Other Sources of

ShortTerm
Finance

BLOCK 4
WORKING CAPITAL MANAGEMENT:
ISSUES AND PRACTICES

259
Financing of
Working Capital BLOCK 4 WORKING CAPITAL
MANAGEMENT: ISSUES AND
PRACTICES
This block contains four units, the first unit discusses the role and
contribution of SMEs in India, and the scope, and functions of financial
management in SMEs. Besides it also presents the issues relating to the
working capital management for small and medium enterprises. The second
unit explains the financing options of large and small businesses, besides the
differences between the small and large firms working capital management.
Further, it also highlights the important factors that affect the working capital
needs of large companies. In the end, it discusses the impact of COVID-19 on
large companies working capital management.

The working capital management in MNCs is presented in the next unit to

understand the international environment under which MNCs carry out their
operations; along with developing an idea of how-to diverse risks associated
with the management of working capital and to know the issues involved in
the transfer of funds from the host country to home country and vice-versa.
At the end it examines the policies and practices followed by the MNCs in
managing individual components of working capital, viz., inventory
receivables and cash. Further, it also covers the diverse sources of working
capital available to MNCs. The last unit in this block focuses attention on the
case studies on the working capital components in different organizations to
gain knowledge on how to manage the working capital in practical situations.

260
 Working Capital
UNIT 12 WORKING CAPITAL Management in
SMES
MANAGEMENT IN SMES
Objectives
The objectives of this unit are to familiarise you:
• with the scope and functions of financial management
• role and contribution of SMEs in India
• working capital management for small business organizations
• managing working capital in small and medium enterprises.

Structure
12.1 Introduction
12.2 Small & Medium Enterprises Vs. Large Companies
12.3 Role of Small and Medium Enterprises in India
12.4 Working Capital Management for SMEs – Differential Features
12.5 Working Capital Cycle
12.6 Objectives of Working Capital Management in SMEs
12.7 Managing Working Capital
12.8 Determinants of Working Capital in SMEs
12.9 Components of Working Capital Management
12.10 Effective Working Capital Management for SMEs
12.12 Strategic Planning - Strengthen Working Capital Performance
12.13 Summary
12.14 Key Words
12.15 Self-Assessment Questions/Exercises
12.16 Further Readings

12.1 INTRODUCTION
To define Small and Medium Enterprises (SMEs), academics and policy
makers employed a range of criteria, including total worth, relative size
within the industry, number of employees, product value, yearly sales, or
receipts. The benchmarks, on the other hand, differ significantly from country
to country, and classification can be based on a company's assets, several
employees, or yearly sales. The nature of the unpredictability that SMEs
encounter sets them apart from their larger counterparts. Smaller businesses
are more likely to be reliant on a small number of consumers and have a
restricted product selection; they are therefore more vulnerable to market
instability.

261
Working Capital
Management: 12.2 SMALL & MEDIUM ENTERPRISES Vs.
Issues and Practices
LARGE COMPANIES
There are several analysts who argued that SMEs have many advantages over
their large-scale competitors because of their modern technologies, which
allow them to adjust more easily to market situations. They claim that SMEs
can withstand unfavorable economic situations because of their flexibility.
They are more labour-intensive than larger firms and therefore, they have a
relatively low cost of capital associated with job creation.
Small firms are similar to large well-established corporations, but they have a
lesser market presence. On the other hand, the larger firms must deal with a
plethora of rules and regulations that they have imposed on themselves. As a
small business owner, you'll have a lot more leeway when it comes to making
adjustments to business processes. Taking working capital management
seriously and paying attention to the intricacies of how cash flows are
handled can make the company more lucrative. This, when paired with social
networking, e-commerce, and data science, can be extremely beneficial to
small businesses.

A small or large business must be able to earn enough cash to meet its
immediate obligations and hence continue to trade. The failure of small and
medium businesses is caused by ineffective working capital decisions and
insufficient accounting information that has been cited regularly. Many
experts agree that “the smaller they are, the less efficient they tend to be.”
Although little study has been done on the SMEs sector, articles on working
capital management claim that the following distinctions in working capital
management techniques exist:
• For short-term finance, there is a growing reliance on trade credit and
bank overdrafts.
• willingness to extend overly generous credit terms to win business,
especially from large corporations
• Weak control procedures and a lack of a clear working capital
management policy.

The manufacturing and retailing firms generally hold more than half of their
total assets as current assets, even though the level of working capital varies
greatly by industry. As current assets are held in the form of inventory,
accounts receivables, bank and cash balances the percentage is even higher in
the case of SMEs, many of whom do not have long-term assets such as a
building or a vehicle of their own.

The small firms most typically pursue finance in the form of standard small
business loans. While these loans are excellent for beginning a firm,
producing an initial cash flow, and developing working capital, they can be
challenging to maintain over time. As a result, small firms’ investments can
take many different forms. In addition to standard small business loans,
they may be able to obtain funding through personal loans, such as home
equity loans. Small businesses can also fund their endeavors through their
262
vendors, such as financing equipment or using a pay-by-the-hour option, Working Capital
Management in
such as "buy now, pay later." Finally, small firms may be eligible for SMES
venture financing or government incentives under certain conditions.

12.3 ROLE OF SMALL AND MEDIUM

ENTERPRISES IN INDIA
Small and medium enterprises contribute significantly to the creation of jobs
and the gross domestic product of all countries across the world (GDP).
These in general, engage in a wide range of economic activities and are often
regarded as the backbone of economic growth and development in both
emerging and established economies. Small and medium-sized businesses are
one of the most active development engines, accounting for about 80 percent
of worldwide economic development. SMEs account for more than 90
percent of businesses in developing nations, except agricultural businesses,
and they contribute significantly to GDP. As a result, practically every
country considers SMEs to be a priority.

In India, this industry contributes considerably to the socio-economic

development of the country. Furthermore, compared to larger corporations, it
offers a big number of job prospects at a minimal capital cost. Small
businesses are predicted to have a four-fold higher employment intensity than
large businesses. As supplementary units, these small businesses are also
beneficial to larger industries. Because of their effective, efficient, adaptable,
and innovative entrepreneurial nature, they also contribute to the
development of the home economy. Furthermore, they aid in the reduction of
regional imbalances by assisting in the industrialization of rural and
backward areas. Similarly, the SME sector ensures that national income and
wealth are distributed more evenly. Small businesses have succeeded in
achieving the socialist objective of delivering equal growth, even though
huge corporations generally generated the islands of affluence in an ocean of
poverty.

MSMEs in India are defined differently for businesses that manufacture,

produce or process items vs those that provide or deliver services.
Manufacturing businesses are classified by their investment in plants and
machinery, whereas service businesses are classified by their investment in
equipment, according to the MSMED Act of 2006. Table-12.1 provides the
classification of MSMEs as per MSMED Act, 2006.

Table-12.1 Classification of MSMEs

Manufacturing Sector
Categories Investment in Plant & Machinery
Micro Enterprises Does not exceed Rs. 25 lakhs
Small Enterprises More than Rs. 25 lakhs but does not exceed Rs. 5
crores.
Medium Enterprises More than Rs. 5 crores but does not exceed Rs. 10
crores.
263
Working Capital
Management:
Service Sector
Issues and Practices Categories Investment in Equipment
Micro Enterprises Does not exceed Rs. 10 lakhs.
Small Enterprises More than Rs. 10 lakhs but does not exceed Rs. 2
crores.
Medium Enterprises More than Rs. 2 crores but does not exceed Rs. 5
crores.
Source: The Micro, Small and Medium Enterprises Development Act, 2006

12.4 WORKING CAPITAL MANAGEMENT IN

SMEs - UNIQUE CHARACTERISTICS
Any firm can have multiple sources of revenue, and effective management of
such sources can help the business run smoothly. While beginning money
and fixed assets are often long-term investments, an effective cash flow
structure is essential for the day-to-day operations of any organization. In
light of this working capital becomes increasingly important for small
business owners. Furthermore, many small businesses run their operations
without keeping track of how their working capital is being used.

In reality, small business owners cannot afford to ignore the working capital
management process. Furthermore, many small businesses do not maintain
accounting records for their operations. As a result, without proper
accounting records and information, SMEs have a difficult time
distinguishing between their working capital and earnings. As a result of this
issue, SMEs frequently fail a few years after they are founded. As a result,
the goal of working capital management is to keep net capital at a level that
maximizes the wealth of the firm's owner. Apart from that, there are several
other problems to consider when it comes to working capital management:

i) Effective working capital management ensures that the firm has

sufficient liquidity to meet its short-term obligations when they become
due as well as carry out its usual day-to-day activities. There have been
multiple instances where small businesses have failed due to a lack of
liquidity, despite increasing revenues.

ii) Many SMEs struggle to manage their working capital because they lack
the resources to adequately manage their trade debtors. Small businesses
frequently operate without a credit control department. As a result, both
knowledge and the information needed to make smart decisions about
sales terms and other matters may be unavailable.
iii) SMEs lack effective debt procedures, such as timely invoicing and
regular statement distribution. Where there is a sole concern for
expansion, this tends to increase the chances of late payment and
defaulting debtors. To boost sales, SMEs may be willing to lend credit to
consumers who pose a high risk of default. While this type of issue can
occur in any size business, it is more common in smaller businesses.

264
iv) When negotiating financing terms with bigger businesses, SMEs will Working Capital
Management in
frequently find themselves in a disadvantaged position. Furthermore, SMES
when a major customer exceeds the conditions of the credit, the small
supplier may be hesitant to pursue payment from the consumer for fear
of losing future sales. SMEs appear to have a substantially higher
proportion of past-due loans than bigger corporations.
v) The SME owners and managers are not always aware of the expenses of
keeping too much stock as well as the costs of holding too little stock.
Because an effective inventory management system necessitates efficient
planning and budgeting processes, accurate sales projections or budgets
should be provided for stock ordering purposes.

vi) It was also found that cash balance was generally proportionately higher
for SMEs than for large businesses. Again, more than half of the SMEs
had regular surplus cash balances. Although finance, and specifically
working capital, has been highlighted as one of the key impediments to
small business growth, current understanding does not address the
specific difficulties or intricacies of the obstacles that small business
owners have in managing working capital.

Activity 12.1
You are required to approach a small business firm of your choice and
discuss the policies and procedures followed in the sphere of working capital
management.
…………………………………………………………………………….
…………………………………………………………………………….
…………………………………………………………………………….
…………………………………………………………………………….
…………………………………………………………………………….
…………………………………………………………………………….
…………………………………………………………………………….

12.5 WORKING CAPITAL CYCLE

Moreover, half of the SMEs had regular cash surpluses. Even though finance,
and specifically working capital management, has been highlighted as one of
the key limitations to small business growth, current understanding does not
address the specific difficulties or intricacies of the obstacles small business
owners have in managing working capital. Figure-12.1 shows that several
elements of working capital are interconnected and can be considered as
sections of a cycle. The net time delay between real cash expenditure on a
firm's purchases and the ultimate recovery of cash proceeds from sales is
reflected by the working capital cycle, which is also known as the operational
cycle.

There are three phases to the operation cycle. Cash is transformed into
inventory in phase one, which comprises purchasing raw materials, 265
Working Capital converting raw materials into work-in-progress, and finished goods, and
Management:
Issues and Practices finally transferring items to stock after the production process. This phase is
shorter in trading companies that are usually modest in size since there is no
manufacturing activity and cash is directly converted into inventory.

Inventory is transformed into receivables in phase two of the cycle as credit

sales are made to customers. Businesses that do not sell on credit do not have
phase two of the operational cycle, which is especially true for small and
medium businesses. The collection of receivables is represented by the final
phase. This phase completes the operating cycle, requiring businesses to
transition from cash to inventories, receivables, and then back to cash.

Figure-12.1: Working Capital (Operating) Cycle

Credit for suppliers

Price level
Changes
Business
Fluctuatio Cash
n

Accounts Accounts
Receivable Payable
Production

Finished Raw Material

Goods Inventory
Nature of Inventory
Business

Production Policy Growth & Expansion

Determining working capital using Operating cycle is discussed in detail in

unit-3 of this course.

12.6 WORKING CAPITAL MANAGEMENT

GOALS FOR SMEs
The basic goal of working capital management, whether small or large, is to
maintain a level of working capital that maximizes the value of the firm's
owners/shareholders. In addition, the following are some of the goals of
working capital management:

i) Working capital and the liquidity of the company are inextricably linked.
As a result, good working capital management ensures that the company
266
 has enough cash on hand to meet its short-term obligations and run its Working Capital
Management in
day-to-day operations. SMES

ii) There should be a link between profitability and working capital as well.
Because of the cost of financing the firm's current assets, the amount of
capital has an impact on its profitability and working capital.

iii) There is evidence that many SMEs are poor at managing their working
capital, which has been highlighted as a primary reason for their high
failure rate when compared to bigger enterprises.

12.4 WORKING CAPITAL MANAGEMENT

As previously stated, there is a link between working capital investment, cash
availability, and other cash uses and sources. If a company invests too much
money in working capital, the quantity of money available for other business
needs may be lowered. Because it does not have enough cash to invest in
long-term assets that can provide higher returns, this could have an impact on
future profits. Capital issues, debt, or the sale of current assets, which are
usually costly for the company, can all be used to raise cash. The best
strategy to fund the working capital required is to use the cash generated from
operating activities. This will ensure that you have enough cash to pay your
tax and dividend obligations.

As a result, working capital is one of the few remaining areas where a

shareholder's value can be influenced without the help of a huge restructuring
firm. In a recovering economy, funding working capital also needs strategic
planning and oversight. Companies have the problem of expanding output
while keeping working capital under control, which has had a significant
impact on revenue, operating margin, asset efficiency, and future
expectations, as well as the components of working capital. This is depicted
in Figure-12.2 as follows:

Figure-12.2: Interlinking of Shareholder Value and Working Capital Management

There are no fixed norms or criteria for calculating a company's working

capital. To assess the level of working capital, the company must evaluate a
variety of elements. The amount of working capital required by a company is
influenced not only by the company's internal characteristics, but also by its
economic, monetary, trading, and working capital regulations. Among the
various factors, the following are important ones. 267
Working Capital
Management:
12.7.1 Nature of Business
Issues and Practices
The type and size of working capital are influenced by the characteristics of
the firm within the industry. A retailing unit has a specific inventory, such as
finished items. These are things that were purchased on credit; however, the
majority of the sales were made in cash. The stock level of items is typically
high, and some merchants have just-in-time relationships with suppliers,
allowing them to lower the cost of inventory keeping. Raw materials, work-
in-progress, finished goods, and consumables are the four categories of
inventories found in a manufacturing company. Keeping inventory, costs a
lot of money, thus these companies commonly buy and sell on credit.
Manufacturing companies, on the other hand, typically have a high amount of
trade receivables and trade credits from suppliers.

12.7.2 Working Capital Policy

Because less cash is tied up in current assets, a more aggressive working
capital program will boost profitability. The risk will also rise if the
likelihood of cash shortages or inventory shortages increases. Maintaining a
greater cash position, possibly even investing in short-term securities,
offering more generous credit terms to consumers, and storing higher
quantities of inventory are all connected with a conservative and more
flexible working capital policy for a given level of turnover. This policy will
result in lower risk, but at the cost of lesser profitability.
A moderate policy would strike a balance between aggressive and
conservative policies. By comparing a company's working capital policies to
the working capital policies of similar companies, it may be determined
whether the company's working capital policies are aggressive, moderate, or
conservative. Despite the lack of a precise definition of what constitutes
aggressive behavior, these classifications are useful for studying how
different companies approach working capital operational management.
Figure-12.3 depicts a more detailed picture of the working capital cycle, with
arrows showing cash movement.

Working Capital
Requirement

Figure-12.3 Cash Movement in the Working Capital Cycle.

Source: Singh & Kumar (2014)
268
 Working Capital
12.7.3 Financing of Working Capital Management in
SMES
The risk-return trade-off that happens in policy decisions about current asset
investments is also important in policy decisions about other items on the
balance sheet, such as the choice between short-term and long-term funds to
finance working capital. We can divide a company's assets into three
categories to help with working capital financing policy decisions: non-
current assets, permanent current assets, and fluctuating current assets. Non-
current assets are long-term assets that a company expects to benefit from
over a lengthy period, such as factory buildings and production machines.
Permanent current assets, on the other hand, reflect the core level of working
capital required to maintain the typical level of ongoing business or trading
activity, such as inventory and trade receivables investment. The fluctuating
current assets reflect changes in the level of current assets as a result of
typical business operations.

A fair financing policy allocates short-term funds to fluctuating current assets

and long-term funds to permanent current assets and non-current assets. The
funds' maturity corresponds to the maturity of the various types of assets.
Long-term funds are used to finance non-current and permanent current
assets in a conservative financing approach. The risk of conservative working
capital management is lower since there is less reliance on short-term
financing, but the higher cost of long-term funding reduces profitability.
Short-term funds are used to finance not only fluctuating current assets, but
also some permanent current assets, under an aggressive financing policy.
This policy is more risky in terms of solvency, but it also has the highest
profitability and boosts shareholder value. Due to their greater sustainability
in various business scenarios, SMEs are more susceptible to these varied
ways of financing working capital than bigger enterprises.

12.7.4 Optimization of Working Capital.

The following are the various barriers to optimizing the working capital in
small and medium enterprises:

Customer and Fear of compromising relationships and revenue by

Rivalry pursuing customers for payment too aggressively. There's a
chance you'll lose clients to the competition.
Fear of drop-in customer service if inventory levels aren't
kept high. Customers are granted payment discounts even if
they do not pay on time. Longer payment terms are being
offered due to competition.
Concerns about how suppliers will react and the potential of
Suppliers disruption to supply as a result of a unilateral move to
extend payment terms.
Negative media impact on the organization's reputation if
payment terms are extended, especially for minor supplies.

269
Working Capital
Management: Control and The importance of cash is not reflected in individual or
Issues and Practices Accountability organizational performance measurements.
Working capital is a complex topic with multiple functional
areas to which no single person can be assigned authority.
Are there any advantages? We will be unable to run the
Advantages firm on a day-to-day basis if we restrict liquidity.
Are the advantages long-term? It can control working
capital levels after the fiscal year, but they quickly climb
again.

12.7.5 Small and Medium Enterprises - Overtrading

Overtrading is one of the issues that many businesses, particularly small and
medium-sized businesses, face. Over-trading occurs when a firm expands too
quickly and does not have enough long-term funds to support the increasing
asset level. When a company's revenues expand, so does the quantity of
working capital it has. In the absence of this additional funding, the company
may put pressure on its debtors and creditors. This could indicate that the
corporation is behind on payments to creditors or is putting pressure on
existing debtors to pay up sooner. Because the rise in inventory and trade
receivables exceed the growth in trade payables, a resource requirement must
be met. If no action is done, the firm's overdraft will be increased, generating
liquidity problems.

Many prosperous or growing businesses may be forced to close, due to a

liquidity problem. Over-trading can cause problems for even the most
experienced companies striving to expand quickly. Indeed, any company
looking to expand should factor in the need for long-term working capital
investments throughout the initial decision-making process. When a small
business receives substantial orders from a significant market player, it must
purchase new equipment, purchase additional raw materials, and recruit
additional personnel. For any of these, the company may seek an overdraft
from the bank or lease equipment.
It may be tough for a small supplier to put pressure on a buyer to pay early or
even within an acceptable time frame. Larger companies frequently wield
more power in commercial relationships. This situation becomes more acute
when trading internationally. As a result, when the economy emerges from a
recession, over-trading can be an issue for many businesses. When demand
increases, the company may boost inventory levels. This could be the most
fundamental scenario in which over-trading occurs. Business firms want to
take advantage of rising demand by attempting to complete all requests, but
they lack the financial resources to do so.

12.7.6 Overtrading Impact Reduced

To mitigate the impact of over-trading, it is recommended that the company
maintain, its growth strategy and take steps to secure the appropriate long-
term finance. The corporation can sell non-current assets for cash to finance
270
working capital if they do not create enough income and aren't crucial to the Working Capital
Management in
firm. The working capital policy should be reviewed to reduce trade SMES
receivables and inventory holding periods while simultaneously increasing
trade payable periods without affecting the prices/discounts agreed upon with
suppliers. The company must reassess its growth strategy, and if it expands
too quickly with insufficient financial resources, it may face financial
difficulties.

12.8 DETERMINANTS OF WORKING CAPITAL

MANAGEMENT IN SME
Corporate finance advocates that a variety of firm-specific elements influence
managerial decision-making, particularly small business working capital
performance. The level of working capital is determined by fundamental
elements such as a firm's size, working capital practices of enterprises, and a
variety of other considerations. They observed discrepancies in small and
large firm financial procedures, as well as greater and lower profitable firm
working capital methods. Managerial decisions are influenced by a variety of
characteristics, including business size, performance, industry, firm age,
manager gender, and management education. According to the above, the
size of SMEs' working capital practices is controlled by the following
characteristics, which are separated into three categories: firm-specific,
owner-specific, and behavioral bias. They are explained as follows:

12.8.1 Firm-Specific Factors

i) Firm Age: In the case of small company businesses, the firm's age has
been used as a proxy for the length of the relationship between suppliers
and customers, as well as the creditworthiness to support suppliers. It is
stated that age has a favorable impact on working capital requirements,
which could be explained by the fact that small businesses can obtain
loans more quickly with better terms and closeness to their financiers,
resulting in cheaper funding costs. In the case of SMEs, it is assumed
that there will be a positive link between the firm's age and the amount of
money necessary for working capital procurement.
ii) Firm Size: Another factor that influences the volume of working capital
funds is size, which has a positive link with the cash conversion cycle
and has shown that the working capital needs grow with size. This could
be because the cost of cash needed to invest in current assets, falls as the
size of the company grows, as smaller companies have more information
asymmetries and more informational capacity, which analysts can
exploit. In brief, because the cost of cash invested in current assets is
higher for smaller businesses, their accounts receivable and inventory
may be lower. Furthermore, as previously said, these companies use
greater trade credit from their suppliers. Thus, it can be seen that the size
of a company has a beneficial impact on the cash conversion cycle it
maintains.

271
Working Capital iii) Financial Leverage: Firms with more physical assets may have lower
Management:
Issues and Practices expenses when raising capital to invest in current assets, which may
increase the cash conversion cycle in small businesses. As a result, in
small businesses, physical asset investment is positively connected with
working capital size. Because of lower funding costs due to greater
physical assets, they may be able to invest more in working capital.

Firm Specific Factors Owner Specific Factors

• Age of the Firm • Gender
• Size of the Firm • Education
• Financial Leverage • Experience
• Foreign Sales

Working Capital Management Process

• Cash Management Practices
• Inventory Management Practices
• Receivable Management Practices
• Payable Management Practices

Behavioural Biases
• Self-Attribution Biases
• Overconfidence Biases
• Loss Aversion Biases
• Anchoring Biases

Figure-12.4: Determinants of Size of Working Capital in SMEs

iv) Foreign Sales: When compared to enterprises without foreign sales,

companies with overseas sales place a greater emphasis on working
capital. SME owners' financing preferences are also influenced by these
sales. The export-oriented businesses find it easier to obtain bank
funding because they have a higher likelihood of payback than non-
exporting businesses due to better production and profit. Furthermore,
factors such as the currency exchange rate and the degree of inflation
have a greater impact on cash management in companies that sell
internationally than in companies that do not. Furthermore, export-
oriented businesses pay more attention to currency exchange rates
because fluctuations in the rate affect the price of exported items and, as
a result, cash flows. The enterprises with foreign sales are more
formalized and use advanced procedures in inventory management than
firms without international sales.

272
 Working Capital
12.8.2 Owner Specific Factors Management in
SMES
i) Gender of Manager: It is a well-known truth that human attitudes and
behavior influence financial decision-making. Furthermore, due to their
attitudinal differences, males and females have dramatically different
risk-taking capacities. Females were discovered to be more risk-averse
than their male counterparts, who have higher risk tolerance. Males and
females have different risk perceptions, which influences their decision-
making. Female business managers are also more likely than male
business managers to experience financial difficulties.
ii) Education of Manager: Highly educated persons are thought to make
more informed decisions and make decisions based on analytical
reasoning. Managerial education is considered a critical component for
increasing productivity in a fast-changing environment. People with
higher education have stronger problem-solving skills and are more
adaptable to change than those with lower education. In terms of
working capital size, it has been discovered that SME owners/managers
with higher education are better equipped to manage their working
capital. In addition, skilled SME managers can effectively control
inventory levels using computerized accounting systems.

iii) Experience of Manager: A manager's work experience is an equally

essential factor in improving a company's performance. Further, more
work experience reduces the likelihood of decision-making errors. As a
result, the manager's experience has been regarded as a significant
element affecting many elements of SME enterprises. More experienced
SME managers, are expected to be, better at negotiating credit terms with
suppliers and customers. Skilled SME managers can control inventory
levels using the most up-to-date technologies in their systems.

12.8.3 Behavioural Biases

According to classical finance theories, individuals are rational and make
decisions based on predicted utility maximization. However, in real-life
situations where people are not completely logical, the truth does not match
these expectations. It has been shown in the field of experimental psychology
that humans generally depart from the classic rationality paradigm. Moods,
emotions, personality traits, and other behavioral aspects influence their
decision-making. Over time, extensive research on behavioral biases has been
conducted, and they have identified a long list of biases that influence
managers' behavior on working capital management, particularly in SMEs,
including representativeness, overconfidence, anchoring, loss aversion, self-
attribution, mental accounting, overreaction, herding, and so on.

12.9 COMPONENTS OF WORKING CAPITAL

MANAGEMENT
A typical manufacturing or distribution firm’s current assets account for more
than half of its overall assets. As a result, these businesses must efficiently
manage their current accounts to achieve the necessary balance of 273
Working Capital profitability and risk. Thus, it is a critical component of a company's overall
Management:
Issues and Practices strategy for increasing shareholder value. This, in turn, entails managing and
controlling current assets and liabilities in a way that removes the danger of
failing to pay short-term commitments', due dates and avoids overinvesting in
these assets.

12.9.1 Inventory Management

The corporation should aim to strike a balance between the cost of retaining
inventory and the risk of missing out on sales. The goal is to lower the
company's total cost. This can be accomplished if there is a good line of
communication between the marketing and sales departments, the production
and purchasing departments, and the store managers. Indeed, the company
should select an inventory management system that is appropriate for its
industry and product features.

i) Potential Consequences of Stock-Out: The impact of a stock-out

would have an impact on the amount of inventory held by a corporation.
Inventory holding is a smart investment, but it also comes at a cost to the
company. Without incurring holding costs, the corporation can earn by
saving interest in the bank or investing in higher-yielding investments.
As a result, the cost of financing inventory will be influenced by the
company's ability to finance the additional expenditure. If the demand
for the company's goods is known with reasonable certainty, or if a
predictable pattern exists, the company can predict the inventory level.
Because the company has a good relationship with its suppliers and the
distribution route is functional, it may reduce inventory holding and save
money by receiving the product soon.

When a company runs out of inventory, it risks losing sales and losing
money that could have been generated through sales. If the company's
product is specialized, the consumer may have to wait for it, which is
less serious. If a company's products are homogeneous, buyers can
simply locate them elsewhere, which causes the company to lose clients
to its competitors. When the company is in a slump, however, it may be
difficult to acquire another customer, resulting in a higher economic
impact. If it is a manufacturing company, a shortage of raw materials
will disrupt production, resulting in idle time and overheads that aren't
incorporated into the product.

ii) Economic Order Quantity: By combining the expenses of storing

inventory with the expenses of acquiring the goods, this inventory
management method determines the optimal order size. A minimum-cost
procurement approach is based on this ideal order size. The economic
order quantity model presupposes, that costs and demand are stable and
certain for the period under discussion.

iii) Just-In-Time Inventory Policies: In recent years, several businesses

have cut inventory expenditures by reducing inventory levels. The goal
of a just-in-time (JIT) purchasing policy is to reduce or eliminate the
period between inventory delivery and use. Such strategies have been
274 used in a wide range of commercial operations and necessitate a close
 interaction between the raw material provider and the purchaser of other Working Capital
Management in
consumable components. To avoid production interruptions, the buyer SMES
seeks guarantees from the provider on both quality and delivery
reliability. In exchange for these pledges, the supplier might expect long-
term purchase agreements from a firm that uses the JIT purchasing
strategy, which focuses on working with suppliers that can provide goods
of the requisite quality on time. This can be accomplished by changing
the factory layout to reduce work-in-progress queues and so lower the
size of production batches, in addition to creating stronger ties with
suppliers. A good production plan is also necessary for the success of the
JIT policy to achieve this.

Activity 12.2

You are approached by an owner/manager of a small business and

inquire about the inventory management procedures employed by his or
her company. In this context, try to collect data on the following:
i) What are the main types of inventories which is used and what procedure
followed to procure the stocks needed in his/her organization?
…………………………………………………………………………….
…………………………………………………………………………….
…………………………………………………………………………….
…………………………………………………………………………….
…………………………………………………………………………….
…………………………………………………………………………….

ii) Identify the type of inventory costs being incurred and assess the cost of
carrying inventory to obtain the optimal inventory.
…………………………………………………………………………….
…………………………………………………………………………….
…………………………………………………………………………….
…………………………………………………………………………….
…………………………………………………………………………….
…………………………………………………………………………….

12.9.2 Credit Management

Information on a firm is essential for making an informed decision about
whether or not to trade with it. If the creditworthiness of new clients is
rigorously analyzed before credit is issued and is evaluated regularly, the risk
of bad debts can be reduced. A variety of sources can be used to gather the
necessary credit information. The published information, such as a
prospective customer's audited annual report and accounts, may also provide
a good indication of trustworthiness. The amount of probable regular sales
could be used as a reference to define the level of the credit investigation,
keeping in mind the cost of analyzing creditworthiness in mind.
275
Working Capital After the customer's creditworthiness has been assessed and a credit limit
Management:
Issues and Practices agreed upon, the company should take steps to guarantee that the credit limit
and terms of trade are adhered to. The customer accounts should also be kept
within the agreed-upon credit limit, and credit extended should be reviewed
regularly to ensure that it is still appropriate. To encourage fast payment, bills
and statements should be double-checked for accuracy and sent out as soon
as possible.

i) Influence
The following Table-12.2 shows how trade receivables management
strategies affect a company's commercial activities:

Table-12.2: Influence of Company Activities on Receivable Management

Policies
Marketing strategy and strategic Industry influence
growth

When a firm's products are highly In general, businesses strive

specialized and in high demand, the to conform to industry
marketing strategy might concentrate on standards. A firm that offers
these characteristics. lengthier loan terms than the
industry standard can usually
In a market with homogeneous products,
charge more.
the term of sale becomes significant, and
discounts and credit periods are regarded If the firm's credit period is
as key marketing tools. cut shorter than the industry
norm, it may lose sales or
When long credit periods are granted,
have to lower prices. It would
trade credit costs and hazards rise. The
be necessary to assess the
firm will strike a balance between this and
additional costs of
the benefits of more profitable sales.
discounting vs the benefits of
Allowing for a longer credit period will
lowering loan costs.
assist the organization in getting rid of
slow-moving or obsolescent inventory.

ii) Receivables Collection System: A corporation should do an aged trade

receivables analysis regularly and pursue late payers. Establishing
explicit procedures for pursuing late payers is beneficial, to set out the
circumstances under which credit control staff should send out reminders
and initiate legal proceedings. Depending on the expected response of
customers, charging interest on late accounts could be considered a way
to encourage timely payment. The three stages of trade receivable
management are as follows:

Credit Policy → Credit Monitoring → Credit Collection →

ii) Protection Against Bad Debt: Senior managers should evaluate the
administrative costs of debt collection, how the policy could be
implemented efficiently, and the costs and impacts of loosening credit
276 when formulating a trade receivables management policy. Longer
 lending periods may boost turnover, but they also raise the chance of bad Working Capital
Management in
debts. In most cases, the cost of rising bad debts, as well as any SMES
additional working capital necessary, should be less than the increased
profits earned by increasing turnover. Many small businesses have failed
as a result of late payments from consumers. However, a solid credit
management system can help a company lower the risk of bad debts.
There is bad debt insurance available, which can be acquired through brokers
or intermediaries. The full turnover insurance will protect any debt that is less
than the agreed-upon amount from non-payment. Specific account insurance,
on the other hand, allows a corporation to protect essential accounts from
default and can be utilized for significant clients. Furthermore, cash discounts
may encourage early payment, but their cost must be lower than the total
finance savings resulting from lower trade receivables balances, any
administrative or financing savings resulting from shorter trade receivables
collection periods, and any benefits from lower bad debts.

Activity 12.3

You should contact the owner/manager of a small firm of your choice to

examine the credit management strategy that s/he uses to maximize the
sales while minimizing bad debts. In this context, try to collect data on
the following topics:
i) Terms of credit the firm has adopted, and how do they determine those
terms of credit in the business enterprise?
…………………………………………………………………………….
…………………………………………………………………………….
…………………………………………………………………………….
…………………………………………………………………………….
…………………………………………………………………………….
…………………………………………………………………………….

ii) The techniques the firm has been following to minimize the bad debts on
its credit sales?
…………………………………………………………………………….
…………………………………………………………………………….
…………………………………………………………………………….
…………………………………………………………………………….
…………………………………………………………………………….
…………………………………………………………………………….

12.9.3 Cash Management

The trade-off between liquidity’s benefits and costs is an important aspect of
cash management. Making the cash collection and disbursement system as
efficient as possible is the other half. Because cash is a non-profitable asset,
277
Working Capital the purpose of cash management is to keep the quantity of cash on hand to a
Management:
Issues and Practices minimum. As a result, the pressure placed on financial managers is to decide
an acceptable level of assets to be paid for everyday business activities such
as payroll, dividend payment, prepaid taxes, and other costs. The financial
managers can defer payments for purchase invoices rather than paying them
early, but they must maintain their credit status and reduce the financial
penalties of late payment.

In today's global and computerized society, managing currency is becoming

increasingly sophisticated. As financial managers aim to squeeze every last
dollar of profit out of cash management methods, one of the most essential
areas of small business. It allows management to carry out the various
activities of the company, which is especially significant for several reasons:

i) For starters, small enterprises do not have as much access to financing

markets as major corporations. Banks are the most common source of
capital funds for SMEs. Bankers demand that borrowers produce a
detailed analysis of their expected cash needs, for which the company
must have a well-functioning cash management system.
ii) Second, due to a small firm's limited access to capital, resolving a cash
shortage situation is more complex and expensive for small businesses
than it is for large businesses.

iii) Finally, many small businesses are fast expanding and are at risk of
running out of funds. Increase in inventories and accounts receivable are
required to meet rising sales, depleting the company's cash reserves.

Influence
The internal and external influences on a company’s cash balance are now
detailed in the following Table-12.3.

Table-12.3: Cash Balances – Influence of Internal and External Factors

Internal Factors External Factors

Type of business: Some businesses
have a consistent demand for their
products throughout the year, while
others have to change degrees of
demand and seasonal or cyclical
revenues. Firms with cyclical/seasonal
cash flow, on the other hand, require
effective cash management.
The economy: The state of the
economy has an indirect impact on
cash holdings. If the economy is
weak, the company may have
difficulty obtaining the necessary
funds, causing the cash-out
problem to worsen. This condition
may be manageable and not
especially harmful during boom
times.

278
 Working Capital
Profitability: Companies with excess Inflation: Working capital Management in
cash must maximize the return on their requirements will be increased SMES
cash investments. Cash management at during periods of high inflation.
a loss-making company focuses on This is especially true when a
balancing liquidity and does not have company is profitable, as the cost
to worry about liquidity issues until of replacing a capital, expenses,
cash flows are positive. and assets may outpace the cash
Strategy: A growing company generated by the sale of older
demands capital at all times, which has things.
implications for cash flow. When the
expansion is not properly financed and
liquidity is a significant concern, the
company is said to be overtrading. The
capital structure chosen will have a
financial impact. Interest must be paid
on the debt capital, as well as capital
redemption. How capital is repaid is
determined by the type of debt.

Activity 12.4

You must contact the owner/manager of a small & medium enterprise of

your choice and discuss the cash management strategies that s/he has
used to maximize the amount of cash in the business. In this context, try
to collect data on the following:
i) The kinds of expenses for which cash is spent in the business enterprise.
…………………………………………………………………………….
…………………………………………………………………………….
…………………………………………………………………………….
…………………………………………………………………………….
…………………………………………………………………………….
…………………………………………………………………………….
…………………………………………………………………………….

ii) The main sources and types of income and the procedures that are
followed for their accounting, collection, and deposits of cash receipts?
…………………………………………………………………………….
…………………………………………………………………………….
…………………………………………………………………………….
…………………………………………………………………………….
…………………………………………………………………………….
…………………………………………………………………………….
…………………………………………………………………………….
…………………………………………………………………………….
279
Working Capital
Management: 12.10 EFFECTIVE WORKING CAPITAL
Issues and Practices
MANAGEMENT FOR SMEs
Many SMEs owners/managers, in reality, run their businesses through trial
and error. They frequently focus on innovation and sales, but they are less
strict when it comes to financial management, particularly working capital
management. They believe that making money is the most important thing,
but this is not always the case. During the growth phase, they may run out of
funds needed to fund operations, activities such as payroll, rent, and payable
accounts.

12.10.1 Reduce Inventory

The control on inventory has a substantial positive impact on working capital.
The company can negotiate with its supplier to have the goods stocked in the
warehouse but not paid for until the company sells them. This policy, as well
as careful planning and controlling stock levels to accommodate demand
peaks and troughs, decreases costs while increasing revenues. More
specifically, the following lines show how the organization can reduce
inventory across the value chain:
i) Enhanced forecast accuracy and demand planning: A far more
reliable planning procedure resulted from improved forecast accuracy
and regular updates on customer demand. This policy will assist
businesses in reducing inventory and improving delivery capability.
ii) Improved delivery and logistics concepts: Many companies use
innovative and demand-driven logistic strategies with their suppliers to
maintain stocks as low as feasible. For instance, vendor-managed
inventory and just-in-time delivery or just in sequence and work with
their suppliers in terms of a holistic supply chain management with
mutual benefits.
iii) Optimized production processes: Redesigning manufacturing
processes to eliminate non-value-adding time and surplus inventory
between production phases is one technique to reduce work-in-progress
inventory.
iv) Variance management: One technique to reorganize and narrow the
assortment and focus on the most selling products is to reduce product
complexity and carefully track the demand of product variants to find the
low-turning products. Customization of items should be done as late as
possible in the manufacturing process.

12.9.2 Secure Good Credit Terms

Credit terms must be handled properly by the business entity with its
consumers and suppliers. Before extending credit, sales and marketing
departments must identify and thoroughly assess the customer's position. This
policy ensures that debts are paid on time, so that customer relationships and
280 bussiness are not harmed. Furthermore, the company must carefully negotiate
 Working Capital
payment terms with its suppliers to ensure that it receives the largest payment Management in
term possible without jeopardizing its ties with them. SMES

• Avoidance of early payments: Companies should not pay anything

before the deadline. After the due date, the payments should be
completed with the next payment run. Changing from ex-ante to ex-post
payments is a typical practice that involves a simple lever for boosting
payables.
• Payment conditions: Renegotiating with suppliers is an excellent
approach for finalizing the payment terms and conditions. The best
strategy is to first gain a comprehensive review of all payment terms in
use before defining a clear set of payment terms for the future. The
renegotiations with suppliers are based on these terms, which consider
the suppliers' circumstances. The focus should be on prices for suppliers
with little liquidity, while payment terms can typically be extended for
suppliers with ample liquidity.

• Back-to-back agreements: Matching the due dates of receivables and

payables accounts can assist organizations to avoid excessive supplier
pre-financing and maintaining a positive cash balance.

12.11 IMPACT OF PANDEMIC ON SMALL

BUSINESSES
While there is a significant disparity in working capital performance between
small, medium, and big businesses, COVID has had an even greater impact
on small businesses' working capital management. The pandemic had a
smaller impact on major businesses' working capital than it did on small
firms. These businesses have more negotiating power and stronger processes
and procedures, allowing them to track and handle cash and working capital
more effectively. During lockdowns, there is a build-up of inventory,
particularly for non-essential items, due to lower demand for goods, as
companies take time to re-adjust their production levels to the changing
demand scenario.
During the time, the majority of industries had a decline in Days Inventory
Outstanding (DIO). Some industries have seen an increase in DIO, indicating
increasing inventory holdings paired with slower turnover. Increased
inventory levels may result in higher holding costs and the risk of obsolete
inventory. Some of the levers that organizations may utilize for effective
inventory management include adjusting product portfolios to customer
demand, generating dynamic scenario planning, and establishing excess
inventory campaigns.

12.12 STRATEGIC PLANNING - WORKING

CAPITAL PERFORMANCE
We will not know exactly what happened after the COVID-19 disaster, but
we do know that similar trends are now guiding divestment strategy. Lenders
281
Working Capital and investors are more cautious about lending money to tiny businesses since
Management:
Issues and Practices the risks are higher than with established large businesses. Small businesses
may face higher borrowing rates as a result of this, which will limit their
ability to recruit outside investors and access capital markets, forcing them to
rely more on owner financing or trade credit.
As a result, it is critical for small and medium businesses to effectively
manage their cash conversion cycle. It is also possible to argue that poor
working capital management and insufficient finances are two main causes of
small businesses failure. It is frequently set up such that a buyer has a
specified amount of time to pay off their debt in full. This helps corporations
to cut costs by paying directly, and it also allows struggling enterprises to
essentially "borrow" money from their suppliers by waiting for the full credit
period.
The firms with long-standing connections with their clients, need not provide
extended trade credit because their counterparties know what to expect from
them. The same is true for large, well-known companies, which are more
likely to have a solid track record that guarantees quality, even if the
consumer in question is not one of them.

12.13 SUMMARY
Small businesses frequently rely on a small number of customers and have a
restricted product selection; as a result, they are more vulnerable to market
volatility. In India, this sector contributes significantly to socio-economic
development and provides a big number of jobs at a low capital cost as
compared to the larger ones. The inability of SMEs to efficiently manage
their working capital is the primary cause of high failure rates. Using various
working capital management tactics in conjunction with technological
solutions would undoubtedly increase the profitability of these small
businesses.
Though there has always been a significant variation in working capital
performance between small, medium, and big businesses, the COVID-19 has
had an even greater impact on small businesses' working capital
management. The small businesses' cash-to-cash cycle deteriorated as a result
of the epidemic, even though they lengthened their payables cycle to protect
liquidity.

12.14 KEY WORDS

Small and Medium Enterprise: (i) A small business with a plant and
machinery or equipment investment of less than ten crore rupees and a
turnover of less than fifty crore rupees; (ii) A medium-sized business with an
investment in plant and machinery or equipment of not more than fifty crore
rupees and a turnover of not more than 250 crore rupees.
Aggressive Policy: It entails costing as little as possible to produce goods,
transfer inventory, and provide services. Money is saved, and your
organization is partly protected from risk when you take a conservative
strategy.
282
Working Capital Cycle: It is the time it taken by an organization's net Working Capital
Management in
current assets and current liabilities to be converted into cash. It demonstrates SMES
the organization's capacity and efficiency in managing its short-term liquidity
position.

Stock-Out: It is when there aren't any things of a certain type available for
purchase. Overstocks, in which too much merchandise is kept on hand, are
the polar opposite of stockouts.
Just-in-Time: It is a management method that connects raw-material orders
from suppliers with production schedules directly. This method is used by
commercial enterprises to boost efficiency and reduce waste by obtaining
products only as needed for the production process, lowering inventory
expenses.

Inflation: It refers to price increases in everyday products and services such

as food, clothing, housing, recreation, transportation, consumer essentials,
and so on. Inflation is measured as a percentage change in the average price
of a basket of goods and services over time.
Credit Terms: These are the conditions that specify when payment is due for
credit sales, as well as any relevant discounts, interest, and late payment
costs.
Pandemic: A pandemic is an epidemic that spreads globally, or over a large
area, and crosses international borders, hurting business in a variety of ways
and having a significant economic impact on the country.

12.15 SELF-ASSESSMENT QUESTIONS

1) Explain the role of small and medium enterprises in India.
2) Explain the objectives of working capital management in SMEs.
3) What factors a financial manager would ordinarily take into
consideration while estimating the working capital needs of a small
business firm?
4) How the working capital management in SMEs is different from large
firms?
5) What are the inventory management strategies followed by SMEs?
6) Discuss the factors that influenced cash management in SMEs.
7) Describe the bills receivables collection system in SMEs.
8) How do you manage the working capital effectively in SMEs?

12.16 FURTHER READINGS

Brigham, E.F, Gapenski, L.C and Ehrhardt, M.C (1999) Financial
Management: Theory and Practice. New York: Harcourt College Publishers.
Chandra, P. (2015), Financial Management: Theory and Practice” 9th
Edition, Tata McGraw-Hill Education. 283
Working Capital Grablowisky, B.T, and Rowell, D.R. (1980) Small Business Financial
Management:
Issues and Practices Management: Theory and Practice, Norfolk: Old Dominion University.
Srinivasan S. (1999). Cash and Working Capital Management, Vikas
Publishing House Pvt. Ltd., Mumbai.
Van Horne, J.C. and Wachowicz, Jr., J.M. (2009) Fundamentals of Financial
Management, 13th Edition, Harlow: FT Prentice Hall.

284
 Working Capital
UNIT 13 WORKING CAPITAL Management in
Large Companies
MANAGEMENT IN LARGE
COMPANIES

Objectives
The objectives of this unit are to familiarise you:
• with the financing options of large and small businesses.
• differences in small and large firms working capital management.
• factors affecting the working capital needs of large companies.
• impact of COVID-19 on large companies working capital management.

Structure
13.1 Introduction
13.2 Significance of Working Capital Management
13.3 Large and Small Firms - Financing Options
13.4 Differences in SMEs and Large Companies Working Capital
13.5 Factors Affecting Large Companies Working Capital Needs
13.6 Impact of COID-19 Pandemic
13.7 Working Capital Efficiency Improvement– During Pandemic
13.8 Strengthening Operational Agility – Strategic Partnerships
13.9 Summary
13.10 Key Words
13.11 Self-Assessment Questions/Exercises
13.12 Further Readings

13.1 INTRODUCTION
Working capital management is one of the most critical aspects of day-to-day
business management. Working capital management is a fictional area of
finance that encompasses the firm's entire current account. It is concerned
with the link between a company's short-term assets and obligations. The
purpose of working capital management is to ensure that a company can
continue to operate and that it has enough cash on hand to pay down short-
term debt and cover upcoming operating needs.
Some multinational corporations have negative working capital, meaning that
their short-term liabilities exceed their liquid assets. Behemoth firms with
great brand recognition and strong selling power are typically the only
entities capable of remaining solvent in these conditions. Such businesses can
easily raise additional funds by repurposing monies from other operational
silos or obtaining long-term debt. Even if their assets are locked up in long-
term investments, houses, or equipment rents, these companies can readily
satisfy short-term expenses.
285
Working Capital Though most firms seek to keep their working capital positive all of the time,
Management:
Issues and Practices high working capital can signal that a company isn't investing its excess cash
wisely, or that it's sacrificing development possibilities in favor of liquidity.
To put it in another way, a corporation that does not invest its cash wisely
may be doing itself a disservice. Excessively high networking capital could
indicate that the company is investing more in inventory or that it is slow to
collect its debts, both of which indicate diminishing revenues and/or
operational inefficiencies.
As working capital volume can fluctuate significantly over time and differ
from one firm to another firm, it is critical to consider this metric in a
broader, more holistic context. When evaluating financial stability based on
networking capital levels, the industry, firm size, growth stage, and
operational model of the particular business must all be considered. In some
businesses, such as retail, a large amount of working capital is required to
keep operations running smoothly throughout the year. Others, if they have
consistently steady revenues and expenditure, as well as dependable business
strategies, can run well with relatively modest working capital.
Working capital management is a collection of activities carried out by a firm
to ensure that it has adequate resources to cover day-to-day operational
expenses while also ensuring that resources are invested productively. It is
significant because the company has sufficient resources for its everyday
operations, ensuring that the company's existence is protected and that it can
continue to operate as a continuing concern. Due to lack of cash, unregulated
commercial credit rules, or limited access to short-term financing, the
company may need to be restructured, assets sold or even liquidated.
Working capital management is critical for all businesses, whether small,
medium, or big, and has a significant impact on their performance. This
working capital management consists of management of liquidity, inventory,
bills receivables, accounts payables, and short-term debt management as
shown under:

Figure-13.1: Management of Working Capital and its Sub-Components.

286
 Working Capital
13.2 SIGNIFICANCE OF WORKING CAPITAL Management in
MANAGEMENT Large Companies

In general, the chief financial officer of working capital is responsible in

assuring the organization's ability to fund various current assets with current
liabilities to a considerable extent. However, a comprehensive approach
should be taken, encompassing all company activities relating to both short
and long-term assets. In practice, working capital management has become
one of the most critical concerns in any firm, with many finance executives
attempting to find working capital ruminants and the basic deter optimum
working capital levels.
Understanding the role and factors of working capital, can help a company
organization achieve its aim of working capital management by reducing risk
and improving overall performance. The manager of working capital
management is responsible for maintaining an appropriate balance between
each of the working capital components to achieve this. The ability of
financial executives to efficiently handle inventory, receivables, cash, and
payables is critical to a company's performance. Business enterprises can
lower their financial costs while increasing the amount of money invested in
short-term assets. The majority of a financial manager's time and effort is
spent bringing current assets and liabilities back to acceptable levels.

In general, current assets are one of the most essential components of a

company's total assets. Renting or leasing plants and machinery may allow a
company to lower its overall asset investment, but this approach cannot be
applied to the components of working capital. The high level of current
assets, the risk of liquidity associated with money that could have been put in
long-term assets, and the opportunity cost of funds that could have been
invested in long-term assets. As a result, effective working capital
management is a key condition for a corporation's successful operation, as it
decreases business failures and instills a sense of stability and trust in
employees in the organization, and ensures the solvency of the organization.
When it comes to working capital, size matters - and it is getting more
essential. The widely accepted belief is that big businesses achieve good
working capital performance by squeezing their smaller suppliers with their
purchasing power and market clout. While there is some truth to this,
statistics demonstrate that small businesses have far longer payables cycles
than big businesses.

13.3 LARGE AND SMALL FIRMS - FINANCING

OPTIONS
From the managements stand point, the method of financing working
capital of various sizes of business firms is a topic of debate. There is a
wide range of financing options accessible to a business, each with its own
set of advantages and limitations. The size of a company has an impact on
the floating of money in general and working capital in particular. Large
companies, unlike small entities, may raise funds in capital markets at a 287
Working Capital minimal cost due to their size and reputation. Furthermore, with bigger
Management:
Issues and Practices companies, the sort of security and methods for raising funds is more
amicable. Now, in the following paragraphs, the various funding choices and
their characteristics for large and small businesses will be discussed.

13.3.1 Business Financing

Business funding serves a variety of functions, it could be to start a business
or for working capital, such as to buy raw materials or to cover everyday
requirements. Alternatively, a company may need funding to develop or
grow, as well as to purchase equipment or land. The basic fact is that every
business, at some point or another, will require funding periodically
throughout the life of the business. However, a company can pick from a
variety of financing options, the availability of which is usually determined
by the size of the company, whether it is small or large.

13.3.2 Types of Funding

Large firms have the same alternatives as small ones, but they have a much
wider range of possibilities. They may turn to business loans, such as those
given by large banks and other financial organizations, to meet their
financial demands. They can also use accounts receivable factoring or take
loans against their existing purchase orders. Furthermore, larger
organizations typically have more assets than smaller enterprises, which
they can utilize to receive a secured business loan or line of credit. Finally,
larger companies may be able to raise funds by selling stock to the general
public.

Activity 13.1
You are required to approach two business organizations of your choice; one
is large and another one is small and lists out their differential sources of
working capital finance.
…………………………………………………………………………….
…………………………………………………………………………….
…………………………………………………………………………….
…………………………………………………………………………….
…………………………………………………………………………….

13.4 DIFFERENCES IN SMEs AND LARGE

COMPANIES WORKING CAPITAL
The contrasts between large companies and small and medium businesses
are now explored in the next section. For numerous reasons, larger
businesses have different access to finance than smaller firms.

Funds Arrangement
i) Larger companies indeed have greater assets. While those assets might
288 be used as collateral, which is certainly a significant benefit, they can
 also be sold in a crisis. As a result, a financier understands that if a firm Working Capital
Management in
has a lot of assets, it may simply sell one of them to receive the money Large Companies
it needs.

ii) Larger organizations have a longer and more extensive company

history. Any type of financial investments, such as lending money to a
company or purchasing shares in the firm, is dependent on the firm's
history and projections about the firm's future performance based on
that history. Risk is the probability that such assumptions are right, and
the smaller the risk, the better the terms for the company being invested
in. As a result, larger organizations have a long history and thus these
benefits.

iii) The larger corporations have a stronger reputation than the majority of
smaller corporations. In this scenario, just having a good reputation can
be enough of a guarantee. Few individuals would disagree, for
example, that Coca-Cola or Shell Oil stock is a lousy investment, at
least in the near run. The reason for this is that these companies have
reputations strong enough that it would be difficult to imagine them not
performing well. Smaller businesses, such as Ron's Home
Improvement, do not have access to this benefit.
iv) Another significant distinction between large and small business
funding choices is that larger firms can be more discriminating. Not
only will a larger company be seen as a good candidate for a variety of
funding solutions — and will receive several offers to that end. They
can, however, take several financing choices, working with one bank
for one purpose and another for another.
v) Because larger companies have less perceived risk and greater proof of
their financial status, they will be able to acquire funding at a cheaper
rate than their smaller competitors.
vi) Small business entrepreneurs frequently require some type of capital to
start their business, expand it, or even keep it afloat when times are
rough. While funding is frequently required, it can be difficult to secure
and can put them in a financial bind. Unlike major corporations, small
businesses face a variety of risks when it comes to funding.

Size of Debt
If you borrow more money to start a business, you may find it challenging
to honor the interest payments. You may not have enough finances for
marketing or supplies since the monthly installments required to repay the
loan are so high. Small investors, rather than large ones, may find a high
debt level unappealing.

Relinquishing Control
Some types of financing may require you to give up some influence over
your activities. For example, if we choose to go with equity financing,
which involves taking a loan in exchange for a share of the company's
ownership and giving the investors a role in how the company is run. This 289
Working Capital can negate the purpose of starting a firm in the first place for small business
Management:
Issues and Practices owners.

Reluctance to Retire
Those who start a small business later in life may be forced to spend cash
set aside for retirement to meet the needs of the firm. If the firm fails, it will
loose not just the business but also the chance to retire at a certain age. As a
result, individuals may be obliged to work much beyond the typical
retirement age or beyond their time of retirement.

Personal Relationships
The aspiring small firms indeed borrow money from relatives or friends to
get a low-interest rate or as a last resort. If these firms collapse or their
owners fall behind on payments, their connections may be in dispute. Even
if a bank loan is arranged, the stress of having to repay the loan may cause
affect personal relationships.

Losing Assets
When we apply for a small business loan from a bank, we are typically
required to put up some form of collateral, such as a car or even our home,
to secure the loan. If the company fails to make it, it will also risk losing
some of the personal property of the owners of the small firms. Whether a
firm is large or small, finance is critical to its growth, expansion, and
adoption of new organizational techniques. To choose which source of
financing best meets the business needs, it is necessary to have adequate
knowledge about the numerous sources of finance.

Resources of Individuals
Using personal funds to finance a business is a direct approach to doing so.
This can be done by putting savings toward business expenses, taking up a
line of credit, cashing out retirement assets, or borrowing money from
friends or relatives. In case of small businesses, the majority of new
enterprises are self-funded. This option of finance is highly beneficial
for a company since it has more control over the repayment alternatives.
For example, paying a relative back can be negotiated, whereas borrowing
money from a financial institution is subject to its payback terms.

Many people dislike the word debt, although it is a completely typical way
to fund the purchase of assets or to utilize as a backup for short-term cash
flow problems in business. In some ways, debt financing is superior to
equity financing because you do not have to give up any ownership when
you borrow money rather than take it from an investor. Small firms,
particularly young enterprises, have fewer debt funding possibilities than
larger or more established organizations.

Borrowing
A business loan is often the most obvious source of debt financing. Small
290 business owners frequently borrow money from friends and family, but if
you have collateral to put up for the loan, commercial lenders are a choice. Working Capital
Management in
If you are just starting, you may have to put your assets, such as your home, Large Companies
on the line. Once the business is established, you may be able to pledge the
assets of the company itself.
Installment Purchases
A business firm that takes a mortgage on a building buys a vehicle with a
car loan, or purchases equipment with dealer financing is doing nothing
more than acquiring debt financing. Someone - a bank, a loan firm, or the
asset's actual seller - is putting money upfront for you to buy the assets. The
capacity of new businesses to purchase assets with debt may be influenced
by the owner's credit rating. A mature company with a credit rating is more
likely to be able to obtain funding without the help of the owner.
Trade Credit
Your vendors are the ones who will provide debt financing, even if it is just
for a short period, using trade-credit — "buy now, pay later" contracts with
suppliers. You have a month's worth of debt financing for the cost of
inventory if you receive an order with a 30-day payment period. A small
business that is just getting started may not be able to get trade credit right
away. It will always have to pay in advance or on delivery until it can show
suppliers that it has the funds to satisfy its obligations.
Bonds
Small firms do not consider using bonds to raise funds for long-term
investment. Even so, it is something to keep in mind when the company is
well-established and needs funding for expansion. The municipal bonds can
be sold to fund the small business ventures, and the money created by those
initiatives can be used to repay the bonds. While some small businesses
acquire funds by selling bonds themselves, such bonds often have to pay a
high rate of interest and are labeled "junk bonds" due to the risk involved.

13.5 FACTORS AFFECTING LARGE

COMPANIES' WORKING CAPITAL NEEDS
All firms have different working capital requirements. The level of working
capital needs is determined by the nature, size, structure, age, and
management structure of the company. The volume of business operations,
i.e., small, and large business firms, has a significant impact on working
capital requirements. There are two types of factors that can influence
working capital requirements: endogenous and exogenous. The size,
structure, and strategy of a company are all endogenous elements. Whereas
the exogenous elements include banking access and availability, interest
rates, industry and products or services sold, economic conditions, and the
size, quantity, and strategy of the company's competitors. When it comes to
arranging working capital funds for large businesses, all of these elements
have a greater impact than when it comes to arranging money for smaller
businesses. The components of working capital, which are significant in the
case of large enterprises, are where these variances can be observed.
291
Working Capital The following are the major elements of working capital that have an
Management:
Issues and Practices impact on the performance of large business firms' working capital
management. To manage the working capital effectively, one has to
understand the various components of working capital and the working
strategy of the executives of the larger companies.

Managing Liquidity
Liquidity management guarantees that the organization has enough cash on
hand for both routine operations and unforeseen expenses of an acceptable
magnitude. It is also significant since it influences a company's
creditworthiness, which can decide the future of a corporation. Other factors
being equal, the lesser a company's liquidity, the more probable it is to
encounter financial difficulties. On the other hand, too much capital parked
in low or non-earning assets may indicate poor resource allocation. As a
result, adequate liquidity management manifests itself in an acceptable level
of cash and/or an organization's ability to generate cash resources swiftly
and efficiently to finance its business demands.

Taking Care of Receivables

A firm should provide its clients with the appropriate level of flexibility or
commercial credit while ensuring that the appropriate quantity of cash flows
through activities. A company will select the credit conditions to offer
depending on the customer's financial strength, the industry's policies, and
the real policies of competitors. Ordinary credit terms are those in which the
customer is given a specified number of days to pay the invoice (generally
between 30 and 90). Different terms, such as cash before delivery, cash on
delivery, bill-to-bill, or recurring billing, may be required depending on the
company's regulations and the discretion of the manager.

Inventory Control
Inventory management seeks to ensure that the company maintains an
acceptable inventory size to deal with normal operations and demand
fluctuations without overinvesting in the assets. An excessive volume of
inventory implies a large quantity of capital is invested in it. It also raises
the possibility of unsold inventory and probable obsolescence diminishing
inventory value. Inventory shortages should also be avoided, as they will
result in lost revenue for the organization.

Managing Short-Term Debt

Short-term financing management, like liquidity management, should focus
on ensuring that the company has enough liquidity to finance short-term
activities without taking on undue risk. The efficient administration of
short-term financing necessitates the selection of appropriate financing
instruments as well as the size of funds accessed through each instrument.
Regular credit lines, unbound lines, revolving credit agreements,
collateralized loans, discounted receivables, and factoring are all prominent
methods of funding. A corporation should ensure that it has enough
292 liquidity to deal with peak cash requirements. For example, to meet
unanticipated cash needs, a corporation can set up a revolving credit Working Capital
Management in
agreement well above normal demands. Large Companies

Accounts Payable Management

Accounts payable is a result of trade credit issued by a company's suppliers,
which is usually done as part of normal business operations. It is important
to strike the correct balance between early payments and commercial debt.
The early payments may unnecessarily diminish available liquidity, which
could otherwise be put to better use. The late payments can harm a
company's reputation and business ties, while a large amount of commercial
debt can hurt its creditworthiness.

Activity 13.2
i) List out the items of working capital in a large organization, e.g.,
inventory of raw material supplies, stores, etc.
…………………………………………………………………………….
…………………………………………………………………………….
…………………………………………………………………………….
…………………………………………………………………………….
…………………………………………………………………………….

ii) Identify the terms of credit of sales in your selected large firm, and the
procedure that has been followed in the collection of bills, its accounting,
and deposit of bills in banks.
…………………………………………………………………………….
…………………………………………………………………………….
…………………………………………………………………………….
…………………………………………………………………………….
…………………………………………………………………………….

iii) What is the amount of revolving fund or working capital that the selected
organization maintains to pay for the operating expenses?
…………………………………………………………………………….
…………………………………………………………………………….
…………………………………………………………………………….
…………………………………………………………………………….
…………………………………………………………………………….
…………………………………………………………………………….

13.6 IMPACT OF COVID-19 PANDEMIC

With the advent of the pandemic situation, the necessity for working capital
efficiency has grown even more. Covid-19 has caused major disruption in the
293
Working Capital supply chain, posing a variety of issues in terms of working capital
Management:
Issues and Practices management. As a result, amid such exceptional circumstances, the
importance of saving currency has become crucial.

The epidemic has hurt working capital cycles in a variety of industries around
the world, and India is showing a similar pattern. On a year-over-year basis,
firms in India saw their cash-to-cash cycle deteriorate by six days in the year
ending 30 April 2021. The decline was fueled by declining receivables and
inventories. To preserve liquidity, a huge number of companies have
proactively extended their payables cycle. Numerous levers may be used to
optimize working capital, freeing up cash to manage the disruption and
assisting organizations in recovering quickly from the crisis.

The business firms have attempted to balance their working capital

requirements by raising payables to offset higher inventory holdings and
lower collections. When compared to the previous 12-month period, about 70
percent of the businesses raised their payables cycle during the last year
ended 30th April 2021, according to the available statistics. While stretching
payables can help with short-term liquidity, it is not always the most effective
technique. The lengthening payables cycle stifles the supplier relationships
and can put suppliers in a financial bind, further exacerbating supply chain
risk. Furthermore, the business may lose any purchase discounts granted for
on-time or early payments, making this a costly tactic. As a result,
organizations must optimize receivables and inventory, reducing the need to
manage liquidity by extending payables and achieving long-term working
capital improvement.

Activity 13.3
You are required to meet the finance manager of a large company and
discuss the impact of the COVID-19 Pandemic on its working capital
management.
…………………………………………………………………………….
…………………………………………………………………………….
…………………………………………………………………………….
…………………………………………………………………………….
…………………………………………………………………………….
…………………………………………………………………………….
…………………………………………………………………………….

Proactive Management of Working Capital Management

While most businesses struggled to manage their working capital successfully
throughout the pandemic, other industries were able to make proactive
adjustments to their operations to save working capital and increase liquidity.
Early on, corporations in the Automotive Sector reconfigured their
production levels in response to the lockdown demand, which enabled them
to maintain control over their working capital cycle.

294
The Chemical firms benefited from a diverse product portfolio and skills, Working Capital
Management in
which allowed them to manage inventory more effectively. Further, the Large Companies
Cement and Building products firms made deliberate decisions to avoid
selling items on credit and instead focus on collection activities, which
helped them mitigate the pandemic's impact on their working capital. In
addition, the disruption caused by the pandemic led to an increased demand
for technology solutions, such as collaborative and digital tools. This led to
an increase in the revenues for the Technology sector, hence improving the
cash-to-cash cycle for the majority of the companies.

13.7 WORKING CAPITAL EFFICIENCY

IMPROVEMENT— DURING PANDEMIC
India Inc's cash, liquidity, and working capital have all suffered as a result of
the pandemic. While certain industries have developed targeted strategies to
address working capital issues, there is still a substantial need for Indian
enterprises to enhance their working capital processes. Furthermore, every
organization must take a unique and systematic approach to working capital
management. To drive business choices and maximize overall cash and
working capital, firms must combine emerging technology and data analytics
with appropriate governance mechanisms.
By automating internal procedures, preparing accurate cash-flow forecasts,
and enhancing real-time access to information, innovative technology
solutions can assist in optimizing cash flows. As a result, working capital
management should be considered as a holistic approach to increasing
efficiency and profitability across the firm, rather than just a financial best
practice.
With the outbreak of the Covid-19 epidemic, the importance of working
capital has risen dramatically. It has impacted organizations’ working capital
cycles in a variety of industries. The cash-to-cash cycle in Indian businesses
has increased during the last year. India Inc. has the potential to release up to
Rs. 5.2 trillion in operating capital, which might help businesses recover
quickly from the crisis.
Executives must immediately begin planning for the future in light of the
COVID-19 outbreak. More than half of Indian businesses believe the
pandemic will require them to borrow money, while two-thirds want to
reduce their debt levels. However, when corporations face increasingly
challenging capital allocation decisions, they must be willing to act. To
future-proof the firm, capital investments in technology, automation, and
supply chains are likely to be necessary right now.
There is evidence that taking aggressive action now could pay off - the most
resilient and successful companies will be those that have demonstrated
portfolio transformation discipline and focus. There is little doubt that the
financial and economic effects of the crisis have generated shifts in
divestment viewpoints in recent months. As a result, in the final year of 2020,
it reopened the topic to reassess the pulse of corporate executives.
295
Working Capital The following are the insights of the executives of the business organizations:
Management:
Issues and Practices
Those who emerge stronger from the current crisis's next phase will be
reinventing not only their portfolios but the fundamental foundation of their
businesses right now. As a result, though corporations may not always sell in
the short term, they recognize the importance of planning ahead of time to act
when necessary. More than half of the corporations said they would begin
their next divestment within the following 12 months. As a result, there will
be a long-term focus on the portfolio's highest-growth features, with three-
quarters of the company aiming to reinvest divestment proceeds in core
businesses.
The divestment proceeds can be used to improve cash reserves and strengthen
balance sheets. It will also hasten the technological agenda, as the crisis has
heightened the demand for greater investments in automation. While the
epidemic has shown flaws in certain companies' abilities to support remote
workers, the rapidly shifting needs of customers are a far more pressing
concern. Forecasting value drivers beyond crises will prompt new ways of
thinking now, such as the creation of new ecosystems of partnerships and
alliances that position organizations as disruptors rather than disrupted. As a
result, more than two-thirds of corporations said they will be more inclined to
divest in the coming 12 months to fund new technology expenditures.

13.8 STRENGTHENING OPERATIONAL

AGILITY - STRATEGIC PARTNERSHIPS
Companies are re-evaluating their ownership of non-core assets as part of
portfolio optimization and divestiture strategy and considering shifting to an
ecosystem of strategic partners. These partners, who are often considered
better owners or managers of such assets, can assist in the move from fixed to
variable expenses, enhance the company’s agility, shift the resources to focus
on critical capabilities, and achieve higher shareholder returns. As a result,
the pandemic has put a lot of strain on balance sheets, resulting in a cash
constraint and a liquidity crisis.
With relatively easy measures, larger organizations could secure long-term
collaboration. Is it fair, however, for trade credit to exist to such a vast
extent? In a market, a society where product trading is based on credit loans
can have serious economic consequences. The financial crisis of 2008, when
the real-estate market crashed, is a recent example. This is one issue that
requires a larger view.
The larger firms, on the other hand, are less reliant on trade credit financing.
The benefits of size, like diversification and reputational strength, can result
in less expensive access to alternative financial sources. A well-known,
worldwide corporation is more likely to receive an acceptable rate than a tiny,
local company. Furthermore, transaction costs are lower in proportion to
larger businesses.

Investing extra cash in securities with a week's or even a day's maturity is

likely to cost smaller businesses more than the benefit it provides. When you
296
factor in the additional costs of employing a treasury department to handle Working Capital
Management in
this type of working capital management, the net gain is drastically Large Companies
decreased. Larger companies have a greater incentive to pursue such a
strategy because they profit from economies of scale. As a result, smaller
businesses may profit more by reducing their cash conversion cycle as much
as possible.
It is true that as a firm grows, additional traits are required to run it, such as
managerial abilities rather than entrepreneurial abilities. There is also
evidence that publicly traded corporations are more concerned with short-
term results, such as using earnings management to manipulate margins, due
to increased investor pressure. Given these considerations and the fact that
working capital management is a short-term activity, it is reasonable to infer
that public companies place a greater emphasis on it.

The non-listed companies, on the other hand, have a higher cost of capital for
financing their activities. It is realistic to anticipate that non-listed companies
benefit more from a stronger focus on working capital management. As a
result, it is thought that listed companies are more efficient in their working
capital management, whereas non-listed enterprises benefit more from better
working capital management.
As a result of the Covid-19 outbreak, businesses in a range of industries have
experienced a slew of working capital challenges. Economic instability
lingers in, forcing businesses to discover new ways to fund working capital to
stay afloat. Firms that focus on inventories, payables, receivables, and short-
term commitments are best positioned to manage proper cash flow.

13.9 SUMMARY
Cash, trade receivables, trade payables, short-term finance, and inventory are
all part of working capital management, which ensures that a company has
enough resources to function efficiently. Cash levels should be sufficient to
meet routine or modest, unanticipated demands, but not so high as to cause a
wasteful capital allocation. Similarly, credit should be handled wisely to
strike a balance between the requirement to continue sales and the need to
retain positive client relationships.
Managing short-term debt and accounts payable should allow the company to
attain sufficient liquidity for both routine operations and unforeseen needs
without putting the company at undue risk. Furthermore, inventory
management should ensure that there are sufficient products to sell as well as
materials for the company's manufacturing processes while preventing
excessive buildup and obsolescence. As a result, large firms have a huge
opportunity and need to enhance their working capital operations, which may
help them increase profitability and efficiency across the board.
Covid-19 has caused significant disruption in working capital management,
resulting in several issues in working capital management. As a result, amid
such exceptional circumstances, the importance of saving currency has
become crucial. In light of the COVID-19 epidemic, executives must begin
297
Working Capital planning for the future immediately. As a result, organizations must be
Management:
Issues and Practices willing to act as they face progressively more difficult financial decisions for
which technology, automation, and other methods can be used to increase
working capital efficiency.

13.10 KEY WORDS

Accounts Payable: These are the outstanding balances owed to vendors or
suppliers for goods or services that are yet to be paid. The accounts payable
balance on the balance sheet is the total of all outstanding monies owing to
vendors.
Bonds: Bonds are tradeable assets that are units of corporate debt issued by
firms. It is classified as a fixed-income asset.

Credit Terms: These are the conditions of payment specified on the invoice
at the time of purchase. It is an agreement between the buyer and the seller
regarding the timing and payment of products purchased on credit.
Cash Conversion Cycle: The cash conversion cycle (CCC) is a metric that
measures how long it takes a company to convert its inventory and other
resources into cash flows from sales (measured in days).
Endogenous: Endogenous factors are those factors that affect a single
product. Many businesses have trade cycles, with stronger demand at certain
times and reduced demand at others. As the market demand grows, prices
may rise as well. As a result, these factors influence business output,
efficiency, growth, profitability, and so on.
Exogeneous: Exogenous elements are external elements that have an impact
on the business. These include external business shocks, such as the
economy, federal taxes, interest rates, foreign policies, and so on.
Liquidity Management: It refers to a company's ability to meet financial
obligations via cash flow, funding operations, and capital management in
general. It can be difficult because income and cost-generating activities,
capital and dividend plans, and tax strategies all have an impact.
Trade Credit: It is a sort of business financing in which a customer can buy
products or services now and pay the supplier at a later time. Businesses can
use trade credit to free up cash flow and finance short-term expansion.
Trade Receivables: The sum due to a business by its customers following
the sale of products or services on credit is known as trade receivables.
They're also known as accounts receivable, and they're listed on the balance
sheet as current assets.

13.11 SELF-ASSESSMENT QUESTIONS

1. What factors are considered while estimating the working capital needs
of a large company?
2. How are the working capital activities in large companies different from
SMEs?
298
3. What are the inventory management strategies followed by the large Working Capital
Management in
companies? Large Companies
4. Discuss the factors that influenced cash management in a large business
firm.
5. Describe the bills receivables collection system in large business
enterprises.
6. Discuss the impact of the COVID-19 Pandemic on the working capital
management of large firms.

13.12 FURTHER READINGS

Brigham, E.F, Gapenski, L.C and Ehrhardt, M.C (1999) Financial
Management: Theory and Practice. New York: Harcourt College Publishers.

Chandra, P. (2015), Financial Management: Theory and Practice” 9th

Edition, Tata McGraw-Hill Education.

Grablowisky, B.T, and Rowell, D.R. (1980) Small Business Financial

Management: Theory and Practice, Norfolk: Old Dominion University.

Khan M.Y., Jain P.K., 2002. Cost Accounting and Financial Management,
Tata McGraw Hill (Chapters 11-16).
Srinivasan S. (1999). Cash and Working Capital Management, Vikas
Publishing House Pvt. Ltd., Mumbai.
Van Horne, J.C. and Wachowicz, Jr., J.M. (2009) Fundamentals of Financial
Management, 13th Edition, Harlow: FT Prentice Hall.
Audio/Video Programs
Videos on: Working Capital Management, & Unique Enterprises: A Case
Study

299
Working Capital
Management: UNIT 14 WORKING CAPITAL
Issues and Practices
MANAGEMENT IN MNCS

Objectives
After going through this Unit, you will be able to:
• Understand the International Environment under which MNCs carry out
their operations.
• Develop an idea as to diverse risks associated with the management of
working capital.
• Know the issues involved in the transfer of funds from the host country
to the home country and vice-versa.
• Examine the policies and practices followed by the MNCs in managing
individual components of working capital, viz., inventory receivables,
and cash.
• Gain an understanding of the diverse sources of working capital
available to MNCs.

Structure
14.1 Introduction
14.2 Special Issues of concern: Operational Environment
14.3 Cash Management
14.4 Receivables Management
14.5 Inventory Management
14.6 Summary
14.7 Key Words
14.8 Self-Assessment Questions
14.9 Further Readings

14.1 INTRODUCTION
After the setting in of the New International Economic Order (NIEO) with
the signing of the new General Agreement on Tariffs and Trade (GAAT) by a
majority of the countries in the world and the funding of the World Trade
Organisation and the permission accorded to China to Global Trade, there
had been a sea change in the international business environment. The number
of companies carrying on their business beyond the home country has been
on the rise constantly. At the beginning of the latter half of the previous
century, companies incorporated in countries such as USA, UK, Germany,
and Japan used to set up manufacturing and trading facilities outside their
country of origin. Thus companies like Unilever, Coca-Cola, Johnson &
Johnson, L & T, etc., had business locations in many countries in Asia,
including India. The scenario got dramatically altered with the entry of
companies from South Korea, Singapore and China. China’s growth story is
300
very envious. It has become a global power in scale with varying degrees of Working Capital
Management in
integration. With just 2 percent of the share of Global GDP in 1990, China MNCS
got it expanded to about 16 percent now. It took over USA, to become the
world’s largest economy in terms of the Purchasing Power Parity (PPP) terms
(2014). China’s GDP is 66 percent of the USA in 2018. As per the study
conducted by McKinsey Global Institute on “China and the World: Inside the
Dynamics of a Changing Relationship” (July 2019), China occupied 11
percent of global trade in goods and 6 percent in services; having 110
companies on the list of Fortune 500. These companies earn about 20 percent
of their revenues from abroad. China is now one of the top 3 in terms of
capital flows across the world. It is the second in terms of its spending on
Research and Development, next only to the USA. It has 802 million Internet
users, with about 20 percent of USA-cross-border data flows. It is no surprise
to learn that more than 30 percent of smartphones used in India, Malaysia,
and Africa are made in China. Even countries like South Korea, Singapore,
and Malaysia could make rapid strides in terms of expanding their global
operations. The products manufactured by Korean companies like Samsung,
Hyundai, L G, and Kia are very popular in India. The same is true in respect
of many other companies originating from nearby Asian countries.

As far as the Indian position is concerned, companies incorporated in India

are also slowly evolving and becoming global. As per the information of the
Confederation of Indian Industry (CII), there are about 165 companies that
have some kind of presence at the global level in terms of having
manufacturing locations or trade relations. Notable among them are Tata
Group Companies including Tata Motors, TCS, Tata Chemicals, Bajaj Auto,
Dr. Reddy’s Labs, Infosys, Bharti Airtel, Bharat Forge, L & T, IOC, Wipro,
and Vedanta Enterprises. Till around January 2021, Indian Companies have
bagged 11 places in the list of 500 Most Valuable Global 500. They included
Reliance Industries (54th Rank), TCS (73 Rank), HDFC Bank (105),
Hindustan Lever (190), Infosys (201), HDFC (249), Kotak Mahindra Bank
(284), ICICI Bank (316), Bharti Airtel (440), Bajaj Finance (451) and ITC
(480). Again, as per the latest Study Report of the CII (January 16, 2020), as
many as 155 companies have invested $22 billion in the USA, creating nearly
125,000 jobs in that country.

While it was common during the Nineteen Seventies and Eighties to acquire
Indian firms by the MNCs of Foreign Origin. Indian companies too have
started foraying into the advanced countries through collaborations and
acquisitions. Indian companies having huge cash surpluses and strong bottom
lines are now eyeing foreign companies for acquisition. During the period of
six years from 2015 to 2020. There were 910 outbound acquisitions by Indian
companies (the highest of 183 recorded in 2018) involving a deal value of
$33.5 billion. Most of these deals have happened in the sectors like
Pharmaceuticals, Chemicals, and IT Services. The most notable among these
deals are: (1) Haldia Petrochemicals and Rhone Capital LLC acquiring
Lummus Tech for $2,725 million; (2) HCL Technologies taking over DWS at
$137.5 million; (3) Tech Mahindra acquiring Zen 3 Info solutions Inc at $64
million; (4) Mastek gaining Evolutionary Systems Arabia-West Asia Biz at
$65 million and (5) Infosys taking over Kaleidoscope Innovation at $42
301
Working Capital million. These developments emphasize the fact that things are going global
Management:
Issues and Practices and even Indian companies are coming off age and are stabilizing,
necessitation the need to improve operational efficiency by focusing attention
on the working capital and fixed capital management.

14.2 SPECIAL ISSUES OF CONCERN:

OPERATIONAL ENVIRONMENT
Although the basic principles of Working Capital Management are common
to national and international enterprises, there are certain special issues of
concern that need to be cared for by the companies operating in the
international environment. These issues exhort the companies to be extra
careful in managing their working capital. The operational environment of
the MNCs is impacted by these factors. They are:
 The policies and practices regarding trade and industry of the home
country and host countries will be at variance. The restrictions prevailing
in the host country will impact the operational efficiency of the MNC.

 Currency risks are attendant to the variations in the Exchange Rates. For
a variety of reasons, the currency values of the countries will be
changing. Such reasons may include economic slowdown, political
instability, aggression from outside, etc. Moreover, currencies of a few
countries are only accepted as ‘International Currencies’ like the Dollar
(USA), Euro (Europe), Yen (Japan), and Yuan (China). It has become
customary to express prices of goods and services for sale in other
countries in US $. This is true in the case of India also.

 The procedures and practices regarding imports and exports of Raw

Materials, Equipment, Stores, and Spares will impact the operational
efficiency of working capital. In some cases, there will be tie-up
practices followed by the companies. Developing countries follow the
practice of encouraging ‘Indigenous materials and methods’. In such
cases, there may be restrictions on the import or export of certain goods
and services. For example in India, there is a condition that 100% Export
Oriented Units shall export a minimum of 75% of their production
outside India to get concessions available for such category of units.
They are not supposed to sell their output within India.
 Restrictions on the ‘flow of funds between countries would limit the
investments in Fixed and Working Capital. If we take the case of India;
remittances by Foreign companies from India are subject to the
provisions incorporated in the Foreign Exchange Management Act,
1999. Specifically, Sections IIC.1 to IIC.5 of the Act condition the
Remittance of Profits by Foreign Companies (other than Banks) subject
to certain guidelines. Every Foreign company is required to comply with
such guidelines and procedures. To ensure a proper balance of Foreign
Currencies and Assets, every country will have such rules and
regulations in place.

302
 Tax policies and procedures are yet another important issue that needs to Working Capital
Management in
be taken into consideration by companies. These are akin to an MNCS
individual country. Taxation is one regulatory tool that is handy to the
Governments in regulating the inflow and outflow of funds.

 Trade restrictions like tariffs, quotas, and pricing have larger

implications for international trade. Though free trade is encouraged at
the global scale, regional trade agreements (RTAs) have not ceased to
operate. Still, there are a wide variety of Bi-lateral treaties, impinging on
the Free Trade. All these restrictions imply MNC operations.
 Finally, there is the issue of ‘Transfer Pricing’. Usually, the MNC will
have business locations at several places, but manufacturing or service
locations will be at a few places. Due to this, the value of the goods and
services varies depending on the country of sale. The MNC has to decide
the base price which is to be taken as common and add taxes of the
buying country and other duties. Transfer pricing is one of the most
difficult aspects in the case of an MNC.

14.3 CASH MANAGEMENT

With the advancements in technology, there have been tremendous changes
in the method and practice of Cash Management by companies within and
outside the countries. Cash Flows have become instantaneous with the
introduction of Electronic Funds Transfer System (EFTs). It has turned quite
common to domestic and MNCs to maintain multi-currency accounts, multi-
bank transfers, and multi-bank reporting. All these activities are designed to
help the company operate in an international environment to enhance its
capability in handling cash flows. Banks are increasingly becoming members
of the Society for Worldwide Interbank Financial Telecommunications
(SWIFT) networks to ensure quick, accurate, and secure payment
mechanisms. It is reported that about 11,000 member institutions are joining
this network conducting approximately 33.6 million transactions per day. The
counterpart in India is the National Electronic Fund Transfer (NEFT) system
introduced by the Reserve Bank of India. In addition, RBI has also
introduced a quick settlement mechanism in the name of Realtime Gross
Settlement (RTS) for quick and effective transfer of money between
accounts. Some of the services that are offered through these networks
include:
• ATM transfers
• Direct Depositing of Money
• Direct Debit/Credit Services
• Transfers through Credit Card Services
• Wire transfers via SWIFT
• Online Bill Payment Services

303
Working Capital • Services involving private currencies, if required and subject to home
Management:
Issues and Practices country and host country regulations.
• Instant Payment Services

14.3.1 Issues in International Cash Management

It is already indicated in the preceding section the various issues that are
relevant in the context of operating in an international environment. In this
section, we will know more about the issues that are directly having relation
to Cash Management by MNCs. The following are a few such issues that
need to be taken care of by the Cash Management of an MNC:

 There are differences in the banking practices followed by banks in

different countries. Usually, Banks in any country are supervised and
regulated by the Central Bank of the country. There is going to be a
stated procedure to be followed by each bank in dealing with overseas
transactions. The transaction fees and range of services vary widely from
country to country. For example, interest is not paid on Current Accounts
in India. But in some countries, interest is allowed even on
Demand/Savings Accounts also. This will shoot up the cost of funds to
the Banks and help companies realize some income. Some Central Banks
put restrictions on the Foreign Institutional Investors (FIIs) and are
always skeptical about the foreign flows.

 Differing economic and monetary environments also make cash

management more complex for the Manager. In addition to the risk
associated with the fluctuations in the values of the currencies due to
vagaries in the economy, the exchange rates also prove to be unkind.
This is particularly timely in the case of currencies of Low-income
countries.

 We have noticed in the earlier discussion that technical advancements

have revolutionized payment mechanisms. But the impact of the
changing technology will not be uniform. Some countries may be more
forward in adopting these technology changes and are swift in action.
Yet others may be slow runners. The Internet and Communication
networks may not have spread widely and there may be areas still
unattended. In some parts of the world, the continuous supply of
electricity itself is an issue. All these naturally limit the speed of the
transactions. The use of electronic networks also should be taken into
consideration. For example, the use of the Internet by people is only to
the extent of around 65 per cent of the total world population. Whereas,
China has a 63.33 percent of people using the internet, as against 55.40
percent of people in India. While there are countries like the USA
(96.26%), Japan (90.87%), Iran (94.06%), and South Korea (95.26%)
with above 90 percent usage of the Internet, there are countries like
Ghana (14.10%), Tanzania (16%), Kenya (17.83%) etc. with a very low
percentage of internet usage.

 Another important issue for consideration is the legal barriers imposed

on the movement of cash or transactions happening through Banks and
304
 other Financial Institutions. We are aware that the flow of funds from Working Capital
Management in
NRIs is also regulated in India. Such restrictions may be imposed for MNCS
want of ensuring cross-border liquidity or to fide over some external
exigencies. Sometimes, secrecy is maintained for security reasons.

 It is also interesting to know that cultural issues have a role to play in

payment preferences. It is known in India that individuals and companies
avoid payments on certain days. In some “small talk” or entertainment
programs.
 Times Zones are another issue of concern to a cash manager of MNCs.
The overlapping of timings and Days and Nights leave an impact on the
business hours. Companies need to schedule their activities in such a
way to adjust to those time differences. For example, the USA has six
time zones. Though the zoning system is not followed in some countries,
time differences are a reality. For example, there is about a one-hour
time difference between the East and the West in India, although India
has only a one-time zone.

14.3.2 Managing Inflows

The objectives of Cash Management either in the context of domestic
companies or international companies will be the same. Economists have
identified three primary motives for holding cash by individuals or
institutions. They are: (i) Transactional Motives, (ii) Precautionary Motives,
and (iii) Speculative Motives. Of these three, the first two appear to be more
relevant. Yet we cannot ignore the speculative transactions carried out by the
companies, especially in times of emergency, uncertainties, and rising prices.
Companies having surplus cash balances do hunt for avenues for parking
such funds; with the hope of making gains in the uncertain future. This also is
understood as business acumen and not speculation.

To realize these objectives, companies need to regulate both the cash inflows
and outflows. Increasing the cash inflows by an MNC involves setting up a
proper method of collection of sale proceeds. In the case of domestic
companies, it is said that the ‘thumb rule should be to follow the system of
decentralized collection mechanism. In the case of an MNC, it would be
through its subsidiaries and affiliates. Each unit in the host country is
independent. And the ‘terms of trade’ are governed by the industry practices
of that country. The MNC may be hard in a position to alter them
significantly. Changing values of the currency due to fluctuations in the
Exchange Rates are to be taken into consideration. A few issues that need to
be cared for are:
• The MNC may permit to hold the cash in the currency of the Host
Country and also make investments for the same from time to time.

• The firm may decide to centralize all investment decisions and thus
instruct every subsidiary unit to transfer the surplus to the home country.
However, the transfer of income/surplus will be subject to the host
country’s Foreign Exchange Management guidelines.
305
Working Capital • Minimisation of transaction costs involved in the currency conversions,
Management:
Issues and Practices calls for holding adequate cash balances in the currency of the host
country for immediate and future payments.

• Yet another problem in managing the cash inflows by an MNC is in the

proper estimate of cash follows. This all depends on the turnover
expected from the host country. While it is possible to some extent to
estimate the rates that would be happening in the host country; it would
be beyond comprehension in respect of currency appreciation and
depreciation. The values of the currency of the host country fluctuate for
a variety of reasons. To a great extent, a majority of them are beyond the
expectations of the company. A small change in the policy of the host
country like FDI permission may cause a big difference in currency
valuations. The usual practice is that currency appreciations would
encourage host country domestic companies to export more and import
less when the converse is true.

• Finally, there is the issue of host country guidelines blocking the

movement of cash from their country. Several developing nations
promote investments and employment in their countries, but certain
restrictions on the size of the transfer of funds. In such cases, the MNCs
are required to devise ways to tackle the situation with due care and
diligence. A few ways, usually suggested by the Cash Managers of
MNCs are: (1) to incur expenditure towards R & D activities, (2) to take
loans from local banks and pay interest in their currency; instead of
taking loan from the bank of the host country, (iii) to incur expenditure
on the Corporate Social Responsibility (CSR) activities, to promote
goodwill among the locals.

14.3.3 Managing Outflows

In this regard, the usual technique suggested by many is “to centralize all
payments”. There will indeed be greater control over the cash situation, but it
may not be possible in present-day circumstances. Centralized systems were
suggested in those days when the Negotiable Investments like Cheque, and
Bills of Exchange were popular. Nowadays, all payments are done through
the electronic mechanism. Therefore, delaying the payments will not be
possible through centralization.

A centralized system of Cash Management indeed has the advantage of

holding overall cash balances to the minimum. This would also enable the
company to make full utilization of the cash available and avoid idle cash
balances, thus securing a return on the cash holdings. The following are the
two systems that are widely followed by MNCs.

1) Multilateral Netting: This is a payment mechanism, where two or more

parties join together, to sum up, the transactions that happened in a
specified period. This could be applied to units or branches of the
organization, or can be arranged with outside parties. The implication is
that the netting activity is centralized in one place, avoiding the need to
prepare and raise multiple invoices for setting payments. Therefore, it is
306 taken as the tool to pool up funds for making payments from that pool.
 The key aspects of this process are as follows: Working Capital
Management in
MNCS
• All the Customers/Branch Managers/Unit Heads forward all their
payment advice to one netting center.
• Several transactions are bundled together rather than being treated
individually.

Multi-lateral Netting is said to offer diverse benefits to the MNCs

operating in this model; like the following:
• Saving time and bank charges.
• Effective handling of cash balance. Since there will be a reduction in
the inter-company cash flows.
• Better Invoice reconciliation among the subsidiaries and parent
company.
• Informed decision-making about the inter-company flows, subject to
the laws of the land in vogue.
• Helping with the introduction of better accounting procedures.
• Better bargaining capacity with Banks and Financial Institutions for
getting loans and the payment of interest.
• Since this mechanism operated through a networking mechanism
and is based on the Membership model, the risk of default will be
less.

The only thing that Netting proves ineffective is when there are frequent and
multiple changes in the current rules of the host countries and failure of the
law and order and the ruling Government due to internal or external
disturbances.
To take an example, suppose XYZ Ltd., sells $100 million worth of goods to
its subsidiary, ABC Ltd. This subsidiary sells the same to another subsidiary
PQR Ltd. This PQR sells the same to the parent XYZ Ltd. If this is the
network of transactions, under the multi-lateral netting system, the inter-
company transfers get eliminated, as shown below:

XYZ Ltd.

$100 Million $100 Million

ABC Ltd. PQR Ltd.

$100 Million

307
Working Capital Under the netting system, a matrix of receivables and payables is prepared to
Management:
Issues and Practices arrive at the net receipts or payments. Suppose a USA parent company has
subsidiaries in France, Germany, UK, and Italy. For the netting purpose, the
transactions that happened among all these affiliates are converted into
common currency, say US Dollar, and then the netting process is followed.
Imagine the following transactions:

Table –14.1: Transactions Matrix (In US $ Thousands)

Paying Affiliate
France Germany UK Italy Total
France -- 20 30 50 100
Germany 30 -- 20 40 90
Receiving
UK 40 30 -- 35 105
Affiliate
Italy 50 15 30 -- 95
Total 120 65 80 125 390

In the above example, without netting, the total payments amount to $390
thousand. With netting, this amount would come down to just $50. See Table
14.3 given below:

Table – 14.2: Netting Schedule (In US $ Thousands)

Affiliate Receipt Payment Net Net

Receipt Payment
France 100 120 -- 20
Germany 90 65 25 --
UK 105 80 25 --
Italy 95 125 -- 30
Total 390 390 50 50

2) Physical and Notional Cash Pooling

Yet another method of centralized Cash Management is to resort to cash
pooling in both physical and natural forms. Usually, nobody would prefer to
opt for physical pooling due to various restrictions imposed by the countries
in the handling and movement of hard currencies. But the Covid-19
pandemic has led many MNCs to hold large cash balances to maintain a
liquidity position in those difficult times.

In the case of physical pooling, an attempt is made to transfer the cash

balances of all accounts to one Pool Account or Major Account daily
withdrawals, or anything is done through this pooled account only. Further,
these pool accounts are maintained on a currency-by-currency basis. No
exchange or conversion is undertaken. For accounting purposes, interest on
the cash balances is also paid to the transferring unit/branch, and
reconciliation and further investment activity are taken care of by the holding
unit/entity.
308
In the case of Notional Pooling, a similar procedure is followed by creating a Working Capital
Management in
shadow or notional position resulting from an aggregate of all the accounts; MNCS
which may be held in multiple currencies. There will be no actual movement
or lending of currencies. The holding unit or entity (maybe banks also);
which is maintaining the pool provides an interesting statement, reflecting the
net offset (notional), which would have been achieved in physical pooling.
Since there is no physical movement of currency, intercompany loans are not
required to account for the offset. But one limitation with this method is that
there is complexity arising out of legal and tax issues emanating from host
countries.

14.3.4 Investing Excess/Idle Cash

This is one of the important functions of the Cash Manager. During business,
surpluses do generate and there would be situations that prompt the Manager
to look for avenues to invest these surpluses. These would be available only
from a few days to a few months at times. Being a corporate, the Cash
Manager has to take every measure to realize the most mileage of the
investment. Keeping in banks as deposits, investing in treasury bills,
commercial paper, and certain other money market funds can be explored.
Surely, there will be divergence in the sources available for investment in
domestic markets and global markets.

The biggest question for the Cash Manager of an international firm is to

invest the surplus in the country, where it is generated in the same currency
or to transfer the surpluses, following the rules of the host country and then
opt for centralized investment choices. Each of these has its own merits and
demerits. Instead of being momentary, an MNC can design a policy of its
own in this regard.

In addition to the traditional investments like Bank Deposits, Treasury Bills,

and Commercial Paper, MNCs can also think of Global Depository Receipts
(GDRs) and American Depository Receipts (ADRs). These Depository
Receipts have become popular in the recent past and are used both for
financing and investment whatever the means of investment selected, it
should have the recourse of yield, risk, financial strength, purpose and
duration, flexibility, and creditworthiness. Considering a numerical example
for better clarity, the effective yield on a foreign deposits general equation:
= (1 + if) (1 + ef) – 1

Where = effective yield on a foreign deposit

if = percentage of interest quoted on the foreign currency
ef = percentage change (appreciation or depreciation) in the value of
the currency from the date of deposit to the date of withdrawal.

Suppose that an MNC X of the US has surplus cash of $2,000,000. It can

invest in a one-year domestic bank deposit @ 6 percent. The company finds
that a one-year deposit in an Australian bank would fetch 9 percent. The
exchange rate of the Australian dollar at the time of investment is $0.68. Due
to the higher interest rate X decided to invest in Australia. The U.S. Dollars
309
Working Capital are, therefore, converted to Aus $2,941,176 and then deposited in a bank.
Management:
Issues and Practices After one year, X receives Aus $3,205,882 (equivalent to the initial deposit
plus 9 percent interest on the deposit). X then converts it into U.S. dollars.
Assume that the exchange rate at this time is $72 (an appreciation of 5.88%).
The funds are covert to $2,308,236. Thus, the yield on this investment to X
is:
= (1 + .09) (1 + .0588) – 1
= 1541, or 15.41%
Now assume that the Australian dollar depreciated from $0.68 to $0.65 or by
4.41%, the effective yield will be:
= (1 +0.09f) (1 + 0.0441) – 1
= .0419, or 4.19%

The effective yield could be negative if the currency denominating the

deposit depreciates to an extent that more than offsets the higher interest
accrued from the deposit.

Activity-14.2
i) Try to trace the cash flows of any MNC you are aware of.
…………………………………………………………………………….
…………………………………………………………………………….
…………………………………………………………………………….
…………………………………………………………………………….

14.4 RECEIVABLES MANAGEMENT

It is known to the captains of the industry that the size of receivables depends
on the credit and collection policies of the company. Both of these are the
influencing factors in boosting the sales of the company. It would be the
choice of the company either to follow stringent credit policies or liberal
policies. It is also true that the practices prevailing in the world lay down a
set of standard practices and the firms may be left with little choice but to
vary such terms, going against the already followed practices. In the case of
an MNC, these practices would be quite diverse and it may have to formulate
the policies and practices for each country and vary them as and when
necessitated.

The gamut of additional variables that need to be taken into account by the
MNC includes currency fluctuation, exchange rate variations, restrictions on
the flow of funds beyond the boundaries of the host countries, inflation rates,
and other economic and non-economic factors. In the case of MNC, unit
receivables mainly arise due to the transit period between countries. When
the consignment is shipped to a foreign destination, there will be sometime
elapsing between the shipment and receipt. The bills drawn on the importer
can be discounted or wait for payment. Usually, the importer is advised to
open a Letter of Credit (LC) against which payment is received by the
exporter.
310
One of the services that emerged in recent times is the factoring of Working Capital
Management in
receivables. Factoring is a financial service extended by an agency (called a MNCS
factor) that buys the receivables from the seller (means the company selling
goods or services) and pays a certain amount (generally about 80 to 90
percent) of the sale amount. The factor would collect the invoice and after
deducting his agreed commission, pay the remaining amount to the company.
Factoring encourages the exporter to quote more competitive terms or to ship
goods on an open account rather than insisting on cash payment or shipment
against the letter of credit. One advantage to the exporter is that he can save
on the cost of a credit investigation, currency risks, collection risks, and
political risks also. As the agency involved in factoring is the one having the
necessary expertise in assessing all these risks, to that extent the exporter is in
a better position. Nevertheless, it is for the exporter or the MNC to decide on
hiring the services of a Factor. It has to weigh the cost of waiting for payment
from the importer and the commission to be paid to the Factor. The following
Equation is usually employed to weigh these costs:
i × n CF
CB =
(2 X r)

Where CB = Cash Balance

n CF = Average negative cash flow in a given period
i = Discount rate (Factoring Cost)
r = Rate of return on the firm’s assets.

Factoring service has evolved over the years. A separate Accounting

Standard is also formulated to deal with the threat of ‘factoring cost’ under
Generally Accepted Accounting Principles (GAAP) and the United States of
America and in other countries. Based on the growth in the Factoring
Services and using the advancements in technology. Some of the Factoring
agencies have also diversified into fields like real estate, construction,
medical, haulage, etc.

As we have noticed in the cost of Cash Management, technology has been

bringing about, in a company, significant and more lasting changes in the
Management. Receivable Management is the point of the same. Some of the
technology like the following would contain by contributing to the efficient
management of receivables by both the domestic and international
companies.
• Developing a Mobile App
• Resorting to RTGS / NEFT
• Designing specific Templates for handling receivables
• creating a Dashboard kind of mechanism
• Automated Reminder
• Role-based /system generated notifications and escalations

The MNC will have the advantage of knowing better the local practices and
tailoring the method to suit their taste
311
Working Capital
Management: 14.5 INVENTORY MANAGEMENT
Issues and Practices
There was an age-old saying that ‘inventions are the grave end of business’.
This turns out to be true in case of domestic companies as well as
international companies. Some of the finance managers have linked
inventories to that industry’s cancer. Therefore, if the inventories are not
properly handled, they leave a deleterious effect on the bottom lines of the
companies. The inventory management techniques such as EOQ, Re-order
level, ABC, etc., are akin to both types of companies. Yet, the companies
operating in more than one country need extra caution about the purchasing
policies of the host countries, changing prices, currency fluctuations,
disruptions in the supplies, changing lead times, and finally political stability
too.

Whatever the techniques that the parent company is conversant with or

following in the country of origin may not be suitable in the host country or
the environment may not be so ripe to adopt such practices there. The supply
chains or stock replenishments may not be that instantaneous, as is the
situation in the home country. We are aware of the fact that Japanese
companies are highly popular in following inventory management practices
like Just-in-Time (JIT), Kaizen, Kanban, etc. But their adaptability to a
country like Tanzania is not so easy. For various internal and external
reasons, even Japanese companies also may be required to go for “Stock
Pilings”. Frequent changes in the tariffs, import controls, and quota
restrictions would necessitate the MNCs to change their strategy. Further,
countries like India follow an incentive mechanism, whereby 100% export-
oriented units are provided with certain flexibilities in imports and exports.
Such measures usually help MNC units operate with lesser inventories.
Since MNCs usually depend on their home countries for imports, and there is
always some amount of lead time, maintaining a certain quantity of ‘safety
stock, becomes imminent. Not only raw material supplies but also stores and
spares of the machines deployed in the production process are all imported.
Many MNCs follow this practice to ensure the quality of their products and
to ensure the economy of operation. How the MNC companies face the
difficulties in their supplies is far to imagine. For instance, the movement of
cargo in the ‘Suez Canal’ got stuck in the past for a week due to a large ship
named ‘Ever Given’, and the entire movement of the Fleet in the canal got
stopped abruptly and about 320 vessels were waiting for clearance. Such
incidents may happen anywhere in the world, destabilizing the management
practices and stock pilings.

Some of the usual and most frequently resorted to mistakes by the MNCs can
be said to be the following:
• Holing too much or too little inventory in one location.
• Lack of diverse inventory items.
• An Inadequate number of warehouses.
• Difficulties in the movement of inventory items from one location to
312 another location.
• Lack of coordination among the multiple locations within the same Working Capital
Management in
country and between a parent company and the subsidiaries in host MNCS
countries.

14.5.1 Supply Chains and Inventory Management

A new trend in the management of inventories is towards cultivating supply
chains. Businesses are always in search of new and innovative processes and
the new development in this regard is the Supply Chain Management (SCM).
This combines a wide gamut of activities covering manufacturing operations,
purchasing, transportation, and physical distribution into a unified activity.
The intention is to create a seamless process linking all the players in the
chain. Many of these activities have a direct bearing on inventory control
such as procurement, transportation, warehousing, forecasting, production
planning, scheduling, etc. In a wider sense, the supply chain is said to extend
to all those activities associated with the movement of goods from the raw
material stage through to the end-user. Supply chain integration implies not
only the internal departments but also extends to external agencies, like the
suppliers of raw materials, transporters, warehousing firms, etc. Supply
chains are designed to play an important role in moving goods more quickly
to their destination. It is also important that a common framework is
developed for analyzing the efficiency of the players in the chain at every
level and on each occasion, crucial to the chain.
It has been revealed through many research studies that efficient supply
chains can reduce holding costs to a significant extent. Therefore, there is a
need to design a suitable model for effective inventory management through
these chains. In this context, H. Lee and C. Billington (1992) through their
article (published in Sloan Management Review, Vol.33, No.3, 1992) on
“Managing Supply Chain Inventory: Pitfalls and Opportunities” proposed a
model for Inventory management taking into account decentralized and
discontinuous supply chains. The authors have identified fourteen such
pitfalls in supply chain management and some corresponding opportunities.
They expressed the opinion that the more complex is the network of
suppliers, the more likely is the possibility of operational efficiencies.
Therefore, managing inventory in supply chains required special focus and
consideration at all levels.

14.6 SUMMARY
Because national boundaries are fading out and economies are merging as a
single global village, opportunities for business expansion are growing day
by day. Companies are spreading their business throughout the world and
even small start-up units are also having customers across nations.
Companies are therefore emerging as global entities in more than one
country; perhaps 10-20 countries easily. Under these circumstances,
businesses are also required to adapt themselves to international management
practices and be conversant with the changing environment.
Working Capital Management is one such important area, where companies
are required to be vigilant to improve upon their profitability. Though the 313
Working Capital practices are similar to those practiced in the domestic context, there are a
Management:
Issues and Practices few additional issues that need to be cared for by the firms operating in the
international context. These relate to the changing business and industrial
policies of the host countries. Tax matters, Exchange fluctuations, restrictions
on the movement of goods and services, and finally transfer pricing. Each
component of the working capital such as cash, accounts receivable and
inventory is to be managed properly to realize the competitive advantage in
the international context. It is advised that the firms shall always try to
maximize the inflows and minimize the outflows. In the present days of
Electronic funds transfer, the cash dealings are almost instantaneous.
Therefore, firms should be well aware of the payment mechanisms and take
advantage of the advancements in technology. Cash pooling and multilateral
netting are some of the cash management tools that can be gainfully
employed. Investing idle cash is yet another important task, about which
firms should not be complacent. Firms also shall focus on the receivables and
inventory aspects to carry out the process of production without any
interruption. Some of the techniques useful in the home country may not be
easily deployable in the host countries due to divergence in practices and also
import and export restrictions. Getting the most mileage out of every rupee
invested shall be the motto of the firm dealing in an international context.

14.7 KEY WORDS

Multinational Company (MNC): A company having business
operations/units spread across other nations.

New International Economic Order (NIEO): A set of relations that govern

the trade among nations.

Electronic Funds Transfer Systems (EFTS): A network system that helps

the transfer of funds from one account to another and from one place to
another. These also include various types of electronic gadgets that help the
transfer of funds.

International Cash Management: Cash Management practices followed by

MNCs.

Multilateral Netting: A payment mechanism wherein two or more parties

join together to sum transactions carried out by them in a specific period.

Cash Pooling: A centralized cash management system, whereby all the cash
dealings are pooled at one place or into one account.

Receivables Management: Methods and techniques employed to speed up

the collection of debts.

Inventory Management: Tools and techniques followed to keep the

inventory as low as possible, without impacting the production process and
sales.

314
 Working Capital
14.8 SELF ASSESSMENT QUESTIONS Management in
MNCS
1) How does the Working Capital Management of an MNC differ from a
domestic company?

2) What are the special considerations about which an MNC should be

always cautious?

3) How did Electronic Funds Transfer system bring about changes in the
Cash Management practices?

4) Whether the traditional Cash Management practices followed by a

domestic company have any relevance to the MNC?

5) Distinguish between Netting and Cash Pooling. Illustrate your answer

with a live or Hypothetical case.
6) Investing Idle Cash is an intelligent exercise. What do you think are the
special issues of significance in this regard?
7) “Accounts Receivables Management is not a big deal for an MNC”. Do
you agree?

8) “The so-called much talked about Inventory Management Techniques

like JIT, Kaizen have no big appeal in the International Environment”.
Argue.

9) ‘Supply Chains have freed the suffocation in Inventories’. To what

extent this observation is right?

14.9 FURTHER READINGS

1) Alan C. Shapiro and Peter Moles, (2016), International Financial
Management, Wiley.
2) Bhalla, V.K., (2014), International Financial Management, S. Chand &
Co.
3) Srivastava, R.M., (2008), Multinational Financial Management, Excel
Books.
4) Keneth Kim and Sukkim (2019), Global Corporate Finance, World
Scientific.
5) Hrishik Bhattacharya, (2014), Working Capital Management, PHI
Learning.

315
Working Capital
Management: UNIT 15 CASE STUDIES
Issues and Practices

Objectives
After going through this Unit, you should be able to:
• know how the various components of working capital are managed by
the existing companies.
• get in touch with the nuances of Working Capital Management in terms
of policy and practice.
• understand how companies would be topping and mobilizing funds for
financing working capital.

Structure
15.1 Introduction
15.2 Cash Management in Paytm
15.3 Receivables Management – Case Study of TCS
15.4 Inventory Management – Case Study of Maruti Suzuki India Ltd.
15.5 Financing of Working Capital by Commercial Banks – Case Study of
SBI.

15.1 INTRODUCTION
Working Capital is a matter of great concern to any business. It is said to be
the lifeline of a business. The shorter the operating cycle of a unit, the more
significant it turns out to be. Usually, investment in Fixed Capital is a one-
time affair. Working capital is a continuous requirement which needs the
attention of the Management. It is for this reason, that working capital is also
called ‘circulating capital’. As the blood in the arteries and veins flows in the
body of an individual, working capital circulates in the firm in the same
manner. In the case of manufacturing activities like the production of Sugar,
Cement, Paints, etc., the quantum of working capital would be heavy and
significant. It is only in the case of service industries like Software
development that the working capital assumes low significance. Irrespective
of the size and proportion, working capital will have a paramount influence
on the profitability of the company. Therefore, ignoring the aspect of prudent
management of working capital would be very dangerous.

It would always be interesting to analyze how things are managed in the

actual field. Theoretically, one may propose many principles and stands, but
it is also important to verify to what extent those are appreciable and yield
results. With this intention, an attempt has been made in this unit to discuss
four live cases about all the important components of working capital. Care
has been taken to ensure that the company selected is significant from the
standpoint of the management of that component of working capital.

316
Case Study on Paytm is expected to throw light on the modern state-of-the- Case Studies

art cash management practices and also highlight how the traditional
practices have been going into oblivion, yielding place to the newer ones. In
the present day context, swift practices through Payment Gateway, NEFT,
RTGS, etc., have become the order of the day. In a way, the transfer of funds
across places and accounts has turned out almost instantaneous. The
discussion in this case study would take the student closer to reality.
The case study about receivables management is done on TCS Ltd. TCS is
one of the companies having more receivables. The efficiency of
management of working capital thus depends on this component. As per the
Financial Statements of the company, the size of receivables is varying
between the lowest of Rs.24,000 crores to the highest of Rs. 29,000 crores.
Even a saving of 1 percent would add a significant amount to the profitability
of the company.
The other significant component of working capital is inventory. It is thought
that the Automobile giant M/s Maruti Suzuki would fit as the ad example.
Being a Japanese sponsored company, it could put in place state-of-the-art
Japanese inventory management techniques like JIT, Kaizen, etc., As one can
observe from the case study, the company has laid down its policies and
followed them scrupulously. It is the discipline of the Japanese companies
that takes them to the top.
On the whole, it is also considered appropriate to develop a case study on the
procedures followed by the Commercial Banks in financing working capital.
In this regard, the case study of SBI is thought the ‘best fit’. SBI, being the
biggest institution in the Indian banking industry is a model for other banks
in terms of its lending and other practices. By its sheer size also, it is in a
position to take risks and experiment with new and innovative methods. After
doing away with the implementation of Tandon Committee norms for
financing working capital, banks have a lot of freedom to design their
models. In that context, the SBI case offers interesting reading.

15.2 CASH MANAGEMENT IN PAYTM ORIGIN

AND GROWTH
Paytm is the brand name of the company, 97 Communications Ltd., a start-up
company founded by Mr. Vijay Shekhar Sharma in August 2010. Paytm is a
big success story as an e-commerce payment system. The company is located
in Noida Industrial Area, U.P. India. In addition to payment system services,
it is also extending cash management services through Paytm Mall, Paytm
Money, Gamepind, and Paytm Smart Retail. Initially, the Founder Mr. Vijay
Shekhar Sharma invested $2 Million in subscriptions from others. Started off
as a prepaid mobile and DTH recharge platform, now offers services that
cover digital wallets, data, and payments, online shopping, banking, postpaid
mobile, landline bill payments, etc. Further, extensions included the payment
of college/school fees, electricity bills, metro charges, water bills, and
ticketing for entertainment units like Movie Theatres, Amusement parks, etc.
It also entered into ticket bookings for railways, Airways, etc. Uber and
Indian Railways have added Paytm wallet as the payment option.
317
Working Capital Through these initiatives, the user-base runner of the company has grown
Management:
Issues and Practices substantially. Starting with a base of about 7 million users it has grown to
350 million. Similarly, the business turnover has jumped from just around
$100 million to about $600 million now. In terms of financial strength, its net
income itself is about $350 million. Given the value of about $20 billion.

Shareholding Pattern
Beginning with the small investment of $2 million by the promoter, Mr. V.S.
Sharma, many other venture capital firms, equity firms, and E-Commerce
giants have started evincing interest in the company. These included Sapphire
Ventures, Alibaba Group (through Ant Financial Services), Ratan Tata,
Softbank (a Start-up funding company) and Warren Buffett (through
Berkshire Hathaway).
In turn, Paytm also expanded its business through investments and
acquisitions of related businesses. In 2013, Paytm acquired Plustxt for $2
million, invested $5 million in an auto-rickshaw aggregator, called (Jugnoo),
invested in logistics Start-ups LogiNext and XpressBees in 2016, and
invested in a healthcare start-up called Q or QL, and continued this spree as
and when it found lucrative and necessary for business development.

Over the years, there had been a significant change in the shareholding
pattern of the company, and the founder, who had about 51% at the
incorporation got shrunk to about 15.73%. There was major shuffling in the
holdings by other firms too. At the end of 2020, the following is found to be a
shareholding pattern of Paytm (i.e., One97 Communications Ltd.):

Sl. No. Name of the Holder % of Holding

1. Alibaba 38.19

2. SoftBank 19.69

3. SAIF Partners 19.93

4. Berkshire Hathaway 2.96

5. Media Tek Inc. 0.76

6. One97 Employee Welfare Trust 0.48

7. Mr. V.S. Sharma (Promoter) 15.73

8. Mark Schwartz 0.15

9. Others 2.11

Total 100.00

No. of Shares (Approx) 57,389,217

318
 Case Studies
The Controversies
The runaway success of the firm is not without controversies. There was an
allegation (2018) that the firm had shared the personal details of its users with
the Indian Government, violating the ‘privacy policy. There is also an
apprehension that the promoter and his relatives had nexus with the ruling
party (BJP) and thus involved in politicking through their services. In recent
times, controversy (September 2020) pertains to the violation of Google’s
Play Store Gambling Policy, leading to the removal of its ‘Paytm’ app from
the ‘Google Play Store’. There is also an apprehension that the Chinese E-
Commerce major (Alibaba) is using Paytm as the tool to get personal data of
Indians and thus increased its shareholding to a substantial level of about
40%. Nevertheless, Paytm is not on the list of 118 Apps banned by the
Central Government, on the finding that ‘One97 Communications Ltd.’ is
still an Indian Company.

The Operation of Paytm Services

Paytm is operating a payment Gateway that accepts payments from any
funding source. Besides, payment Gateway, as payment links with diverse
business entities, which include educational institutions, all kinds of business
establishments, professionals, distributors, consultants, etc. It has developed a
portal called ‘Paytm icol collect in acts as a window for receiving payments.
It is also involved in all types of QR codes and monitors and processes
payments of all kinds. Not only on the receipts side, but has I butt also
offered payout services which include Employ Benefits, Enterprise Bill
Payments, and different kinds of EMIs.

It has also developed exclusive cloud services and put in place different kinds
of Apps for dealing with its customers. Business Khata is the exclusive
service extended to its customers. Financial services delivered include
Current Accounts, Salary accounts for Employees, and Credit Card Services.
The Business Model of Paytm includes the appointment of Paytm Service
Agents (PSAs) who wish to work with Paytm as the Service Partner to sell
Paytm Products. Those that intend to tie up with Paytm for its service have to
submit required documents like company proof, Business proof, PAN Card,
Bank Account details, GST details, KYC of the Authorised signatory, and
photos/videos of the place of Business.

Financials of Paytm (One97 Communications Ltd.)

The following are the details ending March 31, 2019:

Consolidated Standalone
(INR in Crore) (INR in Crore)
2018-19 2017-18 2018-19 2017-18
Revenue from Operations 3,232.01 3,052.90 3,049.87 2,982.22
Other Income 347.66 256.71 341.74 247.16
TOTAL REVENUE 3,579.67 3,309.61 3,391.61 3,229.38
Less: Expenses
Employee Benefit Expense 856.22 613.98 627.78 528.66 319
Working Capital
Management:
Finance Cost 16.87 18.88 16.50 18.39
Issues and Practices Depreciation and Amortization 99.51 78.88 75.81 68.92
Expense
Other Expenses 6,757.54 4,152.79 6,534.71 4,082.11
TOTAL EXPENSES 7,730.14 4,864.53 7,254.80 4,698.08
Profit/Loss before sharing (4,150.47) (1,554.92)(3,863.19) (1,468.70)
of the result of
associates and taxation from
continuing operations
Share of result of associates / 14.61 (30.81) - -
joint venture entities
Profit/Loss before exceptional (4,135.86) (1,585.73)(3,863.19) (1,468.70)
items and tax from continuing
operations
Exceptional items (82.52) 3.40 (91.02) (2.30)
Profit/Loss before Tax from (4,218.38) (1,582.33)(3,954.21) (1,471.00)
Continuing Operations
Tax Expense (6.49) 1.53 0.12 (1.01)
Profit/Loss from Continuing (4,211.89) (1,583.86)(3,954.33) (1,469.99)
Operations
Profit/Loss for the (5.31) (20.48) (5.31) (20.48)
period from
discontinued operations
Profit/Loss for the year (4,217.20) (1,604.34)(3,959.64) (1,490.47)
Total Comprehensive (4,221.81) (1,606.05)(3,959.78) (1,491.23)
Income/Loss
Loss attributable to equity (4,167.98) (1,589.46) - -
holders of the parent
Loss attributable to non- (49.22) (14.88) - -
controlling interests
Total Comprehensive (4,172.93) (1,591.17) - -
Income/Loss attributable to
equity holders of the parent
Total Comprehensive (48.88) (14.88) - -
Income/Loss attributable to non-
controlling interests
Basic & Diluted EPS for (742.17) (311.42) (705.02) (291.77)
continuing operations
Basic & Diluted EPS for (0.95) (4.06) (0.95) (4.06)
discontinued
operations
Basic & Diluted EPS for (743.12) (315.48) (705.97) (295.83)
continuing and discontinued
operations

320
Consolidated Balance Sheet of One 97 Communications Limited as of Case Studies
March 31, 2019
(Amount in INR Crore)
Notes As of As of
March 31, March 31,
2019 2018
ASSETS
Non-current assets
Property plant and equipment 1 284.28 161.13
Capital work-in-progress 51.31 18.54
Goodwill 4 293.02 312.21
Other intangible assets 4 73.45 99.02
Intangible assets under development 4.29 1.63
Investment in Joint Venture 5(a) 46.05
Investment in associates 5(b) 200.20 175.57
Financial Assets
Investments 6(b) 105.08 211.59
Loans 6(c) 107.40 32.48
Other Financial Assets 6(d) 137.07 243.64
Current tax assets 464.76 281.26
Deferred tax assets 28 3.04 0.80
Other non-current assets 8 141.04 53.68
Total Non-current Assets 1,910.99 1,591.55

Current Assets
Financial Assets
Investments 6(a) 2,897.88 4,455.09
Trade Receivables 7 258.45 504.78
Cash and Cash Equivalents 9(a) 325.47 331.84
Bank balances other than cash 9(b) 37.26 38.21
and cash equivalents
Loans 6(c) 308.83 12.86
Other Financial Assets 6(d) 1,829.29 1,106.55
Other Current Assets 8 1,413.82 635.77
Total Current Assets 6,671.00 7,085.10

TOTAL ASSETS 8,581.99 8,676.65

EQUITY AND LIABILITIES

EQUITY
Share Capital 10(a) 57.53 55.32
Instruments entirely equity in nature 10(a) --- 173.63
Other Equity 10(b) 5,681.15 7,254.90 321
Working Capital
Management:
Equity attributable to the owner of 5,738.68 7,483.35
Issues and Practices the parent
Non-controlling interests 86.17 135.47
Total Equity 5,824.85 7,619.32

LIABILITIES
Non-current Liabilities
Financial Liabilities
Borrowings 12(a) 26.96 --
Deferred Tax Liability 28 18.47 22.67
Provisions 11 11.55 9.89
Total Non-current Liabilities 56.98 32.56

Current Liabilities
Financial Liabilities
Borrowings 12(a) 695.60 242.12
Trade Payables
(a) Total Outstanding dues of 12(b) 11.26 0.88
micro and small enterprises
(b) Total Outstanding dues other 12(b) 725.39 461.80
than (a) above
Other financial liabilities 12(c) 715.41 235.80
Contract Liabilities 352.87 ---
Other Current Liabilities 13 159.17 53.60
Provisions 11 40.46 30.67

Total Current Liabilities 2,700.16 1024.77

Total Liabilities 2,757.14 1,057.33

TOTAL EQUITY AND 8,581.99 8,676.65

LIABILITIES

Questions for Discussion:

1) How do you analyze the Business Model of Paytm? Do you have any
suggestions?
2) In the light of the stiff competition among the multiple players of
payment Gateways, what kind of Cash Management strategies you can
think of for Paytm.
3) How do you look at the Ratio between Current Assets and Non-Current
Assets of the company?
4) Keeping in view the given Financials, what kind of working capital
policies do you imagine for the company?
322
 Case Studies
15.3 RECEIVABLES MANAGEMENT IN TATA
CONSULTANCY SERVICES LIMITED
Introduction
The Bombay Stock Exchange (BSE) has compiled data on the Top 100
companies listed with it, based on the figures available from their latest
Balance Sheets (see Annexure-I). As per the data compiled, the Tata
Consultancy Services Limited (TCSL) has the highest Sundry Debtors
(Receivables) at Rs.28,660 crore, which is about 86% of the total Current
Assets of the company. Close to it L & T has about Rs.27,913 crore (80.6
percent) in the second place. True, that there are a few companies that had the
highest percentage of receivables such as PTC India (97.01%), NHPC
(88.27%), ITI (86.84%), Sterling & Wilson (88.16%), and McNally Bharat
Engineering (98.37%). But the size of their receivables in absolute terms is
much lower. In this regard, the Economic Times (a Financial Daily of India)
commented that the Indian MSMEs, especially Startups are choked by the
large dues to be received from the large companies, to whom they are
supplying the goods and services.

Case of TCS
Against this background, it is felt that TCS offers itself as a good case study,
in the sphere of ‘Receivables Management. TCS is a big name in the IT
Sector of India. It is the second-largest Indian company in terms of market
capitalization. In 2018, TCS was ranked eleventh on the Fortune India 500
list.

Going into the past, TCS was founded in 1968 by Tata Sons Ltd., the parent
company. Tata Sons owns about 72% of the shareholding in TCS. The
company has 67 subsidiaries and offers a wide range of IT Services to its
customers which include application software development, business process
outsourcing, capital planning, software consultancy, and also educational
services linked to IT. The company website says that ‘TCS is an IT Services,
Consulting and Business Solutions Organisation that has been partnering
with many of the world’s large businesses in their transformation Journeys
for over years. The network of TCS includes over 4.43 lakh trained
consultants in over 46 countries. The revenues of the company stood at US
$22 billion by the end of March 31, 2020. TCS is a company carrying on
excellent work to influence climate change across the world; as evidenced by
a learning place on the ‘Sustainability Indices’ by the Dow Jones, MSCI, and
FTSE.

The Receivables Story

As indicated earlier, trade receivables are occupying a significant place in the
company’s Current Assets. As per the Balance Sheet information (given as
Annexure-II), trade receivables stood at Rs.28,660 crore, in 2019-20
compared to Rs.24,029 crore in 2018-19. In terms of percentages, receivables
formed 36.2 percent of Current Assets in 2019-20, higher by 5.8 percent
compared to the previous year (i.e 3 percent). This amply shows the
323
Working Capital significance of handling receivables effectively. The Accounting Policies
Management:
Issues and Practices concerning countries are stated as follows by the Company:

• Contract assets are classified as unbilled receivables (the other only act
of invoicing is pending); when there is an unconditional right to receive
cash.

• The company provides for the expected credit loss in the collection of
receivables. This is done by taking into account the tagging of
receivables.

• Revenue recognition is done only when the collectability of receivables

is reasonably assured.

• Allowance for delinquent receivables is treated as the operating expense.

• The company recognizes lifetime expected losses for all trade

receivables that do not constitute a financing transaction.

• When the company leases any asset as a lessor, the lease rents are treated
as receivables and the rate of return is computed on the net investment
made in that asset.

Other Issues
• TCS being in the leadership position is facing several challenges from its
Indian competitors like Infosys, HCL, and Wipro.
• The acquisition strategies of the company are needed to be sharpened.
There is an apprehension in the market that its surplus is being
distributed to the shareholders to satisfy them, rather than using them for
acquisition and expansion.

• In the face of future technology changes, how well the company

responds to imbibe and nurture such tech changes is also going to leave a
tremendous impact on its business.

• The other issue is Customer Relationship Management (CRM). It is that

Tata Group Companies are in ideal CRM. This needs to be continued for
better hold in the market.

Questions for Discussion

1) How do you view the significance of Receivables to any company, in
particular to TCS?
2) Do you propose any changes in the Accounting Policies of the company
for better management of Receivables? You can draw a comparison
between the Indian GAAP and IFRS.

3) What ratios do you compute to discern the effectiveness of receivables

management by TCS?

324
 Case Studies
Annexure – I: Sundry Debtors of Top 100 Companies

Sundry % of Current
S. No. Company
Debtors Assets
1 TCS 28,660.00 85.58
2 Larsen 27,912.96 80.62
3 NTPC 15,668.11 54.77
4 Infosys 15,459.00 53.27
5 IOC 12,844.09 16.66
6 Hindustan Aeron 11,583.39 36.97
7 Wipro 9,257.00 46.58
8 SAIL 8,812.39 26.77
9 NFL 7,735.33 85.62
10 HCL Tech 7,504.00 85.19
11 Reliance 7,483.00 13.67
12 BHEL 7,107.62 31.69
13 PTC India 6,787.85 97.01
14 Bharat Elec 6,732.91 55.18
15 NLC India 6,691.83 79.76
16 Tech Mahindra 6,212.00 76.98
17 Sun Pharma 6,168.13 65.23
18 Pharma 5,789.57 56.86
19 Chambal Fert 5,563.11 81.22
20 KEC Intl 5,223.41 88.28
21 BPCL 5,164.34 20.09
22 Power Grid Corp 4,867.90 41.74
23 ONGC 4,777.39 33.38
24 Dr. Reddys Labs 4,638.70 67.54
25 Rashtriya Chem 4,551.23 82.68
26 GAIL 4,546.84 54.71
27 Reliance Infra 4,106.24 94.14
28 Coromandel Int 4,040.57 59.48
29 HPCL 3,922.72 16.93
30 Enterprises 3,846.48 62.47
31 NHPC 3,818.34 88.27
32 Bharti Airtel 3,810.00 52.84
33 Lupin 3,616.33 48.82
34 Cipla 3,560.27 50.11
35 Kalpataru Power 3,517.39 76.57
36 JSW Steel 3,166.00 13.09
325
Working Capital
Management:
37 UP 3,161.00 68.13
Issues and Practices 38 Siemens 3,123.90 31.94
39 M&M 2,998.98 28.20
40 Vodafone Idea 2,919.10 53.53
41 Grasim 2,905.32 51.78
42 Redington 2,805.58 61.78
43 Rajesh Exports 2,790.24 19.17
44 ITI 2,761.14 86.84
45 GSFC 2,722.76 67.89
46 Cadila Health 2,456.70 57.99
47 NCC 2,408.26 74.33
48 United Spirits 2,283.50 54.97
49 MRF 2,257.03 36.31
50 JISL 2,232.57 70.33
51 Jain Irrigation 2,232.57 70.33
52 NMDC 2,223.71 41.65
53 BGR Energy 2,220.57 84.57
54 L&T Infotech 2,176.70 85.42
55 Adani Ports 2,132.67 32.00
56 Maruti Suzuki 2,127.00 39.66
57 Jyoti Structure 2,105.54 96.93
58 Hindalco 2,093.00 12.61
59 ITC 2,092.00 12.33
60 Zee Entertain 2,052.00 29.55
61 Bajaj Electric 2,048.99 72.03
62 Cox & Kings 2,031.32 73.74
63 ISGEC Heavy Eng 1,990.44 75.48
64 TML-D 1,978.06 21.17
65 Tata Motors 1,978.06 21.17
66 ABB India 1,947.54 44.19
67 MMTC Ltd 1,925.36 85.07
68 GE T&D India 1,898.82 72.81
69 UltraTechCement 1,848.28 30.84
70 Glenmark 1,835.24 66.47
71 Hind Constr 1,821.97 83.48
72 Apar Ind 1,803.58 55.91
73 ABB Power Produ 1,792.85 72.47
74 PC Jeweller 1,780.55 24.50
75 Sadbhav Engg 1,743.41 86.57
326
 Case Studies
76 Bajaj Auto 1,725.10 55.70
77 Bharat Forge 1,654.91 57.93
78 Hero Motocorp 1,603.14 54.58
79 Petronet LNG 1,602.57 24.60
80 Alkem Lab 1,555.07 45.56
81 SpiceJet 1,545.82 87.65
82 HFCL 1,545.71 77.34
83 Sterling & Wils 1,539.76 88.16
84 Rattan Power 1,535.22 66.94
85 Divis Labs 1,533.21 45.30
86 Jindal Saw 1,532.57 38.47
87 FEL 1,520.10 55.36
88 Future Ent 1,520.10 55.36
89 BEML 1,510.37 42.65
90 Torrent Pharma 1,508.94 44.28
91 Mangalore Chem 1,446.31 75.21
92 Polycab 1,439.40 39.73
93 Mindtree 1,438.90 71.08
94 JK Tyre & Ind 1,436.03 55.71
95 Voltas 1,429.25 47.66
96 GNFC 1,413.42 55.76
97 Sterlite Techno 1,413.16 75.61
98 Bosch 1,413.00 29.53
99 Mcnally Bh Engg 1,385.32 98.37
100 Simplex Infra 1,382.73 70.02

Source: www.moneycontrol.com

327
Working Capital Annexure-II: Key Items of Working Capital of TCS
Management:
Issues and Practices
(Rs. in Crore)

Sl. Item 2019- 2018- 2017- 2016- 2015-

No. 20 19 18 17 16
1. Current Liabilities
A. Short Term Nil Nil 181 200 113
Borrowings
B. Trade Payables 6784 7632 4775 4198 5376
C. Other Current 15057 11030 8931 6245 5711
Liabilities
D. Short Term Provisions 235 174 171 66 115
Total Current 24026 18896 14058 10701 11309
Liabilities
2. Current Assets
A. Current Investments 25686 28280 35073 40729 21930
B. Inventories 5 10 25 21 9
C. Trade Receivables 28660 24029 18882 16582 19058
D. Cash & Cash 4824 8900 3487 1316 4806
Equivalents
E. Short Term Loans & 7270 7018 2793 2704 2523
Advances
F. Other Current Assets 12749 10795 7962 7090 5051
Total Current Assets 79194 79032 68222 68442 53377
3. Fixed Assets 16903 10495 10678 10708 10720
4. Total Assets 104975 99500 91056 89758 77417
5. Total Income 156949 146463 123104 117966 108646
6. Profit After Tax 32340 31472 25826 26289 24270
Note: Compiled from the Annual Reports of the TCS Ltd., as available from the website.

15.4 INVENTORY MANAGEMENT IN MARUTI

SUZUKI INDIA LIMITED
About the Company
Maruti Suzuki India Limited (MSIL) is a subsidiary of Suzuki Motor
Corporation (SMC) of Japan. Going into history, the Government of India
established an automobile company on 24-02-1981 in the name of Maruti
Udyog Limited (MUL). The MUL was merged with SMC in October 1982.
The first car plant was set up at Gurugram in 1982. The company came to
prominence within a short period because of its very popular brands like
Maruti-800, Alto, Wagon R, Swift, Ertiga, Baleno, Ciaz, Celerio, and many
other models. In 2015, the company launched a new dealership network in
the name of ‘NEXA’ for selling premium cars. It also has entered the pre-
owned car market with its brand name ‘True Value’. MSIL has been the
single largest car manufacturer in India with about 47.4 percent of the market
share by November 2020. The Net Sales Turnover of the company stood at
328 Rs.75,610 crore at the end of Financial Year 2019-20. You can take a glance
at the Chief Financials of the Company in annexure-I (appended to this case Case Studies

study).

Value System and Policies

The core values of the company are stated as follows:
• Customer Obsession
• Openness and Learning
• Networking and Partnership
• Fast, Flexible First Mover
• Innovation and Creativity

In addition, it has put in place a ‘Code of Business Conduct and Ethics’ to be

compiled by every Senior Manager to ensure ethical business operations. It
includes compliance with the laws of the land, honesty, and integrity in
business dealings. This document is circulated among the Directors,
Managers, and all the Senior Personnel and is to be acknowledged properly.

Inventory Management
Being a car manufacturer, materials occupy a significant part of the cost of
production. To affect, effects and gain a competitive advantage among the
players in the market, materials/inventory management assumes paramount
importance. Going by the financials of the company, the cost of raw materials
consumed formed part of 50 percent of the total expenses of the company
during 2019-20. Inventories formed part of 38.1 percent of the total current
assets at Rs.8,427 crore in the same year (see annexure-II). The CIF value of
raw materials imported by the company stood at Rs.2,488 crore during 2019-
20; which is about 77.4 percent of the inventory and 7.2 percent of the
material cost. These figures indicate the critical value of inventories to any
automobile company like the MSIL.

Management Practices of the Company

Japanese companies are known for unique Management Practices from the
beginning like lifetime employment and consensual decision-making. Strong
company philosophy, distinct corporate culture; all put together as Theory-Z
(as theorized by Dr. William Ouchi). These practices were regarded as new to
the Western Management Style and thus gained wide currency and popularity
during the 1980s and since then.

In respect of Inventory Management, Japanese companies are known for

introducing new and innovative techniques like the Just-in-Time (JIT)
inventory system, Kaizen (KAI=Change; ZEN=Good or Better), and Kanban
(Billboard or Taskboard). Besides these, they are also said to be good with
the conventional inventory management practices like FIFO, LIFO, ABC
Analysis, EOQ, etc.

To go into the specifics, MSIL has introduced the following inventory

systems for effective management of its inventories:

329
Working Capital • Bar Codes to reduce processing times, increase the accuracy of data, and
Management:
Issues and Practices speed up the operation.
• Delivery instruction system to reduce lead time and reduce the
requirement for buffer stocks.
• Just-in-Time to align raw material orders issued to suppliers with
production schedules. It is quite surprising to note that it leaves just four
hours for the supply of local items and six days for imported items. The
inventory to sales ratios is also kept low every time.
• Kanban system is put in place to control the supply chains and realize
cost savings. This is a technique designed to reduce idle time in the
production process. The main idea under this model is to deliver the
material item when the process needs it exactly at that time.
• Kaizen is the inventory management practice that the company uses for
continuous and incremental improvement in the system.
• Vendor Management is the most efficient in MSIL. This has a focus on
the suppliers. In respect of Maruti, it is found that about 70% of the
suppliers are within 100 kms radius. Components are supplied directly to
the Assembly Line; thereby reducing the packaging costs. The company
also practices the system of engaging full component suppliers, instead
of individual parts; thus, reducing the ordering costs.
• As indicated earlier, MSIL is a strong believer in localization. Its policy
is to source the maximum components of materials, almost up to 90%
from local sources. It is working relentlessly to substitute local
components in place of imported ones.
Questions for Discussion
1) Taking the MSIL as an example, give your ideas for better inventory
management.
2) Like the Japanese Inventory Management Systems, can you identify
anything of Indian origin?
3) Analyse the Financial Statements of MSIL given in the annexures to note
down Inventory Policies and Practices of MSIL.
4) Can you compare Western and Japanese Management Practices for the
betterment of the performance of a company? Where do Indian
companies stand.

330
 annexure – I: Income Statement of Maruti Suzuki India Case Studies
(Rs. in Crore)
Mar’20 Mar’19 Mar’18 Mar’17 Mar’16
INCOME
Net Sales Turnover 75610.60 86020.30 79762.70 68034.80 57538.10
Other Income 3420.80 2561.00 2045.50 2279.80 1461.00
Total Income 79031.40 88581.30 81808.20 70314.60 58999.10
EXPENSES
Stock Adjustments -238.10 210.80 40.70 -380.10 6.90
Raw Material Consumed 34636.60 45023.90 44941.30 42629.60 35483.90
Power and Fuel .00 .00 .00 .00 .00
Employee Expenses 3383.90 3254.90 2833.80 2331.00 1978.80
Administration and Selling
.00 .00 .00 .00 .00
Expenses
Research and
.00 .00 .00 .00 .00
Development Expenses
Expenses Capitalized .00 .00 .00 .00 .00
Other Expenses 30525.60 26531.40 19885.40 13101.30 11184.10
Provisions Made .00 .00 .00 .00 .00
TOTAL EXPENSES 68308.00 75021.00 67701.20 57681.80 48653.70
Operating Profit 7302.60 10999.30 12061.50 10353.00 8884.40
EBITDA 10723.40 13560.30 14107.00 12632.80 10345.40
Depreciation 3525.70 3018.90 2757.90 2602.10 2820.20
EBIT 7197.70 10541.40 11349.10 10030.70 7525.20
Interest 132.90 75.80 345.70 89.40 81.50
EBT 7064.80 10465.60 11003.40 9941.30 7443.70
Taxes 1414.20 2965.00 3281.60 2603.60 2079.40
Profit and Loss for the
5650.60 7500.60 7721.80 7337.70 5364.30
Year
Extraordinary Items .00 .00 .00 .00 .00
Prior Year Adjustment .00 .00 .00 .00 .00
Other Adjustment .00 .00 .00 .00 .00
Reported PAT 5650.60 7500.60 7721.80 7337.70 5364.30
KEY ITEMS
Reserves Written Back .00 .00 .00 .00 .00
Equity Capital 151.00 151.00 151.00 151.00 151.00
Reserves and Surplus 48286.00 45990.50 41606.30 36280.10 29733.20
Equity Dividend Rate 1200.00 1600.00 1600.00 1500.00 700.00
Agg. Non-Promoter
.00 .00 .00 .00 .00
Share(Lakhs)
Agg. Non-Promoter
.00 .00 .00 .00 .00
Holding(%)
Government Share .00 .00 .00 .00 .00
Capital Adequacy Ratio .00 .00 .00 .00 .00
EPS(Rs.) NaN NaN NaN NaN NaN
Source: https://economictimes.indiatimes.com
331
Working Capital annexure – II: Balance Sheet of Maruti Suzuki India
Management:
Issues and Practices
(Rs. in Crore)

Mar 20 Mar 19 Mar 18 Mar 17 Mar 16

12 mths 12 mths 12 mths 12 mths 12 mths
EQUITIES AND LIABILITIES
SHAREHOLDER'S FUNDS
Equity Share Capital 151.00 151.00 151.00 151.00 151.00
Total Share Capital 151.00 151.00 151.00 151.00 151.00
Reserves and Surplus 48,286.00 45,990.50 41,606.30 36,280.10 29,733.20
Total Reserves and 48,286.00 45,990.50 41,606.30 36,280.10 29,733.20
Surplus
Total Shareholders’ 48,437.00 46,141.50 41,757.30 36,431.10 29,884.20
Funds
NON-CURRENT LIABILITIES
Long Term 0.00 0.00 0.00 0.00 0.00
Borrowings
Deferred Tax 598.40 564.00 558.90 466.20 194.30
Liabilities [Net]
Other Long Term 2,170.30 2,036.50 1,585.30 1,105.00 807.50
Liabilities
Long Term Provisions 51.60 39.50 26.50 21.90 14.80
Total Non-Current 2,820.30 2,640.00 2,170.70 1,593.10 1,016.60
Liabilities
CURRENT LIABILITIES
Short Term 106.30 149.60 110.80 483.60 77.40
Borrowings
Trade Payables 7,494.10 9,633.00 10,497.00 8,367.30 7,407.30
Other Current 3,014.80 3,743.30 4,274.30 3,926.50 3,155.60
Liabilities
Short Term Provisions 679.60 624.40 560.00 449.00 398.90
Total Current 11,294.80 14,150.30 15,442.10 13,226.40 11,039.20
Liabilities
Total Capital And 62,552.10 62,931.80 59,370.10 51,250.60 41,940.00
Liabilities
ASSETS
NON-CURRENT ASSETS
Tangible Assets 15,374.50 14,956.70 13,047.30 12,919.70 12,163.10
Intangible Assets 406.70 451.10 311.70 373.00 346.90
Capital Work-In- 1,337.40 1,600.10 2,125.90 1,252.30 1,006.90
Progress
Other Assets 0.00 0.00 0.00 0.00 0.00
Fixed Assets 17,118.60 17,007.90 15,484.90 14,545.00 13,516.90
Non-Current 35,248.80 31,469.50 34,072.90 26,302.20 18,875.40
Investments
Deferred Tax Assets 0.00 0.00 0.00 0.00 0.00
[Net]
332
 Case Studies
Long Term Loans 0.20 0.20 0.20 0.30 0.40
And Advances
Other Non-Current 1,757.10 2,092.60 1,890.70 1,626.90 1,701.30
Assets
Total Non-Current 54,124.70 50,570.20 51,448.70 42,474.40 34,094.00
Assets
CURRENT ASSETS
Current Investments 1,218.80 5,045.50 1,217.30 2,178.80 1,056.80
Inventories 3,214.90 3,325.70 3,160.80 3,262.20 3,132.10
Trade Receivables 2,127.00 2,310.40 1,461.80 1,199.20 1,322.20
Cash And Cash 21.10 178.90 71.10 13.80 42.20
Equivalents
Short Term Loans 16.90 16.00 3.00 2.50 147.80
And Advances
Other Current Assets 1,828.70 1,485.10 2,007.40 2,119.70 2,144.90
Total Current Assets 8,427.40 12,361.60 7,921.40 8,776.20 7,846.00
Total Assets 62,552.10 62,931.80 59,370.10 51,250.60 41,940.00
OTHER ADDITIONAL INFORMATION
CONTINGENT LIABILITIES, COMMITMENTS
Contingent Liabilities 12,955.50 12,090.30 10,181.20 9,642.10 9,368.70
CIF VALUE OF IMPORTS
Raw Materials 2,487.60 4,396.90 3,887.90 3,725.40 3,363.20
Stores, Spares, And 64.00 58.50 66.10 20.10 62.90
Loose Tools
Trade/Other Goods 64.00 58.50 66.10 20.10 62.90
Capital Goods 917.30 1,331.20 648.30 1,481.80 738.30
EXPENDITURE IN FOREIGN EXCHANGE
Expenditure In 9,099.00 12,802.70 3,872.50 0.00 3,792.60
Foreign Currency
REMITTANCES IN FOREIGN CURRENCIES FOR DIVIDENDS
Dividend Remittance -- -- -- -- 424.50
In Foreign Currency
EARNINGS IN FOREIGN EXCHANGE
FOB Value Of Goods -- -- -- -- 4,735.30
Other Earnings 5,424.60 5,218.60 5,455.90 -- 57.00
BONUS DETAILS
Bonus Equity Share -- -- -- -- --
Capital
NON-CURRENT INVESTMENTS
Non-Current 84.30 1,077.30 337.60 329.00 583.90
Investments Quoted
Market Value
Non-Current 34,775.70 30,609.10 33,041.90 25,606.20 18,404.60
Investments Unquoted
Book Value
CURRENT INVESTMENTS
333
Working Capital Current Investments -- -- -- -- --
Management:
Issues and Practices Quoted Market Value
Current Investments 1,218.80 5,045.50 1,217.30 2,178.80 1,056.80
Unquoted Book Value

Source: https://economictimes.indiatimes.com

15.5 FINANCING OF WORKING CAPITAL BY

COMMERCIAL BANKS: SBI
Introduction
Working Capital requirements of the companies are usually met by the
commercial banks in the form of cash, overdraft, and short-term Loans. There
is a particular method of financing industry by Banks. Way back in the
Nineteen Seventies and Eighties Tandon Committee (1974) and Chore
Committee (1979) and a few other Committees constituted by the RBI have
worked out methodologies in this regard. The same are being followed by the
Banks since then with little modifications. In effect, the extent and procedure
in respect of Financing of Working Capital are conditioned by the Guidelines
issued by the RBI from time to time. Since SBI is the biggest institution in
our banking industry, the case study is considered worth studying.

SBI Policies for Working Capital Finance

State Bank of India provides Working Capital Finance in various forms such
as Cash Credit, Demand Loan, Bill Financing, and Non-funded facilities. The
Bank staff assesses the working capital requirements of the industrial unit,
using all their knowledge, based on the risk profile, and working capital
cycle. Usually, working capital loans are sanctioned for less than a year. Yet
times, ad-hoc or temporary requirements of the borrowers are also taken into
account. Normally working capital loans given by SBI carry a floating rate of
interest linked to Situation, Background, Assessment, and Recommendation
(SBAR). The interest charged is based on the SBI Prime Lending Rate for
working capital finance. Short-term Loans sanctioned by the Bank are linked
to Short-Term Advance Rates (STAR). In addition, SBI also provides
financial assistance towards Bills Discounting, Export Credit, etc. It also
extends non-fund-based facilities such as Letters of Credit (LCs), Guarantees,
and Loans Syndication.

Asset-Based Loan (ABL) is a new facility offered to MSME firms that are
covered under MSMED Act, 2006. The ABLs are provided to all kinds of
Manufacturing and Service Units, covering wholesale, retail, trade
professionals and self-employed. Usually, the period of repayment will be 96
months. There is also a facility called Drop line OD, which can be sanctioned
for periods ranging from 12 months to 18 months – with either equated
reduction in limit or customized reduction in limit. Keeping in view the given
trends in the business and industry, SBI is providing varied types of loans,
which included working capital. A few of them spread to purposes like
Export Packing Credit, Cotton Ginning Plus, Fleet Finance, E-dealer Finance
Scheme, E-Vendor Finance Scheme, PM Mudra Yojana, Lease Rental
334
Discounting, SME E-Biz Loan, Simplified Small Business Loan, Stand-up Case Studies

India, SME Smart Score, SME Credit Card, Warehouse Receipt Finance,
Finance to Food Processing Industry, Loans to Business Correspondents, SBI
Exporters’ Gold Card Scheme, etc. SBI’s Portfolio of working capital loans
is so diverse and innovative, reflecting the pooled experience of a large
reservoir of professionals.
The swift actions of the SBI received wide acclaim during Covid-19 times,
for taking measures to process and disburse working capital loans within 5
days. The finance minister has stated, in this regard, that about 45 lakh
industrial units had got benefitted from this measure. SBI has directed the
Branch Managers to release funds in time by taking into account the difficult
times.

The loan portfolios of SBI for MSME include the following:

• Loans under PMMY (MUDRA) and Stand-up India
• Asset-Backed Loan (ABL)
• ABL for Commercial Real Estate
• SBI Open Term Loan
• SME Collateral Free Loan under CGTMSE
• SME Asset – GST Receivables
• Standby Line of Credit
• Simplified Cash Credit

SBI also has the distinction of being the only Bank, having established a
special delivery mechanism for sanction and disbursement of working capital
loans. These included the establishment of a Centralized Processing Cell for a
quick assessment, sanction, and disbursal and appointment of Relationship
Managers for different categories of MSMEs to provide customized products
and services.

Working Capital Finance is a requirement of every business unit, including

large firms. But the manner of providing working capital finance to large
firms would be something different. Generally, these requirements are met by
a consortium of Banks or through Social Banking. Under this process,
usually, there will be a ‘Lead Bank’ and other banks join as associates.
During the Covid-19 times, it is observed that even large companies
approached Banks for meeting their current liabilities like paying for material
purchases, payment of wages, meeting energy requirements, etc. Thus,
working capital finance is the ‘life blood’ for running the wheels of business
and industry.

RBI Guidelines for Working Capital Finance

Regarding the provision of finance by commercial banks for working capital
requirements, RBI has been issuing Advisories to Commercial Banks from
time to time. These are the nature guidelines to be followed by the banks for
ensuring sound banking practices. A major Advisory was issued in 2005 and
got it revised in July 2009. As per these guidelines, banks are required to
335
Working Capital follow the procedure mentioned below:
Management:
Issues and Practices  The assessment of working capital requirements is to be made based on
projected annual turnover in the case of Working Capital Limits (WCL)
up to Rs.1.00 crore and up to Rs.5.00 crore for SSI units.
 Based on the above assessment, 20% of the projected turnover is
financed by Banks, and 5% is contributed by the borrower.
 Drawls against the Working Capital Limits (WCL) should be need-based
and properly checked by the Bank.
 Maximum Permissible Bank Finance (MPBF) rules based on the
recommendations of the Tandon Committee were completely withdrawn.
Now Banks are free to follow their procedures in assessing the actual
working capital needs of the firms and accordingly fix Working Capital
Limits.
 Freedom is given to Banks to fix norms for individual Current Assets
holdings and accordingly decide Working Capital Limits.
 Banks may also consider sanctioning Ad-hoc credit limits, if satisfied,
and if the borrower has exhausted the original limits.
 In December 2018, RBI has issued separate guidelines to banks in case
of corporates having Working Capital Limits above Rs.150 crore. These
rules are intended to enhance credit discipline among large borrowers.
 As per the above, these large borrowers have to avail of 40% of their
Working Capital Limits as a Working Capital Demand Loan (WCDL).
The remaining 60% may be in other forms like cash credit, OD, etc. This
demand loan will be for a specified period varying from 7 days to 1 year.

The magnitude of Working Capital Financing

To know the extent of working capital funding extended by the SBI, the latest
balance figures are verified. As per the same by March 31, 2020, the total
capital, and liabilities of SBI stood at Rs.39,51,394 crore. The advances of
the bank stood at Rs.23,25,290 crore. Of these Advances, Cash Credits,
Overdrafts, and Loans repayable on demand accounted for about 30.48
percent at Rs.7,08,726 crore. Similarly, the bills purchased accounted for
about 3.61 percent. Similarly secured loans against inventory, book debts,
etc. also constituted a significant portion at 71.99 percent at Rs.16,73,925
crore. Of course, a majority of them may be against fixed assets which may
include land, buildings, machinery, etc. Nevertheless, the loan portfolio of the
Bank clearly shows the significance of the working Capital Finance Extended
to Trade and Industry (see Annexure-1).

Questions
1) Looking into the Case Study of SBI, what kind of Working Capital
Finance policies and practices do you suggest to other Banks?

2) Should the RBI have any control over Commercial Banks in the matter
of Financing Working Capital?

3) Keeping in view the significance of working capital to industry and the

336 Loan Portfolio of Banks, what financing strategies do you recommend?
 Case Studies
Annexure-1
Advances are given by SBI during Financial Year 2019-20
(000s omitted)
As at As at
31.03.2020 31.03.2019
(Current (Previous
Year)Rs. Year)Rs
A. I. Bills purchased and discounted 84017,46,96 80278,87,21
II. Cash credits, overdrafts, and 708726,92,91 776633,45,81
loans repayable on demand
III. Term loans 1532545,16,20 1328964,58,75
TOTAL 2325289,56,07 2185876,91,77
B. I. Secured by tangible assets 1673925,40,51 1582764,41,50
(includes advances against Book Debts)
II. Covered by Bank/ Government 92117,72,36 80173,16,17
Guarantees
III. Unsecured 559246,43,20 522939,34,10
TOTAL 2325289,56,07 2185876,91,77
C. (I) Advances in India
(i) Priority Sector 526675,87,35 520729,77,60
(ii) Public Sector 287504,28,69 240295,89,39
(iii) Banks 812,52,23 9174,06,50
(iv) Others 1154187,79,39 1114 679,73 ,28
TOTAL 1969180,47,66 1884879,46,77
(II) Advances Outside India
(i) Due from Banks 80372,75,07 69975,74,47
(ii) Due to Others
(a) Bills purchased and discounted 31091,11,08 26740,94,1
(b) Syndicated Loans 172482,45,21 138191,25,40
(c) Others 7 216 2 ,7 7, 0 5 66089,51,02
Total 356109,08,41 300997,45,00
Grand Total [C (I) and C (II)] 2325289,56,07 2185876,91,77

Source: www.sbi.co.in

Annual Report of 2019-20 of SBI

337