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Name: Gopal Krishan 0901202792 IUD No.: Enrollment No.: Course code: Course title: 09BS0002792 SLFI502 Financial Management II Date of Submission: 24th Dec, 2009 Submitted to: Paramita Malakar Title of assignment: Working Capital management of Grasim Industries Limited Student Sign Faculty Sign

Table of Contents
Introduction to the assignment:...................................................................................................... 3 Company for the working capital management: ........................................................................... 3 Cash conversion cycle: ................................................................................................................... 3 Assumptions for cash conversion cycle: ....................................................................................... 4 Calculation of cash conversion cycle for Grasim Industries Limited: ........................................ 4 1. 2. 3. 4. 5. 6. Raw material storage period ............................................................................................... 4 Work-in-progress storage period ........................................................................................ 4 Finished goods storage period ............................................................................................ 4 Average Collection Period .................................................................................................. 4 Average Payment Period .................................................................................................... 5 Operating cycle for Grasim ................................................................................................ 5

Working capital requirement: ........................................................................................................ 5 Analysis of the report: .................................................................................................................... 7 References: ...................................................................................................................................... 7

0901202792

Gopal Krishan

SLFM502

Introduction to the assignment:
The term working capital originated from the Yankee peddler story. He would load his wagon with goods and sell them to the other market. The horses and wagons being his fixed assets and the goods that he used to sell are termed as working capital because it was what he actually sold. Because he owned the horse and the wagon, they were financed by equity capital but the daily merchandise was purchased by him by taking loan from bank which if he repaid will be getting another loan from bank. It was termed as working capital loan and the practice was called as sound banking practice. This practice used to go in a cycle. He would take a loan from bank, sell inventory, repay the loan and them take another loan. Today the same cycle is followed by complex businesses in which they purchase inventory, sell them on credit and then collect amount receivables. This cycle is known as cash conversion cycle.

Company for the working capital management:
Grasim Industries Limited

Cash conversion cycle:
Cash conversion cycle is calculated by the formula Inventory conversion period Where; + Receivables collection period Payables deferral period = Cash conversion cycle

Inventory conversion period is average time required to convert material into finished goods and then to sell those goods.

o Inventory conversion period =
Receivables collection period is the average length of time required to convert the firm’s receivables into cash.

o Receivables collection period =
Payables deferral period is the average time between the purchase of the inventory and the payment made for them. o Payable deferral period = Cash conversion cycle is the average time for which the cash is tied up in the current assets. We manage the cash conversion cycle because if the cash is blocked in current assets for a longer time, we loose the opportunity cost on it. If the same amount of money is invested in the long term assets it can give us better returns. That is why; we must reduce our cash conversion cycle to shortest period possible. The shorter the period the better it is.

0901202792

Gopal Krishan

SLFM502

Assumptions for cash conversion cycle:
1. We assume that purchase, production and sales are carried on by the company equally throughout the year. 2. Because cash conversion cycle is calculated only on the basis of cash expenses and incomes, we do not take into considerations non cash expenses like depreciation.

Calculation of cash conversion cycle for Grasim Industries Limited:
1. Raw material storage period = Average stock of raw material = Average daily consumption = = = = 9.95 = 879.86

Where, raw material also includes components of goods, spare parts and packing material. Raw material Storage Period = = 88.4 = =

2. Work-in-progress storage period =

6.33
Average Stock of Work-in-progress = Average daily cost of production = = 103.46 = 16.33

Where, total cost of production = Consumption of work-in-progress + consumption of raw material + manufacturing expenses = 2735.8 + 3064.25 +143.12 – 63.8 = 5879.37 3. Finished goods storage period = Average stock of finished goods = Average Daily cost of sales = = 184.41 = = 28.12 = = 6.56

Where, total cost of sales includes salary of employees, selling and distribution expenses, excise duty, financial expenses, consumption of work in progress, consumption of finished goods. Therefore, cost of sales = 598.17 + 1920.29 + 1268.66 + 142.14 + 6257.02 + 152.6 – 216.22 = 10,122.66 4. Average Collection Period = = = 21.19

0901202792

Gopal Krishan

SLFM502

Average debtors = Average daily credit sales =

= 635.96 = = 30.01 = = 108.76

5. Average Payment Period = Average creditors = Average credit purchases = = 1217.86 =

= 11.2

Where, total credit purchases include purchases of raw material, purchases of finished goods to be sold and purchases of spare parts, packaging material, etc. Operating Cycle of Grasim Industries Limited: 6. Operating cycle for Grasim will be Raw material storage period + Work-in-progress storage period + finished goods storage period + Average collection period – Average payment period 88.4 + 6.56 + 6.33 + 21.19 – 108.76 = 13.73

days

Working capital requirement:
Working capital requirement has 2 major components, current assets and current liabilities. When we calculate the working capital requirement, we have to consider the holding period of inventory, the credit collection and payment period. The holding period then helps us to calculate the working capital required for the year. By using the operating cycle, we can calculate the working capital requirement of the company. Through the operating cycle we come to know the various components and the duration of each component. This helps us in identifying and estimating the working capital requirement. For Grasim Industries Limited we do not have any units of production. So we can estimate the requirement of working capital by using the sales to various components ratios. In the year 2008-09, the sale of the company is Rs. 10,804.01 crores. Here we will estimate the working capital requirement if the company aims at a sales of Rs. 12,000 crore in the next financial year.
For sales of 10804.01 Raw material cost Manufacturing expenses Selling, admin and financial Profit Cost Rs. crores 3582.97 2815.12 3865.64 540.28 Cost per unit sales 0.332 0.261 0.358 0.050

0901202792

Gopal Krishan

SLFM502

The cost per unit sales is calculated by dividing the cost particular with the total sales. This gives us the cost per unit under different particulars. We have to estimate the working capital for sale of Rs. 12,000 crores. The time duration for holding different assets are:
Particulars Days In months Raw material storage period 88.40 2.95 Work in progress period 6.33 0.21 Finished goods storage period 6.56 0.22 Collection Period 21.19 0.71 Payment period 108.76 3.63

To calculate the working capital requirement, we have to multiply the cost per unit with the sales required, i.e. 12000, and with the holding period calculated in months. Then we have to see what particular will be blocked in which type of asset, like the raw material will be blocked first in the raw material holding period, then in the work-in-progress, then in the finished goods, and then with the debtors but the profit will be blocked only with the debtors. Likewise we can make a matrix showing the various items and the holding cost. The total of all the costs taken together will be the working capital requirement in form of different assets. Here in this case, we are getting a total of 24,194crores of working capital in different forms of assets. The total at the bottom of every column in the next table shows us the amount of working capital required under each head of the assets.

Period 1. Raw material In Stock In W.I.P In Finished goods In debtors 2. Manufacturing Exp In W.I.P In Finished goods In debtors 3. Selling dist exp In Finished goods In debtors 4. Profits In debtors Total 2.95 0.21 0.22 0.71

Raw Material 11726.56

W-I-P

Finished Goods

Debtors

Total

839.70 870.21 2810.92 16247.38

0.21 0.22 0.71

659.74 683.72 2208.53 3551.99

0.22 0.71

938.86 3032.69 3971.54

0.71 11726.56 1499.44 2492.78

423.86 8476.00

423.86 24194.78

0901202792

Gopal Krishan

SLFM502

Analysis of the report:
1. In the operating cycle, the holding period for raw material is pretty long and the company can reduce it to a lesser duration by converting the raw material rapidly into the work-in-progress or by purchasing the raw material when it is required. By this, the company will be able to invest the blocked amount of raw material into some other investment which will give a better return. 2. The collection period is good being only 22 days and the payment period is also longer as compared to the collection period. That means that the company is enjoying long term credit from the creditors. 3. But looking at the working capital requirement, we get a different and clearer picture. As per the operating cycle, the raw material holding period is the longest and same is true as per the estimation that most of the working capital is required in the raw material only. But second largest amount is required to be in the form of debtors which is around 8,476 crores. 4. Considering the collection period, we can say that the company is in better position because it is making handsome amount of sales and is collecting the cash also in a 3 weeks period. 5. Total working capital requirement is very high being 24,194 crores and raw material and debtors have a major share in the working capital. 6. It can be reduced by reducing the operating cycle in terms of raw material holding period and debt collection period. 7. The working capital ratio is also good for the company being around 1.36 which is again a good sign for the company. 8. The working capital turnover ratio is also very high being almost around 13.17. 9. Overall the company is in a fine position only thing they need to work on is the raw material conversion period so that they can even reduce the working capital requirement and the operating cycle as well.

References:
1. 2. 3. 4. 5. Annual report of Grasim Industries limited for the year 2008-09. www.moneycontrol.com Financial management, IUP, October 2005 published, chapter 13 th. Corporate Finance by Brigham. Chapter 16. Financial management, 4t edition by Khan and Jain.

0901202792

Gopal Krishan

SLFM502