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Impact of Deviation on Projected Sales of Working Capital Requirements

OBJECTIVES

The main objectives of the project on “Impact of Deviation on Projected Sales of

Working Capital Requirements” of Sundram Fasteners Limited are:-

To study of working capital management of the company

To study on liquidity and solvency of the company

To study on efficiency and profitability of the company

To analyze the comparative income statement and comparative balance sheet

of the company

To offer suggestion, findings, conclusion for the working capital

To determine the adequate or optimum quantum of investment in working

capital of Sundram Fasteners Limited.

To determine the composition or structure of current assets.

To maintain a proper balance between liquidity & profitability.

To maintain a proper the policy or means of finance for current assets.




SCOPE OF THE STUDY

The scope of the study is to assess the liquidity, solvency and profitability position of the agreenco fibre foam pvt limited, the liquidity and solvency position of the firm is

analyzed using ratios,comparative income statement and comparative balance sheet.

The study is conducted mainly to review the financial strength of the company and

analysis was done by considering past five years data.




LIMITATIONS OF THE STUDY

The information given in the annual report are taken as the basis of

the study, which are subjected to the corrections and accuracy of the data.

The data for the study has been obtained from secondary sources an

hence the limitations of the secondary data apply to them.

The limitations of the techniques used , namely ratio analysis, gross

working capital and networking capital and schedule of changes in working to

analysis and interpret the data are applicable to the study.

The time period was limited to six weeks.

The reality and accuracy of calculations depend on the information

found in the balance sheet of the company




INTRODUCTION TO THE STUDY

Working capital is the life blood and nerve centre of a business. Just as circulation of

blood is essential in the human body for maintaining life, working capital is very essential to

maintain the smooth running of a business. No business can run successfully without an

adequate amount of working capital. The first step in developing a financial management

system is the creation of financial statements. To manage proactively, you should plan to

generate financial statements on a monthly basis. Financial statements are formal records of

the financial activities of a business, person, or other entity and provide an overview of a

business or person's financial condition in both short and long term. They give an accurate

picture of a company’s condition and operating results in a condensed form. Financial

statements are used as a management tool primarily by company executives and investor’s in

assessing the overall position and operating results of the company.

Financial analysis is the systematic numerical calculation of the relationship of one

financial fact with the other to measure the profitability, operational efficiency solvency and

growth potential of the business. The analysis serves the interest of shareholders, debenture

holders, potential investors, creditors, bankers; taxation authorities and economists. The

analysis of the financial statements make it simple, intelligible and meaningful for all the

concerned parties.

Financial analysis is in this way is the purposeful and systematic and presentation of the financial statements. Various item of income and position statements are and their inter-

relationship is established. The use of financial analysis is made to measure the profitability,

efficiency and financial soundness of the business, to make comparative studies and effective

future plans.




Financial statement is prepared at a certain point of time according to established

convention .These statements are prepared to suit the requirements of the proprietor. It is,

therefore, necessary to analyze financial statements to measure the efficiency, profitability,

financial soundness and future prospects of the company.

Working capital

Capital required for a business can be classified under two main categories is

1. Fixed capital

2. Working capital

Working capital means the excess of current assets over current liabilities. Every business

needs funds two purpose for its establishment and to carry out its day to day operations. As

Working Capital = Current assets – Current Liabilities

In the words of shubin “working capital is the amount of funds necessary to cover the

cost of operating the enterprise”.

According to GENESTENBERG, “Circulating capital means current asset of a

company that are changed in the ordinary course of business from one form to another as for

example, from cash to inventories, inventories to receivables, receivables into cash”.

Importance of working capital

Working capital is the life blood and nerve centre of a business. Just as circulation of

blood is essential in the human body for maintaining life, working capital is very essential to

maintain the smooth running of a business. No business can run successfully without an

adequate amount of working capital. The main advantages of maintaining adequate amount

of working capital are as the follows;

Solvency of the business

Goodwill




Easy loans

Cash discounts

Regular supply of wages and other day to day commitments.

Exploitation of favorable market conditions

Ability to face crisis

Quick and regular return on investments

Working capital management

Working capital may be regarded as lifeblood of the business. Its effective sprovision

can do much to ensure the success of a business. Its inefficient management can lead to loss

of profits but also to the downfall of business.

Working capital is a major importance to internal to external analysis because of its

close relationship with the current day to day operations of a business. Funds are also needed

for short term process for the purchases of row materials, payments of wages and other day

to day expenses ect., it also know as revolving or circulating capital or short term capital.

Concepts of working capital

Gross Working Capital

The term working capital refers to the gross working capital. This represents the

amount of invested in current asset under the gross concept. Working capital is equal to total

current assets.

Net Working Capital

In a narrow sense, working capital refers to the net working capital. It is the excess of

current assets over current liabilities.

Types of working capital




Permanent working capital

Permanent or fixed working capital is the minimum amount required to ensure

effective utilization of fixed assets and support the normal operations of the business. There

is always a minimum level of current assets which is continuously required by the enterprise

to carry out its normal business operations.

Temporary or variable working capital

It is the amount of working capital keeps on fluctuating from time to time on the

basis of business activities is called as temporary or variable working capital.

• Seasonal working capital

• Special working capital

NEED FOR WORKING CAPITAL

• The purchase of row materials, spares and components parts

• To pay wages and salaries

• To incur day to day expenses.

• To meet selling costs such as packing, advertising

• To provide credit facilities to customers.

• To main inventories of row material, work in progress and finished

stock.

CONSTITUTION OF WORKING CAPITAL

WORKING CAPITALCURRENT ASSETS CURRENT LIABILITIES

Cash Short-term debt

Marketable securities Current portion of long term debt

Accounts receivable Accounts payable

Inventory Accrued liabilities




Prepaid expenses

FORMULA FOR WORKING CAPITAL

Working capital = current assets-current liabilities

CURRENT ASSETS;

Cash in hand

Cash at bank

Short term loans advances

Sundry debtors

Inventory such as row materials, working progress, finished goods

Prepaid expenses

Accrued income

CURRENT LIABILITIE

Bills payable

Sundry creditors

Accounts payable

Short term borrowing

Dividend payable

Bank over draft

Statutory liability

Outstanding expenses




WORKING CAPITAL REQUIRMENT

Working capital requirement should be made advance so that arrangement can

be made to procure adequate working capital. The estimation of working capital requirement

is not an easy and a large number of factors have to be considered before starting this

exercise.

Total cost incurred on material, wages and over heads.

The length of time for which raw material are to remain in stores

before they are issued for production.

The length of production cycle or work in process, that is the time

taken for conversion of raw materials into finished goods.

The length of sales cycle during which finished goods are to be kept

waiting for sales.

The average period of credit allowed to customers.

The amount of cash required to pay day to day expenses of the

business.

The average amount of cash required to make advance payment.

The average credit period expected to be allowed by suppliers.

Time lag in the payment of wages and other expenses.

RATIO ANALYSIS

Ratio analysis is a technique of analysis and interpretation of financial statements. It

is the process of determine and interpreting various ratio for helping in making certain

decision.

MEANING




A ratio is a mathematical relationship between two items expressed in a quantitative

form. Ratio analysis is a technique of analysis and interpretation of financial statements.

DEFINITION

“Ratio analysis is the process of determining and presenting the relationship of items

and groups of items in the financial statements”.

USES AND SIGNIFICANCE OF RATIO ANALYSIS

The ratio analysis is one of the most powerful tools of financial

analysis.

It is used as a device to analyze and interpret the financial health of

enterprise.

The use of ratio is not confined to financial managers only but also

used by parties who are interested in the ratio analysis for knowing the financial

position of the firm for different purpose.

The supplier of goods on credit, banks, financial institutions,

investors, shareholders and management all are use ratio analysis as a tool in

evaluating the financial position and performance of a firm for granting credit,

providing loans or making investments in the firm.

With the use of ratio analysis one can measure the financial condition

of a firm and also make decision regarding whether the performance of the firm is

improving or determining.

LIMITATIONS OF RATIO ANALYSIS

Limited use of a single ratio

Lack of adequate standards

Inherent limitations of accounting




Changes of accounting procedure

Personal bias.

Absolute figure decorative.

CLASSIFICATION OF RATIOS

Ratio analysis helps to summarize the large quantities of financial data. It helps to make

quantitative judgments about the firm’s financial position.

Ratios are classified as:

Short term solvency ratio

Long term solvency ratio

Profitability ratios

Activity or turnover ratios

SHORT TERM SOLVENCY RATIOS

This ratio is also called as liquidity ratios. This is used to measure the ability of the

concern to meet its current obligations. The short-term obligations are met by realizing

amounts from current, floating or circulating assets. The current assets should either be

liquid or near liquidity. These assets should be convertible into cash for paying obligations of

short term nature. The sufficiency of current assets should be assessed by comparing them

with short term liabilities.

1. Current Ratio

2. Quick Ratio

CURRENT RATIO

Current ratio defined the relationship between current assets and current liabilities.

This concept is also similar to calculating the working capital. It is a tool used to measure the

short term solvency of the business by calculating division of current asset divided by current




liabilities. A current ratio of 2:1 is considered as ideal. If the ratio is more than two, it is a

indicator of ideal finds.

QUICK RATIO

It is also known as acid test or liquid test ratio because it is the acid test of concerns

financial soundness. It is more rigorous test of liquidity then the current ratio. The term

liquidity refers to ability of a firm to pay its short-term obligations as when they become due.

The standard norm is 1:1.

LONG TERM SOLVENCY RATIOS

The term ‘solvency’ refers to the ability of a concerns to meet its long term indebtedness

of a firm includes debenture holders, financial institution providing medium and long term

loans and other creditors selling goods on installment basis.

According to long term solvency ratios, its indicating that the firms ability to meet

the fixed interest, cost and repayment schedules associated with its long term borrowings.

The long term ratios are;

1. Debt-Equity Ratio

2. Proprietary Ratio

1. DEBT-EQUITY RATIO

It is also known as external-internal equity ratio. It is used to measure the relative

claims of outsiders and the owners against the firm assets. This ratio indicates the

relationship between the external equities or the outsider’s funds and internal equities or the

shareholders funds.

2. PROPRITARY RATIO

A variant to the debt-equity ratio is the proprietary ratio which also known as equity

ratio or shareholders to total equities or net worth to total asset ratio. The ratio establishes the

relationship between shareholders funds to total assets of the firm




PROFITABILITY RATIO

The primary objectives of a business to earn profits. Profit earning is considered

essential for survival of business. Lord Keynes defines, “profit is the engine that drives the

business enterprise”. A business needs profits not only for its existence but also for

expansion and diversification. The profitability ratios are:

• Gross Profit Ratio

• Net Profit Ratio

• Operating Ratio

•

Return On Capital Employed

GROSS PROFIT RATIO

This ratio expresses the relationship between gross profit and net sales. It indicates the

efficiency of production or trading operations. A high gross profit ratio is a sign of good

management as it implies that the cost of production is relatively low.

NET PROFIT RATIO

This ratio measures the relationship between net profit and net sales. It indicates the

efficiency of the overall operations of the firm. An increase in net profit ratio year after year

is an indication of improving working condition and vice versa.

OPERATING RATIO

Operating ratio matches cost of goods sold and other operating expenses with sales. A

lower ratio is more favorable as it would leave a higher margin for operating profit.

Operating expenses include selling and distribution expenses and administration expenses.

RETURN ON CAPITAL EMPLOYED

Return on capital employed ratio establishes the relationship between profits and

the capital employed. It is most widely used to measure the overall profitability and

efficiency of the business.




ACTIVITY TURNOVER RATIOS

Activity ratios measure the efficiency of asset management. Activity ratios the

relationship between sales and various assets of the firm . The activity ratios are:

1. Stock turnover ratio

2. Debtors turnover ratio

3. Creditors turnover ratio

4. Fixed assets turnover ratio

1. STOCK TURNOVER RATIO

This ratio is also called as ‘Inventory’ ratio. This ratio indicates the number of times

stock is turned over or re-placed during a year. A high ratio indicates quick movement of stock and vice versa.

2. DEBTORS TURNOVER RATIO

Debtor’s turnover ratio indicates the velocity of debt collection of firm. In simple

words, it indicates the number of times average debtors are turned over during a year. This

ratio establishes the relationship between net sales of the year and average receivables. The

higher ratio indicates efficiency in asset management and vice versa. This ratio is also called

as “average collection period”.

3. CREDITORS TURNOVER RATIO

This ratio shows on an average, the number of times creditors are turned over during a

year. The analysis for creditors turnover is basically same as of debtors turnover ratio except

that in the place of trade debtors. A higher value indicates quick settlement of dues and a

lower ratio reflects liberal credit term granted by suppliers. This ratio is also called as

“Average Payment Period”.

4. FIXED ASSETS TURNOVER RATIO




Fixed asset turnover ratio explains the relationship between sales and fixed assets.

This ratio indicates the sales generated by every rupee invested in fixed assets. A higher ratio

is an indicator of greater efficiency.

STATEMENT OF THE PROBLEM

Working capital is the life blood of the business. Every business needs fund for

two purposes, one for establishment and the other to carry out the day to day operations.

It needs some amount of working capital to meet daily obligations. The need for working

capital arises due to the time gap between the production and realization of cash from

sales. Working capital management is concerned with the problems that arise in

attempting to manage current assets, the current liabilities and interrelationship that exists

between them. Effective and efficient working capital management of a firm has to great

effect on its profitability, liquidity, and structural health of the organization.

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