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Financial Management in Banking Sector and Working Capital Financing

Important Points to remember

Treating assets as non-performing
Asset
Term Loans
Cash credit and
overdrafts
Bills Purchased and
discounted
Agricultural advances
for short duration crops
Agricultural advances
for long duration crops
When the asset is to be treated as non-
performing
interest and/or principal instalments remain
overdue for more than 90 days
The account remains "out of order" for more than
90 days
the bill remains overdue for a period of more than
90 days
interest and/or instalment of principal remains
overdue for two harvest seasons beyond the due
date
if the interest or principal instalment remains
unpaid for one crop season beyond the due date

Provision of NPA
Loss Asset outstanding 100 %
Doubtful Assets (Unsecured portion of 100%
outstanding)
Doubtful Assets (secured portion of 25% (up to 1 year in doubtful
outstanding) category)
40% (more than 1 year & up to 3
years in doubtful category)
100 % (more than 3 years in
doubtful category)
A sub-standard asset (secured exposure) 15%
A sub-standard asset (unsecured portion 25%
of)
Standard Assets a minimum provision of 0.40% to
0.25% depending on the type of
loan.
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Financial Management in Banking Sector and Working Capital Financing

Advances covered by ECGC guarantee.

Outstanding Balance Rs.4 lakhs

ECGC Cover 50 percent
Period for which the advance has remained More than 2 years remained doubtful (say as
doubtful on March 31, 2014)
Value of security held Rs.1.50 lakhs

Provision required to be made.

Outstanding balance Rs.4.00 lakhs

Less: Value of security held Rs.1.50 lakhs
Unrealised balance Rs.2.50 lakhs
Less: ECGC Cover
(50% of unrealisable balance) Rs.1.25 lakhs
Net unsecured balance Rs.1.25 lakhs
Provision for unsecured portion of Rs.1.25 lakhs (@ 100 percent of unsecured portion)
advance
Provision for secured portion of Rs.0.60 lakhs (@ 40 per cent of the secured portion)
advance (as on March 31, 2012)
total provision to be made Rs.1.85 lakhs (as on March 31, 2014)
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Financial Management in Banking Sector and Working Capital Financing

Multiple Choice Questions

1. An _________ loans it is raised against the personal guarantee of
the borrowers.

a. Unsecured
b. Secured
c. none of these

2. _______ is the most liquid item of current assets.

a. Cash
b. Stock
c. Debtors

3. High tax rates demand ______amount of Working Capital.

a. Less
b. More
c. none of these

4. Bills purchased and discounted is treated as NPA when they

remain unpaid for more than ____ days.

a. 45
b. 30
c. 90

5. An asset becomes non-performing when ______________.

a. no income is received.
b. loss is incurred.
c. no profit is received.

6. Estimate of cash flow is affected by ________.

a. Future Price Trend

b. Competition
c. Sales volume
d. All the Above
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Financial Management in Banking Sector and Working Capital Financing

7. NPA stands for ______________.

a. Net Performing Assets

b. Non-Performing Assets
c. Non-Privilege Assets
d. None of the Above

8. Public deposits are accepted for a maximum of ___________

years.

a. 1
b. 2
c. 3
d. 5

9. In India, Commercial Papers are issued as per the guidelines

issued by _______.

a. SEBI
b. RBI
c. Forward Market Commission
d. None of the Above

10.------------- represents those funds which are required to manage

day to day business operations.

a. Long-term capital
b. Short-term capital
c. Working capital
d. None of the above

11.In case of sub-standard Asset (unsecured), provision for NPA

should be made at ---------------

a. 15 %
b. 25%
c. 40%
d. 100 %
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Financial Management in Banking Sector and Working Capital Financing

12.Which among the following is a short-term source of working

capital financing?

a. Bill discounting
b. Letter of credit
c. Commercial paper
d. All the above

True or False

1. In case of inadequate working capital situation, the firm runs the risk of
insolvency.
a. True
b. False
2. A firm using labour-oriented technology will require more working capital to
pay labour wages regularly.
a. True
b. False
3. Marketable Securities are temporary short-term investments made out of
surplus cash balance.
a. True
b. False
4. RBI is the Central Bank of India.
a. True
b. False
5. Zero working capital is when both current assets and current liabilities are
equal
a. True
b. False
6. NPA stands for Net Performing Asset
a. True
b. False
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Financial Management in Banking Sector and Working Capital Financing

7. Standard assets are those assets which do not have any risk.
a. True
b. False
8. Term loan is an advance given by bank to its customers.
a. True
b. False
9. Depreciation is an external source of finance.
a. True
b. False
10.Working capital represents those funds which are required to manage long-
term business operations.
a. True
b. False
11.Trade credit is a spontaneous source of finance.
a. True
b. False
Question 1: From the following particulars, prepare statement showing
working capital needed to finance a level of activity of 12,000 units of output
per annum.
Raw Materials 5
Labour 3
Overhead 2
Total Cost 10
Profit 2
Selling Price 12
Additional information:
(a) Raw Materials are to remain in store on an average-one month.
(b) Materials are in process, on an average- 2 months.
(c) Finished goods are in stock on an average- 3 months
(d) Credit allowed to Debtors is 4 months.
(e) Credit allowed by suppliers is 2 months.
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Financial Management in Banking Sector and Working Capital Financing

Also calculate MPBF (third method) as per Tandon Committee

recommendation, assuming that of the current assets 20% is Core Current
Assets.
Question 2: From the following information find out the amount of provisions
required to be made in the profit and loss account of Dena Commercial Bank for
the year ended 31st March, 2019
Assets Classification Rs. (in lakhs)
Standard 4,000
Sub-Standard 2,000
Doubtful up to one year 900
Doubtful up to three years 400
Doubtful for than three years 300
Loss Assets 500

Question 3: From the following information, compute the amount of

provision to be made in the profit and loss account Saraswathi Commercial
Bank .
Assets Classification Rs. (in
lakhs)
Standard (value of security Rs. 6,000 lakhs) 8,000

Sub-Standard 3,000
Doubtful
Doubtful for less than one year (Realisable value of security Rs.500 2,000
lakhs)
Doubtful for more than one year but less than three years 500
(Realisable value of security Rs.200 lakhs)
Doubtful for more than three years (Unsecured) 300
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Financial Management in Banking Sector and Working Capital Financing

Question 4: From the following information, compute the amount of

provision to be made in the profit and loss account of a Commercial Bank .
Assets Classification Rs. (in lakhs)
Standard 7,000
Sub-Standard (fully secured) 3,000
Doubtful up to one year (Realisable value of security Rs.500 1,000
lakhs)
Doubtful exceeding one year but less than three years 500
(Realisable value of security Rs.300 lakhs)

Loss Assets 1,000

Question 5: From the following information find out the amount of provisions
to be shown in the profit and loss account of a commercial bank

Assets Rs. Lakhs

Standard 6,000
Sub-Standard (Fully secured) 4,400
Doubtful: (Fully secured)
For one year 1,800
For two years 1,200
For three years 800
For more than 3 years 600
Loss Assets 1,200

Question 6: From the following information, compute the amount of

provision to be made in the profit and loss account of a Commercial Bank.
Assets Classification Rs. (in lakhs)
Standard 2,000
Sub-Standard 1,000
Doubtful assets (Unsecured) 250
Doubtful assets (secured)
Upto 1 year 450
More than 1 year up to 3 years 200
More than 3 years 150
Loss Assets 250
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Financial Management in Banking Sector and Working Capital Financing

Question 7 : X ltd as provided the details of advances. Calculate the provisions

to be made in the Profit & Loss account.
Assets Classification Rs. (in lakhs)
Standard 12,000
Sub-standard 8800
Doubtful:
For one year 3600
For two years 2400
For three years 1600
For more than three years 1200
Loss Assets 1000

Question 8: From the following information, compute the amount of Profit and
Loss Account of Bharosa Bank:
Assets Classification Rs. (in
lakhs)
Standard assets 50,000
Sub-standard assets (fully secured) 32,500
Doubtful assets
Doubtful For less than one year 15,750
(Realisable value of security Rs. 3500.)
Doubtful for more than one year but less three years 5,250
(Realisable value of security Rs. 1500.)
Doubtful for more than three years (unsecured) 2,500
Loss Assets 1,750

Tandon Committee Method

METHOD – I
As per Tandon’s -I method (also called as ‘first method’) of lending the
borrower must arrange 25% of the Working Capital Gap (WCG) as
margin.

MPBF = 75% of (Current assets – Current liabilities other than bank

borrowings)
The minimum current ratio under this method works out to 1: 1.
METHOD – II
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Financial Management in Banking Sector and Working Capital Financing

In Tandon’s Second method of lending the borrower must arrange 25% of

Total Current Assets (TCA) as margin.
MPBF = (75% of Current assets) – (Current liabilities other than bank
borrowings)
The minimum current ratio under this method works out to 1.33: 1.
The third method's maximum WC loan can be given as 75% of (Current
Assets – Core current assets) – Current Liabilities other than bank
borrowings.
Practice Questions on Tandon Committee Recommendations
Question 9 : The following data is provided by Zampa Ltd for the year. You are
required to calculate the missing figures?
Sales Value 5,00,000
Income 1,00,000
Capital Employed 1,25,000
Weighted Average cost of capital 8%
Sales Margin (%) ?
Capital Turnover (Times) ?
Return on Investment (%) ?
Economic Value Added (`)

Question 10: The following information is pertaining to Akli Ltd.

Budgeted Sales per week – 500 units
The cost details of the company are as follows: -
Cost Elements Per Unit (`)
Raw Materials 6.00
Direct Labour 8.00
Overhead 4.00
Total Cost 18.00
Profit 2.00
Sale Price per unit 20.00

It is estimated that: -
1. Raw materials remain in stock for 3 weeks and finished goods for 2 weeks.
2. Factory processing takes 3 weeks
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3. Suppliers allows 6-week credit

4. Customers are allowed 8 weeks credit.
5. Assume production and overheads accrue evenly throughout the year.
Prepare a statement showing working capital requirement and calculate
Maximum Permissible Bank Finance (MBPF) as per first and second method of
lending.
Question 11 : Natsya Limited requests you to prepare a statement showing the
working capital requirements forecast for a level of activity of 109,200 units of
production. The following information is available for your calculation.
Cost Sheet Rs (Per Unit)
Raw Material 63.00
Wages 28.00
Overheads 52.50
143.50
Profit 42
Selling Price 185.5

Additional Information:
i. Raw materials are in stock on average one month.
ii. Materials are in process, on average 2 weeks.
iii. Finished goods are in stock, on average one month.
iv. Credit allowed to debtors – 2 months.
v. Lag in payment -1 and half weeks.
vi. Lag in payment of overheads – one month.
vii. 20 % of the output is sold against cash. Cash in hand and at bank is
expected to be Rs. 42,000. It is assumed that production is carried on
evenly throughout the year.
viii. Wages and overheads accrue similarly, and a time period of 4 weeks is
equivalent to one month.
ix. Also calculate Maximum Permissible Bank Finance as per Tandon
Committee assuming that core current assets are 25% of total assets.
Question 12: From the following particulars obtained from the books of
Pranav Limited, prepare statement showing working capital needed to finance a
level of activity of 18,000 units of output per annum.
Particulars Per
Unit
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Financial Management in Banking Sector and Working Capital Financing

(Rs.)
Raw Materials 18
Direct Labour 4.5
Overheads 13.5
Total Cost 36
Profit 9
Selling Price 45
Additional information:
a) Raw Materials are to remain in stock on an average for two months.
b) Materials are in process, on an average- for half a month.
c) Finished goods are in stock on an average- 2 months.
d) Credit allowed to Debtors is 3 months.
e) Credit allowed by suppliers is 2 months.
f) Lag in payment of wages is half month.
g) Cash on hand and at bank is expected to be Rs. 10,500

Also calculate MPBF (third method) as per Tandon Committee

recommendation, assuming that of the current assets 25 % is Core Current
Assets.
Question 13: From the following particulars obtained from the books of Trisha
Hardware Private Limited, manufacturers of hardware components prepare
statement showing working capital needed for the year 2023 (52 weeks)
Estimated production and sales : 104,000 units
Particulars Per
Unit
(Rs.)
Raw Materials 5
Direct Labour 3
Overheads 2
Total Cost 10
Profit 5
Selling Price 15
Additional information:
a) Raw Materials are to remain in stock for three weeks.
b) Materials are in process, for two weeks.
c) Finished goods are in stock for three weeks.
d) Credit allowed to Debtors is four weeks.
e) Credit allowed by suppliers is two weeks.
f) Lag in payment of labour and overheads is two weeks.
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g) Cash on hand and at bank is expected to be Rs. 20,000.

Operations are expected to be distributed evenly throughout the year

Also calculate MPBF (third method) as per Tandon Committee

recommendation, assuming that of the current assets 20 % is Core Current
Assets.