this vision, Railways is planning a
major jump to complete 1,000 route-kms of new lines in one year with the limited
resources. “This is a path-breaking step, considering the annual average of 180 route-kms
of new lines in the last 58 years and 219 route-kms in the last five years”, she said.
Railways is developing crashworthy coaches and locomotives and will provide automatic
fire and smoke detection system in 20 pairs of long-distance trains as pilot project.
Manning of further 1,000 level crossing will be taken up during the budget year. She
announced that in coming five years, all the unmanned level crossing will be manned. 12
companies of women RPF, ‘Mahila Vahini’ will be raised for security of women
passengers.
Reiterating her commitment for the welfare of railway employees, she said that a new
scheme “House for All” will provide residence to all railway employees in the next 10
years with the help of Ministry of Urban Development. 522 hospitals and diagnostic
centres, 50 Kendriya Vidyalayas, 10 residential schools on the pattern of Navodaya
Vidyalaya, model degree colleges and technical and management institutions of national
importance will be set up for the benefit of railway employees. She also proposed
extension of ‘Rashtriya Swasthya Bima Yojana’ to all licenced porters, vendors and
hawkers. She also proposed setting up a Railway Cultural and Heritage Promotion Board
and Shambhu Mitra Cultural Complex at Howrah for the employee. Rabindra Museum at
Howrah and Gitanjali Museum at Bolpur are also proposed to mark the 150th birth
anniversary of Rabindranath Tagore, she said.
In order to upgrade railway infrastructure a centre for Railway Research will be set up at
IIT, Kharagpur for research in key areas of railway technology and a state-of-the art
advanced loco pilot training centre at Kharagpur and an advanced railway track training
centre at Beleghata in West Bengal. To overcome of the shortage of coaches, new coach
factories are being set up at Rae Bareilly, Kancharapara and Palakkad. A wagon repair
shop will be set up at Badnera and a new Rail Axle Factory will be set up at New
Jalpaiguri through PPP or Joint Venture mode. Besides 5 state-of-the-art wagon factories
also through joint venture and PPP mode at Sikandrabad, Barddhaman,
Bhubneshwar/Kalahandi, Guwahati and Haldia. ‘Kisan Vision Project’ for manufacturing
refrigerated container for carrying agricultural products so that farmers are not forced for
distress sale of their produce.
So far as new initiatives for freight business are concerned, Railways will introduce a
modified wagon investment scheme for high capacity general purpose and special
purpose wagons for carrying iron ore, coal and cement. A scheme to run special freight
train by private operators for commodities such as automobiles, vegetable oil, molasses,
chemicals and petrochemicals will be notified. A premium Tatkal Service for parcel and
freight movement besides special wagons for iron ore, fly ash, automobiles will also be
introduced.
In order to promote industrial activity, Railways would welcome investment through PPP
mode for providing rail connectivity to important ports. Additional 2,000 kms. routes will
be electrified within two years. Work on adding another 12,000 kms. in existing Optical
Fibre Cable network of the Railways is in progress. The balance 15,000 kms. is proposed
to be taken through PPP mode, thus covering entire railway network.
Announcing upgradation and modernization of Kolkata Metro, the only Metro with
Indian Railways, the Minister said that Metro Station at Park Circus, Maidan, M.G. Road,
Chandni Chowk and Rash Behari will be remodeled and network will be extended at four
sections. The Railway Minister also announced augmentation of sub-urban train services
in Mumbai, Chennai and Kolkata.
Kumari Mamata Banerjee proposed special trains – Sanskriti Express, across the country,
to mark 150th birth anniversary of Rabindranath Tagore, Matribhoomi Express trains for
ladies in Kolkata, Chennai, New Delhi and Mumbai and Karmabhoomi trains, unreserved
trains for common people between Darbhanga-Mumbai, Guwahati-Mumbai and New
Jalpaiguri-Amritsar. Similarly, Janmabhoomi Trains specially for uniformed persons,
between Ahmedabad and Udhampur, Bharat Tirth Trains for tourists connecting popular
sites in different parts of the country will be introduced during the year.
Four new Durontos (very high speed) trains would be introduced between Chandigarh
and Amritsar, between Chennai and Coimbatore, between Puri and Howrah and between
Howrah and Digha.
The minister also announced reduction of service charges maximum to Rs.10 for Sleeper
Class and Rs.20 for AC Class. She also announced 100 per cent concession for cancer
patients going for treatment together with an escort in AC 3 class. Technicians of
regional film industry when traveling for film production related work will also be
eligible for 75 percent concession in second sleeper and 50 percent concession on other
classes in all trains.Concession under Izzat scheme, for press correspondents and students
of madrasas will continue.
OBJECTIVE
To analyze how Indian Railway develop financial ability to pay its obligation to
creditors and other third parties in the long-term.
To analyze how Indian Railway Acquire or rent/lease certain land or building and
equipment of its mobile services.
To study the concept of making financial decisions regarding investing or lending
capital;
To Study how Indian Railways is maintain positive cash flow, while satisfying
immediate obligations
RESEARCH METHODOLOGY
SAMPLE SIZE
SECONDARY DATA
A secondary data is that data that is required to conduct the study and can be obtained
from books, journals, magazines, records etc. Secondary data is data taken by the
researcher from secondary sources, internal or external. Secondary data is collected from
following sources: -
1) Magazines and journals
2) Company websites.
3) Internet
4) Books
LIMITATION
Many constraints were involved in doing this study. Some of them are as follows.
The most significant limitation has been the individuals involved in this study
were very busy and did not spare much time in discussion.
The sample size selected for the survey was too small as compared to large
population.
The project was carried out only in the Delhi, so findings on data gathered can be
best true for Delhi only and not applicable to other parts of state and country.
Indian stock market is a market where sentiments play a major role in price; hence 100%
accurate predictions cannot be made about its future path
CHAPTER-IV
LITRATURE REVIEW
“Investment” or “Investing”, like value is a word of many meanings. Evolution of new
investment concepts would result a dramatically change of the whole investment scene
over next few years. Basically, there are three concepts of investment:
Current Liabilities:
a) Sundry Creditors
b) Trade Advances
c) Borrowings
d) Commercial Banks
e) Provisions
Given the objective of financial decision making to maximise the shareholders’ wealth , it
is necessary to generate sufficient profits . The extent to which profits can be earned will
naturally depend , among other things , upon the magnitude of sales . A successful sales
program is , in other words , necessary for earning profits by any business enterprise .
However , sales do not convert into cash instantly ; there is invariably a time lag between
sale of goods and the receipt of cash . There is therefore , a need for working capital in
the form of current assets to deal with the problem arising out of the lack of immediate
realisation of cash against goods sold . Therefore sufficient working capital is necessary
to sustain sales activity . Technically this is referred to s operating cycle . The operating
cycle can be said to be at the heart of the need for the working capital . In other words the
operating cycle refers to the length of time necessary to complete the following cycle of
events :
a) Conversion of cash into raw materials;
b) Conversion of raw materials to inventory ;
c) Conversion of inventory into receivables ;
d) Conversion of receivables into cash .
If it were possible to complete the sequences instantaneously , there would be no need for
current assets (working capital) . But since it is not possible , the firm is forced to have
current assets . Since the cash inflows and outflows do not match , firms have to
necessarily keep cash or invest in short term liquid securities so that they will be in
position to meet obligations when they become due . Similarly , firms must have
adequate inventory to guard against the possibility of not being able to meet demand for
their products . Adequate inventory , therefore, provides a cushion against being out of
stock . If firms have to be competitive , they must sell goods to their customer on credit
which necessitates the holding of accounts receivables . It is in these ways that an
adequate level of working capital is absolutely necessary for smooth sales activity which ,
in turn , enhances the owner’s wealth .
The working capital needs of a firm are influenced by numerous factors . The important
ones are
i) Nature of business : The working capital requirement of a firm is closely
related to the nature of business . A service firm , like electricity undertaking
or a transport corporation which has a short operating cycle and which sells
predominantly on cash basis , has a modest working capital requirement . On
the other hand , manufacturing concern like a machine tools unit , which has a
long operating cycle and which sells largely on credit has a very substantial
working capital requirement .
ii) Seasonality of Operation : Firms which have marked seasonality in there
operations usually have highly fluctuating working capital requirement . For
example , consider a firm manufacturing air conditioners . The sale of air
conditioners reaches the peak during summer months and drops sharply
during winter season . The working capital need of such a firm is likely to
increase considerably in summer months and decrease significantly during
winter period . On the other hand , a firm manufacturing consumer goods like
soaps , oil , tooth pastes etc. which have fairly even sale round the year , tends
to have a stable working capital need .
iii) Production Policy : A firm marked by pronounced seasonal fluctuation in its
sale may pursue a production policy which may reduce the sharp variations in
working capital requirements . For example a manufacturer of air conditioners
may maintain steady production through out the year rather than intensify the
production activity during the peak business season . Such decision may
dampen the fluctuations in working capital requirements .
iv) Market Conditions : When competition is keen , larger inventory of finished
goods is required to promptly serve the customers who may not be inclined to
wait because other manufacturers are ready to meet their needs . Further
generous credit terms may have to be offered to attract customers in highly
competitive market . Thus , working capital needs tend to be high because of
greater investment in finished goods inventory and accounts receivable .
If the market is strong and competition is weak , a firm can manage with smaller
inventory of finished goods because customers can be served with delay . Further in such
situation the firm can insist on cash payment and avoid lock up of funds in accounts
receivables – it can even ask for advance payment , partial or total .
v) Conditions of Supply : The inventory of raw material , spares and stores
depends on the conditions of supply . If supply is prompt and adequate , the
firm can manage with small inventories . However if the supply is
unpredictable and scant then the firm , to ensure continuity of production ,
would have to acquire stocks as and when they are available and carry large
inventories on an average . A similar policy may have to be followed when
the raw material is available only seasonally and production operations are
carried out round the year .
The Operating cycle of the firm begins with the acquisition of raw materials and ends
with the collection of receivables . It may be divided into four stages a) raw material and
stores storage stage , b) work-in-progress stage , c) finished goods inventory stage and
d) debtors collection stage .
Duration of operating cycle : The duration of operating cycle is equal to the sum of the
duration of each of these stages less the credit period allowed by the suppliers to the firms
. It can be given as
O=R+W+F+D–C
Where O = Duration of operating cycle
R = Raw material and stores storage period
W = Work-in-progress period
F = Finished goods storage period
D = debtors collection period
C = Creditors payment period
The two components of working capital (WC) are current assets (CA) and current
liabilities (CL) . They have a bearing on the cash operating cycle . In order to calculate
working capital needs, what is required is the holding period of various types of
inventories , the credit collection period and the credit payment period . Working capital
also depends on the budgeted level of activity in terms of productivity / sales . The
calculation of WC is based on the assumption that the productivity is carried on evenly
throughout the year and all costs accrue similarly . As the working capital requirements
are related to the cost excluding depreciation and not to the sale price , WC is computed
with reference to cash cost . The cash cost approach is comprehensive and superior to the
operating cycle approach based on holding period of debtors and inventories and payment
period of creditors .
Raw Material Inventory : The investment in raw materials inventory is estimated on the
basis of ,
Finished Goods Inventory : Working capital required to finance the finished goods
inventory is given by factor as below
Debtors : The WC tied up in debtors should be estimated in relation to total cost price
(excluding depreciation) , symbolically
Cash and Bank Balances : Apart from WC needs for financing inventories and
debtors , firms also find it useful to have some minimum cash balances with them . It is
difficult to lay down the exact procedure of determining such an amount . This would
primarily based on the motives for holding cash balances of the business firm , attitude of
management toward risk , the access to the borrowing sources in times of need and past
experience , and so on .
Trade Creditors :
Budgeted yearly Raw material Credit period
Production X requirement X allowed by creditors
( in units ) per unit ( months / days )
12 months / 365 days
Note : proportional adjustment should be made to cash purchase of raw materials.
Direct Wages :
Budgeted yearly Direct Labour Average time-lag in
Production X cost per unit X payment of wages
( in units ) ( months / days )
12 months / 365 days
The average credit period for the payment of wages approximates to a half-a-month in the
case of monthly wage payment: The first days’ wages are , again , paid on the 30 th day of
the month , extending credit for 28 days and so in . Average credit period approximates to
half-a-month .
The amount of overheads may be separately calculated for different types of overheads .
In case of selling overheads , the relevant item would be sales volume instead of
production volume .
In evaluating firm’s net working capital position an important consideration is the trade-
off between profitability and risk . In other words , the level of NWC has a bearing on
profitability as well as risk . The term profitability used in this context is measured by
profit after expenses . The term risk is defined as the profitability that a firm will become
technically insolvent so that it will not be able to meet its obligations when they become
due for payment .
The risk of becoming technically insolvent is measured using NWC . It is assumed that
the greater the amount of NWC , the less risk prone the firm is . Or , the greater the NWC
, the more liquid is the firm and , therefore , the less likely it is to become technically
insolvent . Conversely , lower level of NWC and liquidity are associated with increasing
level of risk . The relationship between liquidity , NWC and risk is such that if either
NWC or liquidity increases , the firms risk decreases .
Nature of Trade-Off :
If a firm wants to increase its profitability , it must also increase its risk . If it is to
decrease risk , it must decrease profitability . The trade-off between these variables is that
regardless of how the firm increases profitability through the manipulation of WC , the
consequence is a corresponding increase in risk as measured by the level of NWC .
In evaluating the profitability-risk trade-off related to the level of NWC , three basic
assumptions which are generally true , are a) that we are dealing with a manufacturing
firm , b) that current assets are less profitable than fixed assets and c) the short term funds
are less expensive than long term funds .
Effect of the Level of Current Assets on the Profitability-Risk Trade-Off :
The effect of the level of current assets on profitability-risk and trade-off can be shown
using the ratio of current assets to total assets . This ratio indicates the percentage of total
assets that are in the form of current assets . A change in the ratio will reflect a change in
the current assets . It may either increase or decrease .
After determining the level of Working Capital, the firm has to decide how it is to be
financed. The need for finance arises mainly because the investment in working
capital/current assets, that is, raw material, work-in-progress, finished goods and
receivables typically fluctuates during the year. Although long-term funds partly finance
current assets and provide the margin money for working capital, such working capitals
are virtually exclusively supported by short term sources. The main sources of working
capital financing are namely, Trade credits, Bank credits and commercial bankers.
1. Trade Credit
Trade credit refers to the credit extended by the supplier of goods and services in the
normal course of business of the firm. According to trade practices, cash is not paid
immediately for purchases but after an agreed period of time. Thus, trade credit
represents a source of finance for credit purchases.
There is no formal/specific negotiation for trade credit. It is an informal agreement
between the buyer and the seller. Such credit appears in the books of buyer as sundry
creditors/accounts payable. The most of the trade credit is on open account as accounts
payable, the supplier of goods does not extend credits indiscriminately. Their decision as
well as the quantum is based on a consideration of factors such as earnings record over a
period of time, liquidity position of the firm and past record of payment.
Advantages
i) It is easily, almost automatically available.
ii) It is flexible and spontaneous source of finance.
iii) The availability and the magnitude of trade credit is related to the size of
operation of the firm in terms of sales/purchases.
iv) It is also an informal, spontaneous source of finance.
v) Trade credit is free from restrictions associated with formal/negotiated source of
finance/credit.
2. Bank Credit
Bank credit is primarily institutional source of working capital finance in India. In fact, it
represents the most important source for financing of current assets. Working Capital
finance is provided by banks in five ways :
(a) Cash Credit / Overdrafts : Under cash credit/ overdraft
agreement of bank finance, the bank specifies a
predetermine borrowing/credit limit. The burrower can
burrow upto the stipulated credit. Within the specified
limit, any number of drawings are possible to the extent of
his requirements periodically. Similarly, repayment can be
made whenever desired during the period. The interest is
determined on the basis of the running balance/amount
actually utilized by the burrower and not on the sanctioned
limit. However, a minimum charge may be payable on the
unutilized balance irrespective of the level of borrowing for
availing of the facility. This type of financing is highly
attractive to the burrowers because, firstly, it is flexible in
that although borrowed funds are repayable on demand,
and, secondly, the burrower has the freedom to draw the
amount in advance as an when required while the interest
liability is only on the amount actually outstanding.
However, cash credit/overdraft is inconvenient to the banks
and hampers credit planning. It was the most popular
method of bank financing of working capital in India till
the early nineties. With the emergence of the new banking
since mid-nineties, cash credit cannot at present exceed
20% of the maximum permissible bank finance
(MPBF)/credit limit to any borrower.
(b) Loans : under this arrangement, the entire amount of
borrowing is credited to the current account of the borrower
or released in cash. The borrower has to pay interest on the
total amount. The loans are repayable on demand or in
periodic installments. They can also be renewed from time
to time. As a form of financing, loans imply a financial
discipline on the part of the borrowers. From a modest
beginning in the early nineties, at least 80% of MPBF must
be in form of loans in India.
(c) Bills Purchased/Discounted : This arrangement is of
relatively recent origin in India. With introduction of the
New Bill Market Scheme in 1970 by RBI, bank credit is
being made available through discounting of usance bills
by banks. The RBI envisaged the progressive use of bills as
an instrument of credit as against the prevailing practice of
using the widely-prevalent cash credit arrangement for
financing working capital. The cash credit arrangement
gave rise to unhealthy practices. As the availability of bank
credit was unrelated to production needs, borrower enjoyed
facilities in excess of their legitimate needs. Moreover, it
led to double financing. This was possible because credit
was taken form different agencies for financing the same
activity. This was done, for example, by buying goods on
credit from suppliers and raising cash credit b
hypothecating the same goods. The bill financing is
intended to link credit with sale and purchase of goods and,
thus eliminate the scope for misuse or diversion of credit to
other purposes.Before discounting he bill, the bank satisfies
itself about the credit worthiness of the drawer and the
genuineness of the bill. To popularize the scheme, the
discount rates are fixed at lower rates than those of cash
credit. The discounting banker asks the drawer of the bill to
have his bill accepted by the drawee bank before
discounting it. The later grants acceptance against the cash
credit limit, earlier fixed by it, on the basis of the
borrowing value of stocks. Therefore, the buyer who buys
goods on credit cannot use the same goods as a source of
obtaining additional bank credit.
The modus operandi of bill finance as a source of working capital financing is that a bill
that arises out of a trade sale-purchase transaction on credit. The seller of goods draws the
bill on the purchaser of goods, payable on demand or after a usance period not exceeding
90 days. On acceptance of the bill by the purchaser, the seller offers it to the bank for
discount/purchase. On discounting the bill, the bank releases the funds to the seller. The
bill is presented by the bank to the purchaser/acceptor of the bill on due date for payment.
The bills can be rediscounted with the other banks/RBI. However, this form of financing
is not popular in the country.
d) Term Loans for Working Capital : Under this arrangement, banks advance loans
for 3-7 years payable in yearly or half-yearly installments.
e) Letter of Credit : While the other forms of bank credit are direct forms of financing
in which banks provide funds as well as bear risk, letter of credit is an indirect form
of working capital financing and banks assume only the risk, the credit being
provided by the suppliers himself.
The purchaser of goods on credit obtains a letter of credit from a bank. The bank
undertakes the responsibility to make payment to the supplier in case the buyer fails to
meet his obligations. Thus , the modus operandi of letter of credit is that the supplier sells
goods on credit/extends credit to the purchaser, the bank gives a guarantee and bears risk
only in case of default by the purchaser.
3. Mode of Security
After mid-nineties, the framework for regulation of bank credits has been relaxed
permitting banks greater flexibility in tune with the emergence of new banking in the
country, focusing on viability and profitability in contrast to the earlier thrust on
social/development banking. The notable features of the framework/regulation related to
fixation of norms for bank lending to industry. The norms are:
a) Inventory and Receivable Norms : The norms refer to the maximum level for
holding inventories and receivables in each industry. Raw materials were
expressed as so many months consumptions; WIP as so many month’s cost of
production; finished goods and receivables as so many months of cost of sales and
sales respectively. These norms represent the maximum levels of holding
inventory and receivables in each industry. Borrowers were not expected to hold
more than that level. The fixation of these norms was, thus, intended to reduce the
dependency of industry on bank credit.
b) Lending Norms/Approach to Lending/MPBF : According to the lending
norms, a part of the current assets should be financed by the trade credit and other
current liabilities. The remaining part of the current assets, termed as working
capital gap, should be partly financed by the owners funds and long term
borrowings and partly by short term bank credit. The approach to lending is
vitally significant. It takes into account all the current assets requirements of
borrowers total operational needs and not merely inventories or receivables; it
also takes into account all the other sources of finance at his command. Another
merit of the approach is that it invariably ensures a positive current ratio and, thus,
keeps under check any tendency to overtrade with borrowed funds.
c) Forms of Financing/Style of Credit : In 1995, a mandatory limit on cash credit
and a loan system of delivery of bank credit was introduced. The cash-credit limit
was initially limited to 60% of the MPBF. The balance 40% could be availed of as
short term loans. The cash credit limit sanctions are currently 20% and loan
component 80%.
d) Information and Reporting System : The main components of the information
and reporting system are four, namely,
Quarterly Information System : Form I. Its contents are (i) production
and sales estimates for the current and the next quarter, and (ii) current
assets and current liabilities estimates for the next quarter.
Quarterly Information System : Form II. It contains (i) actual
production and sales during the current year and for the latest completed
year, and (ii) actual current assets and current liabilities for the latest
completed quarter.
Half-yearly Operating Statement : Form III. The actual operating
performance for the half-year ended against the estimates are given in this.
Half-yearly Operating Statement : Form IIIB. The estimates as well as
the actual sources and uses of funds for the half-year ended are given.
5. Commercial Papers
= { (Face Value – Net amount realised) / (Net amount realised) }x{(360) / (Maturity
period) }
where net amount realised = Face value – discount – issuing and paying agent (IPA)
charges that is, stamp duty, rating charges, dealing bank fee and fee for stand by facility.
6. Factoring
Factoring provides resources to finance receivables as well as facilitates the collection of
receivables. Although such services constitute a critical segment of the financial services
scenario in the developed countries, they appeared in the Indian financial scene only in
the early nineties as a result of RBI initiatives. There are two bank sponsored
organisations which provide such services: (i) SBI Factors and Commercial Services
Ltd., and (ii) Canbank Factors Ltd. The first private sector factoring company, Foremost
Factors Ltd. Started operations since the beginning of 1997.
a) Definition : Factoring can broadly be defined as an agreement in which
receivables arising out of sales or goods/services are sold by a firm ( client ) to the
‘factor’ ( a financial intermediary ) as a result of which the title of the
goods/services represented by the said receivables passes on to the factor.
Henceforth, the factor becomes responsible for all credit control, sales accounting
and debt collection from the buyer. In a full service factoring concept ( without
resource facility ), if any of the debtor fails to pay the dues as a result of his
financial inability/insolvency/bankruptcy, the factor has to absorb the losses.
b) Mechanism : Credit sales generate the factoring business in the ordinary course
of business dealings. Realisation of credit sales is the main function of factoring
services. Once a sale transaction is completed, the factor steps in to realise the
sales. Thus the factor works between the seller and the buyer and sometimes with
the seller’s bank together.
c) Functions of a Factor : Depending on the type/form of factoring, the main
functions of a factor, in general terms, can be classified into five categories:
i) Financing facility/trade debts :
The unique feature of factoring is that a factor purchases the book debts of his client at a
price and the debts are assigned in favour of the factor who is usually willing to grant
advances to extent of, say, 80% of the assigned debts. Where the debts are factored with
recourse, the finance provided would become refundable by the client in case of non-
payment of the buyer. However, where the debts are factored without recourse, the
factor’s obligation to the seller becomes absolute on the due date of the invoice whether
or not the buyer makes the payment.
ii) Maintenance/administration of sales ledger :
The factor maintains the clients’ sales ledger. In addition, the factor also
maintains a customer-wise record of payments spread over a period of time so that any
change in the payment pattern can be easily identified.
iii) Collection facility of accounts receivable :
The factor undertakes to collect the receivables on the behalf of the client
relieving him of the problems involved in collection, and enables him to concentrate on
other important functional areas of the business. This also enables the client to reduce the
cost of collection by way of savings in manpower, time and efforts.
iv) Credit Control and Credit Restriction :
The factor in consultation with the client fixes credit limits for approved customers.
Within these limits, the factor undertakes to purchase all trade debts of the customer
without resource. In other words, the factor assumes the risk of default in payment by the
customer. Operationally, the line of credit/credit limit up to which the client can sell to
the customer depends on his financial position, his past payment record and value of
goods sold by the client to the customer.
v) Advisory Services :
These services are a spin-off of the close relationship between a factor and a client. By
virtue of their specialised knowledge and experience in finance and credit dealings and
access to extensive credit information, factors can provide a variety of incidental advisory
services to their clients.
vi) Cost of Services :
The factors provide various services at a charge. The charge for collection and sales
ledger administration is in the form of a commission expressed as a value of debt
purchased. It is collected in advance. The commission for short term financing as
advance part-payment is in the form of interest charge for the period between the date of
advance payment and the date of collection date. It is also known as discount charge.
A) Objectives:
The basic objective of cash management are two fold: a) to meet the cash disbursement
needs and b) to minimise funds committed to cash balances. These are conflicting and
mutually contradictory and the task of the cash management is to reconcile them.
Cash Budget is the most important tool in cash management. It is the statement showing
the estimated cash inflows and cash outflows over the planning horizon.
The various purposes of cash budgets are : (i) to co-ordinate the timings of cash needs,
(ii) it pinpoints the period when there is likely to be excess cash, (iii) it assists
management in taking cash discounts on its account payables, (iv) it helps to arrange
needed funds on the most favorable terms and prevents accumulation of excess funds.
Among the operating factors affecting cash flows, are the collection of accounts ( inflows
) and accounts payable ( outflows ). The terms of credit and the speed with which the
customer pay would determine the lag between the creation of accounts receivable and
their collection. Also, discounts and allowances for early payments, returns from
customers and bad debts affect cash inflows. Similarly in case of accounts payable
relating to credit purchase, cash outflows are affected by the purchase terms.
Financial Cash Flows
The cash budget, as a management tool, would throw light on the net cash position of the
firm. After knowing the cash position, the management should workout the basic
strategies to be employed to manage its cash.
The broad cash management strategies are essentially related to the cash turnover
process, that is, the cash cycle together with the cash turnover. The cash cycle refers to
the process by which the cash is used to purchase materials from which are produced
goods, which are then sold to customers, who later pay the bills. The firm receives cash
from customers and the cycle repeats itself. The cash turnover means the number of times
the cash is used during each year. The cash cycle involves several steps along the way as
fund flows from the firms accounts.
2. Receivables Management
A) Objectives
The term receivables is defined as debt owed to the firm by the customers arising from
sale of goods or services in the ordinary course of business. When a firm makes an
ordinary sale of goods or services and does not receive payment, the firm grants trade
credit and creates accounts receivables which could be collected in the future.
Receivables management is also called trade credit management. Thus accounts
receivable represent an extension of credit to customers, allowing them a reasonable
period of time in which to pay for the goods received.
The sale of goods on credit is an essential part of the modern competitive economic
systems. In fact, the credit sale and, therefore, the receivables, are treated as a marketing
tool to aid the sale of goods. As a marketing tool, they are intended to promote sales and
obligations through a financial instrument. Management should weigh the benefits as
well as cost to determine the goal of receivables management. The objective of receivable
management is to promote sales and profits until that point is reached where the return on
investment in further funding receivables is less than the cost of funds raised to finance
that additional credit. The specific costs and benefits which are relevant to the
determination of the objectives of receivables management are examined below.
a) Costs : The major categories of costs associated with the extension of credit and
accounts receivable are
(i) Collection Cost : Collection costs are administrative costs incurred in collecting
the receivables from the customers to whom credit sales have been made.
(ii) Capital Cost : The increased level of accounts receivable is
an investment in assets. They have to be financed thereby
involving a cost. It includes the additional funds required to
meet its own obligation while waiting for payment from its
customer and also the cost on the use of additional capital to
support credit sales, which alternatively could be profitably
employed elsewhere.
(iii) Delinquency Cost : This cost arises out of the failure of the
customers to meet their obligations where payment on credit
sales become due after the expiry of the credit period. Such
costs are called delinquency costs.
(iv) Default Costs : Finally, the firm may not be able to recover
the overdues because of the inability of the customers. Such
debts are treated as bad debts and have to be written off as
they cannot be realized. Such costs are treated as default
costs associated with credit sales and accounts receivables.
b) Benefits : Apart from the costs, another factor that has a bearing on accounts
receivable management is the benefit emanating from credit sales. The benefits
are the increased sales and anticipated profits because of the more liberal policy.
The impact of the liberal trade credit policy is likely to take two forms. Firstly, it
is oriented to sales expansion. Secondly, the firm may extend credit to protect its
current sales against emerging competition. Here, the motive is sales-retention.
From the above discussion, it is clear that investments in receivables involve both
benefits and costs. The extension of trade credit has a major impact on sales, cost and
profitability. Therefore account receivable management should aim at a trade off between
profit (benefits) and risk (cost).
While it is true that general economic conditions and industry practices have a strong
impact on the level of receivables, a firms investment in this type of current assets is also
greatly affected by its internal policy. A firm has little or no control over environmental
factors, such as economic conditions and industry practices. But it can improves its
profitability through a properly conceived trade credit policy or receivables management.
B) Credit Policies
In the preceding discussion it has been clearly shown that the firms objective with respect
to receivables management is not merely to collect receivables quickly but attention
should also be given to the benefit-cost trade-off involved in the various areas of accounts
receivable management. The first decision area is Credit Policies.
The credit policy of the firm provides the framework to determine (a) whether or not to
extend credit to a customer and (b) how much credit to extend. The credit policy decision
of firm has two broad dimensions:
(i) Credit Standards : The term credit standards represents the basic criteria for
the extension of credit to customers. The quantitative basis of establishing
credit standards are factors such as credit ratings, credit references, average
payment period and certain financial ratios. Since we are interested in
illustrating the trade-off between benefit and cost to the firm as a whole, we
do not consider here these individual components of credit standards. To
illustrate the effect, we have divided the overall standards into (a) tight or
restrictive, and (b) liberal or non-restrictive. The trade-off with reference to
credit standards covers
(a) Collection Costs : The implications of the relaxed credit standards are (i)
more credit, (b) a large credit department to service accounts receivable
and related matters, (iii) increase in collection costs. The effect of
tightening of credit standards will be exactly the opposite. These costs are
likely to be semi-variable.
(b) Investments in Receivables or the Average Collection Period : The
investment in accounts receivable involves a capital cost as funds have to
be arranged by the firm to finance them till customer makes payment.
Moreover higher the average accounts receivables, the higher is the capital
or carrying cost. A change in credit standards-relaxation or tightening-
leads to a change in the level of accounts receivable either (i) through a
change in sales, or (ii) through a change in collections.
A relaxation in credit standards, as already stated, implies an increase in sales which, in
turn, would lead to higher average accounts receivable. Further relaxed standards would
mean that credit is extended liberally so that it is available to even less credit-worthy
customers who will take a longer period to pay overdues. In contrast, a tightening of
credit standards would signify (i) a decrease in sales and lower average accounts
receivables, and (ii) an extension of credit limited to more credit-worthy customers who
can promptly pay their bills and, thus, a lower average level of accounts receivable.
(c) Bad Debt Expenses : Another factor which is expected to be affected by
changes in credit standards is bad debt expenses. They can be expected to
increase with relaxation in credit standards and decrease if credit standards
become more restrictive.
(d) Sales Volume : Changing credit standards can also be expected to change
the volume of sales. As standards are relaxed, sales are expected to
increase; conversely, a tightening is expected to cause a decline in sales.
C) Credit Analysis
Besides establishing credit standards, a firm should develop procedures for evaluating
credit applicants. The second aspect of credit policies of a firm is credit analysis and
investigation. Two basic steps are involved in the credit investigation process :
(a) Obtaining Credit information : The first step in credit
analysis is obtaining credit information on which to base
the evaluation of a customer. The sources of information,
broadly speaking, are
(i) Internal : Usually, firms require their customers to fill various forms and
documents giving details about financial operations. They are also
required to furnish trade references with whom the firms can have contacts
to judge the suitability of the customer for credit. This type of information
is obtained from internal sources of credit information. Another internal
source of credit information is derived from the records of the firms
contemplating an extension of credit.
(ii) External : The availability of information from external sources to assess
the credit-worthiness of customers depends upon the development of
institutional facilities and industry practices. In India, the external sources
of credit information are not as developed as in the industrially advanced
countries of the world. Depending upon the availability, the following
external sources may be employed o collect information.
- Financial Statements : One external source of credit information is
the published financial statements, that is, the balance sheet and the
profit and loss account. They contain very useful information such as
applicants financial viability, liquidity, profitability, and debt capacity.
They are very helpful in assessing the overall financial position of a
firm, which significantly determines its credit standing.
- Bank References : Another useful source of credit information is the
bank of the firm which is contemplating the extension of credit. The
modus operandi here is that the firm’s banker collects the necessary
information from the applicants bank. Alternatively, the applicant may
be required to ask his banker to provide the necessary information
either directly to the firm or to its bank.
- Trade References : These refer to the collection of information from
firms with whom the applicant has dealings and who on the basis of
their experience would vouch for the applicant.
- Credit Bureau Report : Finally, specialist credit bureau reports from
organizations specializing in supplying credit information can also be
utilized.
(b) Analysis of Credit Information : Once the credit information has been
collected from different sources, it should be analysed to determine the credit-worthiness
of the applicant. The analysis should cover two aspects:
(i) Quantitative : The assessment of the quantitative aspects is based on the
factual information available from the financial statements, the past
records of the firm, and so on. The first step involved in this type of
assessment is to prepare an Aging Schedule of the accounts payable of
the applicant as well as calculate the average age of accounts payable.
This exercise will give an insight into the past payment pattern of the
customer. Another step in analyzing the credit information is through a
ratio analysis of the liquidity, profitability and debt capacity of the
applicant. These ratios should be compared with the industry average.
Morever, trend analysis over a period of time would reveal the financial
strength of the customer.
(ii) Qualitative : The quantitative assessment should be supplemented by a
qualitative/subjective interpretation of the applicants credit-worthiness.
The subjective judgement would cover aspects relating to the quality of
management. Here, the reference from other suppliers, bank references
and specialist bureau reports would form the basis for the conclusion to
be drawn. In the ultimate analysis, therefore, the decision whether to
extend credit to the applicant and what amount to extend will depend
upon the subjective interpretation of his credit standing.
D) Credit Terms
The second decision area in accounts receivables management is the credit terms. After
the credit standards have been established and the credit-worthiness of the customer has
been assessed, the management of a firm must determine the terms and conditions on
which the trade credit will be made available. The stipulations under which goods are
sold on credit are referred to as credit terms. The credit terms specifies the repayment
terms of receivables.
The credit terms have three components : (i) credit period, in terms of duration of time
for which trade credit is extended-during this period the overdue amount must be paid by
the customer; (ii) cash discount, if any, which the customer can take advantage of, that
is, the overdue amount will be reduced by this amount; and (iii) cash discount period,
which refers to the duration during which the discount can be availed of.
The credit terms, like the credit standards, affect the profitability as well as the cost of a
firm. A firm should determine the credit terms on the basis of cost-benefit trade-off. The
components of credit are here below:
(a) Cash Discount : The cash discount has implications for the sales volume, average
collection period/average investment receivables, bad debt expenses and profit per unit.
In taking a decision regarding the grant of cash discount the management has to se what
happens to these factors if it initiates increase, or decrease in the discount rate. The
changes in the discount rate would have both positive and negative effects. The
implications of increasing or initiating cash discount are as follows:
i. The sales volume will increase. The grant of
discount implies reduced prices. If the demand for
the products is elastic, reduction in prices will result
in higher sales volume.
ii. Since the customers, to take advantage of the
discount, would like to pay within the discount
period, the average collection period would be
reduced. The reduction in the collection period
would lead to a reduction in the investment in
receivables as also the cost. The decrease in the
average collection period would also cause a fall in
bad debt expenses. As a result, profits would
increase.
iii. The discount would have a negative effect on the
profits. This is because the decrease in prices would
affect the profit margins per unit of sale.
E) Collection Policies
The third area involved in accounts receivable management is collection policies. Thy
refer to the procedures followed to collect the accounts receivable when, after the expiry
o the credit period, they become due. These policies cover two aspects:
(i) Degree of Collection Effort : To illustrate the effect of the collection effort, the credit
policies of a firm may be categorised into (i) strict / light, and (ii) lenient. The collection
policy would be tight if very rigorous procedures are followed. A tight collection policy
has implications which involve benefits as well as costs. The management has to consider
a trade-off between them. Likewise, a lenient collection effort also affects the cost-benifit
trade-off. The effect of tightening the collection is discussed below :
- Bad debt expenses would decline.
- The average collection period will be reduced.
- As a result profit will increase.
- Increased collection costs.
- Decline in sales volume.
Once the optimal level of cash balance of a firm has been determined, the residual of its
liquid assets is invested in marketable securities. Such securities are short term
investment instruments to obtain a return on temporarily idle funds. In other words, they
are securities which can be converted into cash in a short period of time, typically a few
days. To be liquid, a security must have two basic characteristics: a ready market and
safety of principal. Ready marketability minimizes the amount of time required to
convert a security into cash. A second determinant of liquidity is that there should be
little or no loss in the value of a marketable security over time. Only those securities that
can be easily converted into cash without any reduction in the principal amount qualify
for short term investments. A firm would be better off leaving the balances in cash if the
alternative were to risk a significant reduction in principle.
B) Selection Criterion
A major decision confronting the financial managers involves the determination of the
mix of cash and marketable securities. In general, the choice of the mix is based on a
trade-off between the opportunity to earn a return on idle funds during the holding period,
and the brokerage costs associated with the purchase and sale of marketable securities.
There are three motives for maintaining liquidity and therefore for holding marketable
securities: transaction motive, safety motive and speculative motive. Each motive is
based on the premise that a firm should attempt to earn a return on temporarily idle funds.
An assessment of certain criteria can provide the financial manager with a useful
framework for selecting a proper marketable securities mix. These considerations include
evaluation of :
(i) Financial Risk : It refers to the uncertainty of expected returns from a security
attributable to possible changes in the financial capacity of the security issuer to make
future payments to the security owner. If the chances of default on the terms of the
investment is high, then the financial risk is said to be high and vise versa .
(v) Interest Rate Risks : The uncertainty associated with the
expected returns from a financial instrument attributable to
changes in interest rates is known as interest rate risk. If
prevailing interest rates rise compared with the date of
purchase, the market price of the securities will fall to bring
their yield to maturity in line with what financial managers
could obtain by buying a new issue of a given instrument, for
instance, treasury bills. The longer the maturity of the
instrument, the larger will be the fall in prices. To hedge
against the price volatility caused by interest rate risk, the
market securities portfolio will tend to be composed of
instruments that mature over short period.
(vi) Taxability : Another factor affecting observed difference in
market yields is the differential impact of taxes. A
differential impact on yields arises because interest income is
taxed at the ordinary tax rate while capital gains are taxed at
a lower rate.
(vii) Liquidity : With reference to marketable securities portfolio,
liquidity refers to the ability to transform a security into cash.
The financial manager will want the cash quickly and will
not want to accept a large price reduction in order to convert
the securities.
(viii) Yield : The final selection criterion is the yields that are
available on the different financial assets suitable for
inclusion in the marketable portfolio. All the four factors
listed above, influence the available yields on financial
instruments. The finance manager must focus on the risk-
return trade-offs associated with the four factors on yield
through his analysis.
i) Treasury Bills : There are obligations of the government. They are sold on a
discount basis. The investor does not receive an actual interest payment. The
return is the difference between the purchase price and the face value of the
bill. The treasury bills are issued only in bearer form. They are purchased,
therefore, without the investors name on them. As the bills have the full
financial backing of the government, they are, for all practical purposes, risk-
free.
ii) Negotiable Certificates of Deposits : These are marketable receipts for funds
that have been deposited in a bank for a fixed period of time. The deposit
funds earn a fixed rate of interest. The CD’s are offered by banks on a basis
different from treasury bills, that is, they are not sold at discount. When the
certificate mature, the owner receives the full amount deposited plus the
earned interest.
iii) Commercial Paper : It refers to short-term unsecured promissory note sold
by large business firms to raise cash. As they are unsecured, the issuing side
of the market is dominated by large companies which typically maintain
sound credit rating. Commercial paper can be sold either directly or through
dealers. Companies with high credit ratings can sell directly to the investors.
They can even be purchased with varying maturities. For all practical
purposes, there is no active trading in secondary market for commercial
papers although direct sellers of CPs often repurchase it on request.
iv) Bankers’ Acceptances : These are draft (order to pay) drawn on a specific
bank by an exporter in order to obtain payment for goods he has shipped to a
customer who maintains an account with that specific bank. They can also be
used in financing domestic trade. The draft guarantees payment by the
accepting bank at a specific point of time. The seller who holds such
acceptance may sell it at a discount to get immediate funds. They serve the
wide range of maturities and are sold on a discount basis, payable to the
bearer.
v) Repurchase Agreements : These are legal contracts that involves the actual
sale of securities by a borrower to the lender with a commitment on the part of
the former to repurchase the securities at the current price plus a stated interest
charge. The securities involved are government securities and other money
market instruments. The borrower is either a financial institution or a security
dealer.
vi) Units : The units of Unit Trust of India (UTI) offers a reasonably convenient
alternative avenue for investing surplus liquidity as (i) there is a very active
secondary market for them, (ii) the income for units is tax-exempt up to a
specified amount and, (iii) the units appreciate in a fairly predictable manner.
vii) Intercorporate Deposits : Intercorporate deposits, that is, short-term deposits
with other companies is a fairly attractive form of investment of short-term
funds in terms of rate of return which currently ranges between 12 and 15 per
cent. However, apart from the fact that one month’s time is required to
convert them into cash, intercorporate deposits suffers from high degree of
risk.
viii) Bill Discounting : Surplus funds may be developed to purchase/discount bills.
Bills of exchange are drawn by seller on the buyer for the value of goods
delivered to him. If the seller is in need of funds, he may get the bills
discounted. Bill discounting is superior to intercorporate deposits for investing
surplus funds.
ix) Call market : It deals with funds borrowed/lent overnight/one-day (call)
money and notice money for periods up to 14 days. It enables corporates to
utilize their float money gainfully. However the returns are highly volatile.
The stipulations pertaining to the maintenance of cash reserve ratio (CRR) by
banks is the major determinant of the demand of funds and is responsible for
volatility in call rates. Large borrowings by them to fulfill their CRR
requirements pushes up the rates and a sharp decline takes place once these
funds are met.
4. Inventory Management
A) Objectives
The basic responsibility of the financial manager is to make sure the firms cash flows are
managed efficiently. Efficient management of inventory should ultimately result in the
maximization of the owner’s wealth. As we know that in order to minimise cash
requirements, inventory should be turned over as quickly as possible, avoiding stock-outs
that might result in closing down the production line or lead to a loss of sales. It implies
that while the management should try to pursue the financial objective of turning
inventory as quickly as possible, it should at the same time ensure sufficient inventories
to satisfy production and sales demands. The objective of inventory management consists
of two counterbalancing parts: (i) to minimise investment in inventory, and (ii) meet a
demand for the product by efficiently organizing the production and sales operations.
These two conflicting objectives of inventory management can also be expressed in terms
of cost and benefit associated with inventory. That the firm should minimise investment
in inventory implies that maintaining inventory involves costs, such that the smaller the
inventory, the lower is the cost to the firm. But inventories also provide benefits to the
extent that they facilitate the smooth functioning of the firm: the larger the inventory, the
better it is from the viewpoint. Obviously, the financial managers should aim at a level of
inventory which will reconcile these conflicting elements. That is to say, an optimum
level of inventory should be determined on the basis of the trade-off between costs and
benefits associated with the levels of inventory.
One operating objective of inventory management is to minimise cost. Excluding the cost
of merchandise, the cost associated with inventory fall into two basic categories:
(i) Ordering or Acquisition or Set-up costs : This category of cost is associated
with the acquisition or ordering of inventory. Firms have to place orders with
suppliers to replenish inventory of raw materials. The expense involved are
referred to as ordering costs. The ordering costs consist of (a) preparing the
purchase order or requisition form and (b) receiving, inspection, and recording
the goods received to ensure both quantity and quality. The cost of acquiring
materials consists of clerical costs and costs of stationery. It is therefore, called, a
set-up cost. They are generally fixed per order placed, irrespective of the amount
of the order. The acquisition costs are inversely related to the size of inventory:
they decline with the inventory. Thus, such costs can be minimised by placing
fewer orders for a large amount. But acquisition of a large quantity would
increase the cost associated with the maintenance of inventory, that is, carrying
cost.
(ii) Carrying costs : The second broad category of costs associated with inventory
are the carrying costs. They are involved in maintaining or carrying inventory.
The cost of holding inventory may be divided into two categories:
(a) Those that arise due to the storing of inventory : The main
components of this category of carrying costs are (1).
Storage costs, that is, tax, depreciation, insurance,
maintenance of the building, utilities and janitorial services;
(2). insurance of inventory against fire and theft; (3).
Deterioration in inventory because of pilferage, fire,
technical obsolescence, style obsolescence and price
decline; (4). Serving costs, such as, labour for handling
inventory, clerical and accounting costs.
(b) The opportunity cost of funds : This consists of expenses in
raising funds (interest on capital) to finance the acquisition
of inventory. If funds are not locked in inventory, they
would have earned a return. This is the opportunity cost of
funds or financial cost component of the cost.
The carrying costs and the inventory size are positively related and move in the same
direction. If the level of inventory increases, the carrying costs also increase and vice
versa.
The sum of the order and carrying costs represents the total cost of inventory. This is
compared with the benefits arising out of inventory to determine the optimum level of
inventory.
C) Benefits of Holding Inventory
The second element in the optimum inventory decision deals with the benefits associated
with holding inventory. The three types of inventory, raw materials, work-in-progress and
finished goods, perform certain useful functions. The rigid tying (coupling) of purchase
and production to sales schedules is undesirable in the short run as it will deprive the
firms certain benefits. The effect of uncoupling (maintaining inventory) are as follows
(i) Benefits in Purchasing : If the purchasing of raw materials and other goods
is not tied to production/sales, that is, a firm can purchase independently to
ensure the most efficient purchase, several advantages would become
available. In the first place, a firm can purchase larger quantities than is
warranted by usage in production or the sales level. This will enable it to avail
of discounts that are available on bulk purchases. Moreover, it will lower the
ordering cost as fewer acquisitions would be made. There will, thus, be a
significant saving in the costs. Secondly, firms can purchase goods before
anticipated or announced price increases. This will lead to a decline in the cost
of production. Inventory, thus, serves as a hedge against price increases as
well as shortages of raw materials. This is highly desirable inventory strategy.
(ii) Benefits in Production : Finished goods inventory serves to uncouple
production and sale. This enables production at rate different from that of
sales. That is, production can be carried on at a rate higher or lower than the
sales rate. This would be a special advantage to firms with seasonal sales
pattern. In their case, the sales rate will be higher than the production rate
during the part of the year (peak season) and lower during the off season. The
choice before the firm is either to produce at a level to meet the actual
demand, that is, higher production during peak season and lower (or nil)
production during off-season, or, produce continuously throughout the year
and build up inventory which will be sold during the period of seasonal
demand. The former involves discontinuity in the production schedule while
the later ensures level production. The level production is more economical as
it allows the firm to reduce the cost of discontinuities in the production
process. This is possible because excess production is kept as inventory to
meet future demands. Thus, inventory helps a firm to coordinate its
production scheduling so as to avoid disruption and the accompanying
expenses. In brief, since inventory permits least cost production scheduling,
production can be carried on more efficiently.
(iii) Benefits in Work-in-Progress : The inventory in Work-in-Progress performs
two functions. In the first place, it is necessary because production processes
are not instantaneous. The amount of such inventory depends upon technology
and efficiency of production. The larger the steps involved in the production
process, the larger the WIP and vice versa. By shortening the production time,
efficiency of the production process can be improved and the size of this type
of inventory reduced. In a multi-stage production process, the WIP serves a
second purpose also. It uncouples the various stages of production so that all
of them do not have to be performed at the same time rate. The stages
involving higher set-up costs may be most efficiently performed in batches
with WIP inventory accumulated during a production run.
(iv) Benefits in Sales : The maintenance in inventory also helps a firm to enhance
its sales efforts. For on thing, if there are no inventories of finished goods, the
level of sales will depend upon the level of current production. A firm will not
be able to meet demand instantaneously. The inventory serves to bridge the
gap between current production and actual sales. A basic requirement in a
firms competitive position is its ability vis-à-vis its competitor to supply
goods rapidly. If it is not able to do so, the customer are likely to switch to
suppliers who can supply goods at short notice. Moreover, in the case of firm
having a seasonal pattern of sales, there should be a substantial finished goods
inventory prior to the peak sales season. Failure to do so may mean loss of
sales during the peak season.
D) Techniques
(a) The Railway Plans today are financed through three main sources: (i) Internal
resources; (ii) market borrowing through the Indian Railways Finance
Corporation( IRFC) and other schemes (Own Your Wagon, BOLT, Public Private
Partnership(PPP) etc); and (iii) Capital from General Exchequer( also called Budgetary
Support).
(b) The budgetary support in % terms, has shrunk and the level of market borrowings
has gone up. The average cost of market borrowings is high and there is the repayment
obligation also. The burden of lease charges is increasing; shortly the lease charges will
tend to exceed the market borrowing level itself.
The generation of internal resources is seriously affected by the higher staff costs (about
56% of Ordinary Working Expenses) and the limitation of the Railways to raise fares and
freights due to a policy of restraint.
3.2. High density network (golden quadrilateral) is today totally saturated and the
corridor needs massive investment for expansion.
3.3. Loss of market share to Road Transport. The railways are denied a level playing
field. Unlike the railways, the roads are built and maintained by the Government without
any specific charge on the transport operators except levy of road taxes on vehicles.
3.4. Cross subsidization of Passenger services by Freight services. The passenger traffic
needs 60% of transport effort but contributes 30% of revenue; whereas freight traffic
needs 40% of transport effort but contributes 70% of revenue.
3.5. Unbridled introduction of numerous new trains every year despite constraint in line
capacity, the above cross subsidization and consequent blockage of goods trains
movement.
3.6. Safety is a management priority: huge investment needed on track renewals, rolling
stock maintenance, manning of huge number of unmanned level crossings, etc
3.7. Aspirations of our rail-users for more accessible, faster, safe, secure, punctual and
affordable large number of services with better amenities at stations and in trains. The
industrial customers expect an efficient service, free from delays, damages and pilferage.
3.8. Duality of objectives: The Indian Railways play the dual role of a ‘commercial
enterprise’ and a ‘public utility’. The railways are required to remain financially viable
but also at the same time, as a public utility, have to discharge their service obligations
under Government tutelage.
3.9. Inadequate Compensation for public service obligations discharged (Social Cost)
The Government (both the Central and States) should fund the socially desirable but
economically unviable projects.
3.10. The Railways are to share the cost on maintenance of law and order in Railway
areas despite it being a State subject.
4.1. Sharpen the marketing capability to attract the freight and passenger
business to the rail network through constructive pricing mechanisms and tariff
rationalization as also through customer focus.
4.9. General
i) Run the Heavier, the Longer & the Faster Trains ( both Goods and Passenger).
ii) Rationalisation of Freight and Passenger fare.
iii) Dynamic Pricing Policy and Freight Incentive Schemes.
iv) Improve wagon availability and mobility.
v) Control Project cost ( time over run & cost over run )
vi) Ensure PPP ( Public Private Partnership)
5.2. Purchasing procedures should be improved to secure cost reductions and also
improved reliability. The vendors should be ISO certified, the “life cycle” costing
principles to be adopted, quality control to be strict, etc.
5.3. Human resource development : Staff should be well trained and motivated. They
should be trained in the critical areas of (i) Increased level of customer satisfaction (ii)
Maximising return on investments (iii) Cost reduction for higher internal resource
generation (iv) Adoption of state of art technologies (v) Improved reliability of assets and
services.
5.4. Reduction in manpower : Staff cost accounts for 56% of working expenses. Major
initiatives are now inescapable to reduce the workforce both by improving manpower
productivity in real terms through multi-skilling and mechanisation , as also by
outsourcing certain off-line activities, which, incidentally, may also help in meeting the
rising customer satisfaction.
6.1. IR being a public utility should demand for more Budgetary support from
General Exchequer commensurate with the present social cost and burden. The dividend
payment should be exempted for social projects.
(i) Attracting external funding by involving domestic financial institutions and private
sector participants at concessional rates of interest through appropriate fiscal
mechanisms.
(ii) Leveraging right of way of Railways to attract investment in fibre-optic
telecommunication network.
(iii) Commercial exploitation of air space above Stations for securing renovation and
upgradation of terminal capacities at these locations.
(iv) Exploiting the leasing route for procurement of rolling stock, including financial as
well as operating leasing mechanisms and cross-border lease arrangements to secure
capital at affordable rates.
(v) Innovative financing techniques such as Deep Discount Bonds with repayments
towards the end of the term of the loan.
(vi) “Sell and Lease Back” mechanisms to leverage existing fixed as well as mobile
assets.
(vii) PPP ( Public Private Partnership)
(ii) Pay Back Period. (PBP) Method : It lays emphasis on the calculation of the
time it takes to recoup the expenditure incurred on the project. Return on the capital is
not assessed.
(iii) Discounted Cash Flow (DCF) or Net Ppresent Value (NPV) Method : It
considers the time value of money. The NPV of a project is the sum of the present values
of the net cash flows for all the years of the project’s economic life. The net cash flows
are discounted to arrive at the NPV of a project by applying a pre-determined discount
rate. If the NPU is positive ( or zero), the project is financially acceptable.
2.0. RAILWAY BUDGET
2. Why a separate Railway Budget? As Railway finances have been separated from
the General Finances of the Central Government, a separate budget is presented for the
Railways. The financial relationship between the Central Government and the Railway is
governed by the recommendations made from time to time by the Railway Convention
Committee of the Parliament.
6. Total Receipts: The total of Revenue and Miscellaneous receipts makes up the
total receipts of the Railways. The portion of the earnings which is due to the Railways
during the financial year but has not actually been realized is held in a “Suspense”
account. [ Earnings = Receipts + suspense ]
The Revenue expenditure also includes appropriation to the Depreciation Reserve Fund,
the Pension Fund and dividend paid by the Railways to the General Revenues.
Appropriation to Depreciation Reserve Fund is made annually on the basis of the
recommendations of the Railway Convention Committee (R.C.C.) and is intended to
finance the cost of new assets replacing old assets including the cost of any improved
features that such new assets may have. Appropriation to Pension Fund is to finance all
pensionery payments to the retired Railway staff. Dividend is payable at the rate of 7%
on the dividend paying capital of the Railways. Out of the 7% dividend, 1.5% of the
Capital invested up to 31sat March, 1964 ( less Capital entitled to ‘Subsidy’) is for
transfer to the State Governments in lieu of passenger fare tax to the extent of Rs. 23.12
cr. and balance for appropriation to the Railway Safety Fund.
The Development Fund is used to finance expenditure on Passenger and Other Railway
Users’ Amenities Works, Staff Welfare Works, Un-remunerative operating
improvements etc. The Railway Safety Fund is used for financing works relating to
conversion of unmanned level crossings and for construction of ROB./RUBs at busy
level crossings. This fund is financed through the Railway revenues, transfer of Funds by
the Central Government from the Central Road Fund and the aforementioned part of
dividend which until 2000-01 was appropriated to the Railway Safety Works Funds.
Capital Fund is used for works chargeable to Capital and for making payment of principal
component of the lease charges payable to Indian Railway Finance Corporation. The
appropriation to Capital Fund is made only after making necessary appropriations to
Development Fund and Safety Fund. In case there is no ‘Excess ‘ or not enough ‘excess’
to be transferred to Development Fund and Capital Fund, temporary loan is obtained
from General Revenues to finance the expenditure to be met out of these Funds.
10. The Contingency Fund of India : All the revenue earning of the Railways are
credited to the Consolidated Fund of India and expenditure is incurred from the
Consolidated Fund. No amount can be withdrawn from the Fund without authorization
from the Parliament.
Occasions may arise when Government may have to meet urgent unforeseen expenditure
pending authorization from the Parliament. The Contingency Fund of India is an imprest
placed at the disposal of the President to incur such urgent unforeseen expenditure
pending authorization from the Parliament. Parliament approval for such expenditure
and for the withdrawal of an equivalent amount from the Consolidated Fund is
subsequently obtained and the amount spent from Contingency Fund is recouped to the
Fund.
There are 16 Demands for Grants – Demands 1 to 15 dealing with Revenue Expenses,
Appropriations to the Funds and Dividend payment and Demand 16 dealing with Works
Expenditure. Each Demand pertaining to Working Expenses and Miscellaneous
Expenditure has a two-way classification, by activity and by primary units of
expenditure, the activity classification indicating for what purpose the expenditure was
incurred, like track maintenance, water supply, periodical overhaul of locomotives etc.
and the primary units of expenditure indicating how the expenditure was incurred, like
salaries, wagons overtime, cost of materials etc. This two-way classification integrates
the requirements of performance budgeting which is based on activities, and management
control which is based on objects of expenditure.
The Demands for Grants are presented to the Lok Sabha along with the Budget
Statement. The estimates of expenditure included in the Budget Statement are for the net
expenditure as will be reflected in the accounts, that is after taking into account the
recoveries. The estimates of expenditure included in the Demands for Grants are,
however, for the gross amounts.
Demand for Works Expenditure is kept distinct from Demands for Revenue Expenditure.
At the head of each Demand, the total of ‘Voted’ and ‘Charged’ expenditure in the
Demand is indicated separately. This is followed by the estimates of expenditure under
different heads. The aggregate amounts of recoveries taken in reduction of expenditure
in the accounts are also shown. Besides, the notes briefly explain the reasons for
variations between the current year’s requirements and requirements for the next year
included in the various Demands.
After the Demands for Grants are voted by the Lok Sabha, the Parliament’s approval to
the withdrawal of the amounts from the Consolidated Fund so voted and of the amounts
required to meet the expenditure charged on the Consolidated Fund is sought through the
Appropriation Bill. ‘Under Article 114(3) of the Constitution, no amount can be
withdrawn from the Consolidated Fund without such an Appropriation Act passed by the
Parliament.
The Railway Budget Statement shows the total revenue receipts, revenue
expenditure and works expenditure, distribution of excess of receipts over expenditure
and position of various Funds which the Railways keep with the Central Government,
viz. Depreciation Reserve Fund, Development Fund, Pension Fund, Capital Fund and
Railway Safety Fund.
As a matter of practice, every budget contains three elements : (i) a review of the
preceding year, including the actual receipts and expenditure in that year.(ii) an estimate
of the receipts and expenditure of the coming year; and(iii) proposals, if any, for meeting
the requirements of the coming year.
Individual Railways frames the revised estimate (RE) for the current year and the budget
estimate(BE) for the next year under each Demand and submit the same to Railway
Board. Within the railway, the concerned spending/earning authorities frame the RE and
BE. FA&CAO compiles and scrutinizes the framed estimates.
The RE and BE for revenue expenditure are prepared after taking into account
the expenditure for the preceding year and comparing the expenditure during the first
seven (07) months of the current year with the corresponding period of the previous year,
full consideration being paid to the special features of both years, duly supported by the
justification for variation. In similar way expenditure for the rest 5 months are anticipated
comparing with actual of corresponding period of previous year taking care about special
features if any.
Earning Budget: Estimates for coaching earnings are prepared on the basis of passenger
kilometer and average fare per passenger kilometer for each class of passenger. Estimates
for parcel traffic, goods traffic are made on net tonne kilometer to be carried and the
average yield per NTKM for each commodity. In other cases estimation is based on past
actual. Estimates should be prepared for both originating and apportioned earnings in
thousand of rupees. Budget estimates are prepared for the 1st 7 months of current year on
actual basis and on expectation for the rest period of current year under various categories
of passenger and goods traffic as well as for sundry earnings considering all special
features which may affect the earnings in ensuing year.
The estimates of expenditure included in the Budget Statement are for the net expenditure
as will be reflected in the accounts, that is after taking into account the recoveries. The
estimates of expenditure included in the Demands for Grants are, however, for the gross
amounts.
Demand for Works Expenditure is kept distinct from Demands for Revenue Expenditure.
At the head of each Demand, the total of ‘Voted’ and ‘Charged’ expenditure in the
Demand is indicated separately. This is followed by the estimates of expenditure under
different heads. The aggregate amounts of recoveries taken in reduction of expenditure
in the accounts are also shown. Besides, the notes briefly explain the reasons for
variations between the current year’s requirements and requirements for the next year
included in the various Demands.
1. TRAFFIC EARNINGS
(a) Coaching
(i) Passenger
(ii) Other Coaching
(b) Goods
(c ) Sundry other earnings
2. SUSPENSE
4. MISCELLANEOUS RECEIPTS
(a) Subsidised companies
(b) Railway Recruitment Boards
(c ) Other misc. receipts
(d) Subsidy from General Revenues
towards dividend relief & other
Concessions
6. ORDINARY WORKING
EXPENSES
A-03: (Gen. Superintendence and Services)
B-04: (R& M: Permanent Way & works)
C-05: (R& M ( Motive Power)
D-06: (R& M: Carriages & Wagons)
E-07: (R& M: Plant & Equipment)
F-08: (Optg.Exp.:Rolling Stock &
Equipment)
G-09: ( Optg. Exp.: Traffic)
H-10: ( Optg. Exp.: Fuel)
J-11: ( Staff Welfare & Amenities)
K-12: ( Miscellaneous Working Expenses)
L-13: PF, Pension & other retirement
benefits
N-14 : Suspense
7. M-15: APPROPRIATION TO
FUNDS
(i) Appropriation to DRF
(ii) Appropriation to Pension Fund
9. MISCELLANEOUS
EXPENDITURE
(a) Payment to worked lines
(b)Surveys
(c )Other Misc. Expenditure
(d)Open Line Works Revenue
Exchequer control is the mechanism for concurrent review of regular cash out go by each
disbursing officer against the cash content of the budget allotment i.e. against cash
authorization made to each disbursing officer. The object of exchequer control is to
establish a system for correct estimation of cash out go including disbursements.It is thus
an important tool of budgetary control in the hands of Administration. Budget allotment
covering cash out go is known as cash budget
4.2.1. BUDGET: Budget acts as a important management tool for control over
expenditure. The Parliament fixes through Railway Budget the spending limit within
which the expenditure need be restricted by the railway administration.
4.2.2. Budgetary Reviews: Control over expenditure is also exercised by way of
budgetary reviews as below:
(i) August Review Estimate: done in the month of August. The actual expenditure of
last year is compared with the actual of 1 st 3 months and the budget estimate of current
year. Variations (excess/savings) are worked out and explained briefly.
(ii) Revised estimate: It is prepared after taking into consideration the actual expenditure
during first 7 months of current year and the corresponding period of previous year
giving full consideration to the special features of both the years.
(iii) Final Modification Estimate: It provides the the last scope of budgetary review.
Any modification considered necessary as a result of new factors is submitted to Railway
Board in March of each year.
5.2. Supplementary Budget: Parliament by way of passing Railway Budget fix the
financial limit before the Railway within which Railways are empowered to incur
expenditure .Additional fund ,required if any, during a financial year also requires
clearance from the Parliament through passing of the Supplementary Budget.
6.1. Budgetary Support: refers to the fund the railways receive from the General
Finances of the Government of India. It consists of the Capital loans and the sums
temporarily loaned to meet the deficiency, if any, in the Development Fund and the
Capital Fund.
6.2. ‘Voted’ expenditure are those for which the provision of funds is subjected to
the vote of the Parliament.
6.3. ‘Charged’ expenditure are those for which the provision of funds is not
subjected to the vote of the Parliament. For Railways it includes sums required to satisfy
judgments, decrees or awards of Courts or awards by Arbitrators where made into rule of
Court etc.
6.5. Suspense: Suspense is intended for the temporary booking of certain classes of
transactions pending adjustments to final heads of account and to record the expenditure
in the accounts of a month to which it relates irrespective of whether the same has
actually been liquidated.
6.7. Performance Budget :This document inter alia indicates the comparative
performance of Indian Railways in respect of Revenue and Expenditure vis-à-vis the
targets, alongwith the reasons for variations, the performance in respect of Works costing
Rs. 5 crore and above, including transfer of funds from one work to other; target dates of
completion of the Projects are also indicated. It also gives a summary appraisal of the
Railways’ performance included shortfalls, if any, in respect of revenue earnings,
expenditure, works performance as provided in the ongoing Five Year Plan and Annual
Plan.
6.8. Outcome Budget : Outcome Budget, besides giving highlights of certain main
activities undertaken on Railways during the previous and the current year, gives outlays
and targets set/ achievement for Annual plan and also targets for freight and passenger
traffic. Performance of Production units is also given there.
6.9. Re-appropriation :is the transfer of funds, originally assigned for expenditure on a
specific object to supplement the funds sanctioned for another object.
Rules: (a) No reappropriation is permissible between Capital, Railway Funds, safety
Fund and Revenue,.
(b) Railway Board is competent for the re-appropriations within the Grant to and from the
following Plan Heads: (i) New Lines (construction) (ii) Gauge Conversion (iii)
Electrification Projects (iv) Track Renewals (v) Staff Quarters (vi) Staff amenities
(vii)Passener Amenities and other Railway Users Amenities
6.10. “Appropriation Accounts”: are the statements which are prepared for
presentation to the Public Accounts Committee, comparing the amount of actual
expenditure wit the amount of Grants s voted by Parliament and Appropriations
sanctioned by the President. The AA are signed by both the CRB and FC(Rlys) and
transmitted to Statutory Audit of Railway entrusted with the duty of reporting on these
accounts.
6.11. The Loan Account represents the loan (share) capital and the physical assets
created there from.
6.12. The Block Account represents all the physical assets of the Railway whether
financed from loan (share) capital or the Railways’ own internally generated funds.
The classification up to the detailed head represents only the activity. The structure of the
classification also incorporates a two digit code to represent the primary unit, i. e. the
object of the expenditure indicating on "what" the expenditure is incurred viz., salary,
allowances, wages, materials, etc. The indication of a classification of expenditure will,
therefore, be complete only if the Abstract, the minor, sub or detailed heads of activity as
well as the code of the object of expenditure are given, in that order. For instance, the
wages of a Diesel Loco crew will be indicated as F. 212-01.
Abstract( Dema Minor Sub Detailed Primary Unit
nd)
F (08) 200 210 212 01
Advantages: (i) easier computerization of revenue expenditure (ii) easier cost analysis
( iii) the new classification is "function" and "activity'' oriented.
The sub and detailed heads give the break up of the expenditure on assets in its
details such as Preliminary Expenses, Land, Formation, Permanent Way, Bridges,
Stations and Buildings etc.
The classification thus lends itself to computerised system being adopted for the
compilation. As the plan heads of classification coincide with the sub-heads of demands
for Grants the compilation of budget is also rendered easy and direct. The detailed
explanatory notes follow the classification to facilitate the correct booking of the
expenditure.
The earnings of Railways are classified under three Sub major Heads with a separate
abstract for each Sub major Head. viz-
Abstract Subject
“X” Earnings from Coaching traffic.
“Y” Earnings from goods traffic
“Z” Sundry other earnings.
The Sub major Heads are divided into Minor, Sub and Detailed heads as shown below-
The various heads of classification will be referred to by the numbers allotted to them
prefixed by the letter of the Abstract under which they occur. A few examples:
Four things stand out in the business environment in which the Indian railways presently
operate. They are:
Indian railways is confronted with the changing pattern of industrial production
and geography away from traditional industries and clusters towards a more
dispersed pattern embodying high value and low volume manufactures.
A transforming economy in India, which is shifting from a primary bulk
commodity production system to a specialized manufacturing system with
increasing contribution from the services sector. This would entail a maturing
customer who is shifting from looking for transportation to an integrated
management of logistics or Supply chain management.
A global economy which is getting highly integrated and where the options to
source raw materials, production source, intermediate finished goods and markets
for finished goods can be varied and change from one cycle to another. This has
increased the need for trans country movement of all types of goods (Raw
materials, intermediate semi finished products and finished products), especially
the semi-finished products, which have driven the global logistics and Supply
chain management industry. With this, the need to outsource such activities has
also gained apace due to emphasis on specialization and working to individual
core competencies
A growing and urbanizing population in India, whose transportation needs are
driven by an affluence leading to increased requirements of onboard and off board
services.
All in all, the business environment is much more dynamic and changed than what
Indian railways faced in the period 1950-1990. What is more important is that the
business environment is dynamic because of increasing technological advances which
are increasing the substitute products for transportation—eg ICT advancements and e-
commerce—and shorter but more dominant business cycles which are globally
integrated.
Internally, the growth rate of Indian railways has always lagged behind growth rate
achieved by the transport sector.
This ahs been attributed to the Railways inability to create requisite capacity to transport
goods and passengers. One main reason for its inability to create capacity has been its
poor project management skills.
LIMITATIONS
Many constraints were involved in doing this study. Some of them are as follows.
The most significant limitation has been the individuals involved in this study
were very busy and did not spare much time in discussion.
The sample size selected for the survey was too small as compared to large
population.
The project was carried out only in the Delhi, so findings on data gathered can be
best true for Delhi only and not applicable to other parts of state and country.
Indian stock market is a market where sentiments play a major role in price; hence 100%
accurate predictions cannot be made about its future path
RECOMMENDATION
Questionnaires
Bibliography
References