Shasank

H G S APPARELS PVT. LTD.
INTRODUCTION TO FINANCE
It would be worthwhile to recall what Henry ford once remarked.”
money is an arm or a leg; you either can use it or lose it”. This statement
throws light on the significance of money or finance. A budding concern
may need a small amount of money and yet it may be difficult for it to
commence business simply because it is not in the position to get
required funds. A firm’s success and survival mainly depends upon its
ability to generate sufficient funds when need arises. Finance holds the
key to all the activities. The role of financial manager, that is, the one
who is incharge of the finance function, is difficult because he has to play
that role and relate it to the role of other managers.
DEFINITIONS OF FINANCE
Ray G. Jones and Dean Dudley observe that the word finance
comes indirectly from the Latin word Finis. Finance is defined as the
issuance of the distribution of and the purchase of liability and equity
claim issued for the purpose of generating revenue-producing assets.
These claims are commonly referred to as financial claims.
According to Paul.G.Hasings. ”Finance” Is the management of the
monitory affairs of the company. It includes determining what has to be
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paid for and when, raising the money on the best terms available, and
devoting the available funds to the best uses. Kenneth Midgely and
Ronald Burns define financing as “a process of organizing the flow of
funds so that a business can carry out its objectives in the most efficient
manner and meet it’s obligations as they fall due”.
FINANCE FUNCTIONS
Finance function is a task of providing the funds required by an
enterprise on the terms most favourable to it in the light of the objectives
of the business. This long-held concept has the merit of highlighting the
core of the finance function keeping the business the most suitable way
and, on the best possible terms, is the central part of the finance supplied
with enough funds to accomplish its objectives. Getting the required
funds in job.
Finance presents itself in a broad spectrum of activities. There are a
number of basic functions underlying finance. It is an essential, and at the
same time a very distinct, segment of the overall managerial function. It
is the lifeblood of any business activity and no business function can be
discharged without it. Finance must be used judiciously. It has to be
systematically controlled and regulated so that it may contribute to the
different functions of business administration. If the finance function is
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properly blended with production, marketing, personnel, accounting and
other business functions, the wastage of funds can be avoided.
FINANCIAL PLANNING
In simple words financial planning means deciding well in advance
as to how much finance is required, when is it required, what are the
sources through which finance is available and how should it be put to
use, so as to obtain organizational objectives. The aim in financial
planning should be to match the needs of the companies with those of
investors with a sensible gearing of short term and long-term interest
securities.
Financial planning helps the financial manager to see the financial
situations clear of stress and strains and to develop a deep insight-an
essential prerequisite for financial stewardship. The importance of
financial planning lies essentially in the fact that it enables the financial
manager to develop a diagnostic skill of analyzing complex situations and
arriving at suitable solutions.
STEPS INVOLVED IN FINANCIAL PLANNING
The various steps involved in financial planning are as follows:
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1. Establishing objectives: Every business enterprise will have to
establish it’s financial objectives. It will have to state how much
capital is employed in various factors of production over the long
run and how much productivity can be ensured through the
employment those factors. It would be necessary for every business
enterprise to stipulate both short-run and long run objectives so that
it may operate in a dynamic society.
2. Policy formulation: financial policies will have to have a thrust on
following policies:
• Governing the amount of capital required for the firm to
achieve the financial objectives.
• Determining the control by the parties who furnish the
capital. For example, if debt exceeds in unassuming
portions, it would obviously mean dilution of control.
• Acting as a guide in the use of debt or equity capital. For
example, the business enterprise will have to state clearly its
plans about the debt-equity proportions.
• Guiding management in the selection of the source of funds.
This also means the financial plans should state which
source of funds should be drawn upon by a business
enterprise in various time phases.
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2. Forecasting: forecasting is usually done on the basis of facts; but
facts do not become readily available, more particularly when they
are addressed to the future. In that case, financial management will
have to forecast the future predicting the variability of the factors
influencing the type of policies the enterprise intends to formulate.
3. formulation of procedures: policy for formulation must
invariably be backed up by suitable procedures, for financial
policies procedures which are broad guidelines which must be
capable of being translated into detailed procedures. Very often,
there is a gap between financial plans and h results in chaotic
conditions in a business enterprise. Financial managers often take
shelter under the plea that the right type of procedures are not
available to support the accomplishment of the goals and objectives
of the firm, where as the chief executives grumble over the short
comings inherent in the procedures because they are not able to
accomplish the plans by reason of the fact that procedures do not
support financial plans. It should be remembered that financial
planning must take care of procedures and if necessary, must be
fully imported into financial policies.
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Factors to be considered while estimating financial requirements.
• Cost of finance.
• Availability of funds.
• Repayments.
• Interest.
• Position of assets.
• Control.
• Risk.
• Seasonality.
• Estimating costs of other functions.
• Fixed assets requirements.
• Expenditure on current assets.
• Budgetary appropriations.
• Distribution system.
• Break-even.
• Provision for contingencies.
INTRODUCTION TO WORKING CAPITAL
Empirical observations show that the financial managers have to
spend much of their time to the daily internal operations relating to
current assets and current liabilities of the firms. As the largest portion of
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the manager’s time is devoted to working problems, it is necessary to
manage working in the best possible way to get maximum benefit. The
effective management of the business, among other things primarily
depends upon the manner in which the short-term assets and short run
sources of financing are managed. The management or current assets
management consists of inventories, accounts receivable and cash & bank
balances as the major components. There is a difference between current
assets and fixed assets in terms of their liquidity. A firm requires many
years to recover the initial investments in fixed assets such as plant and
machinery and land and buildings. On the contrary, investments in
current assets are turned over many times a year. Investments in current
assets such as inventories and book debts are realized during the firm’s
working capital cycle, which is usually less than a year. Working capital
is that proportion of a company’s total capital, which is employed in
short-term operations.
Even though, it is one segment of the capital structure of a
business, it constitutes an inter-woven part of the total integrated business
system. Therefore, neither it can be regarded as an independent entity,
nor, can the working capital decisions be taken in isolation. Thus, a study
in this field is of major importance to both internal and external analysis,
for it’s close relationship with the day-to-day operations of a business.
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There are many aspects of working capital management, which
form an important function of a financial manager:-
• Working management represents a large portion of the firm’s
investment in assets.
• Working management has greater significance not only for small
firms but also for large firms.
• The need for working capital is directly related to sales growth.
Most of the work dealing with working capital management in
confined to the balance sheet, which is directed towards optimizing the
levels of cash and marketable securities, receivable and inventories. For
the most part, optimization of these current assets is isolated from the
optimization of the other current assets and the overall valuation of the
firm.
The decision concerning cash and resources, receivable,
investments and current liabilities is with an objective of maximizing the
overall value of the firm. Once decisions are reached these areas, the
levels of working capital are also reduced.
An appropriate level of working capital is to be maintained as the
excessive working capital interrupts the smooth flow of the business
activity and curbs profitability. Also, there are a lot of circumstances
where shortage of working capital has proved to be the major factor for
business failure. Operating plans are out of control and the corporate
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objectives get blurred. The suppliers and the creditors give the firm an
adverse credit rating and tighten up credit terms.
The problem of managing working capital has got a separate entity
as against different decision-making issues concerning current assets
individually. Working capital has to be regarded as one of the
conditioning factors in the long run operations of a firm, which is often
inclined to treat it as an issue of short-run analysis and decision-making.
The management of working capital hence involves constant vigilance to
ensure that the right quantum is available on a continuing basis to support
and promote the activities. Sound financial and statistical techniques,
supported by judgment, should be used to predict the quantum of working
capital needed at different time periods.
DEFINITIONS OF WORKING CAPITAL
Working capital has been in several ways as given below.
Operating capital: - As the working capital is the capital required to
operate the business and is the capital invested in the current assets,
it is called as operating capital.
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Circulating capital: - Interchangingly used word for working is
circulating capital. Gerestenberg gas suggested this item ‘circulating
capital’ as all the assets of business change from one form to another.
CONCEPTS OF WORKING CAPITAL
Conceptually, working capital is either explained as:- Net Working
Capital or Gross Working Capital. These concepts are not exclusive;
rather they have equal significance from management viewpoint. Gross
working capital refers to the firm’s investment in current assets. Net
working capital refers to the difference between current assets and current
liabilities.
GROSS WORKING CAPITAL CONCEPT
It is called as ‘qualitative’ aspect of working capital and focuses
attention on two aspects of current assets management: -
1. Optimum investment in current asset
It is conventional rule to maintain the level of current assets
twice the level of current liabilities to constitute a margin or buffer
for maturing obligation of a business.
2. Financing of current asset
Another aspect of gross working capital points to the need of
arranging funds to finance current assets.
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NET WORKING CAPITAL CONCEPT
Net working capital can be positive or negative. A positive net
working capital will arise when current assets exceed current liabilities. A
negative net working capital mean excess current liabilities over current
assets.net working capital being the difference between current assets and
current liabilities, is ‘qualitative’ concept and hence it: -
1. Indicates the liquidity position of the firm: - A weak liquidity
position poses a threat to solvency of the company and makes it
unsafe and unsound.
2. Suggests the extent to which working capital needs may be
financed by permanent sources of funds:- i.e., it covers the
question of judicious mix of long term and short term funds for
financing current assets. Thus, it may be emphasized that both
gross and net concepts of working capital are equally important for
the efficient management of working capital.
NEED FOR WORKING CAPITAL FINANCE
The need for working capital finance is over-emphasized. Every
business needs some amount of working capital. The need for working
capital arises due to the time gap between production and realization of
cash from sales. There is an operating cycle involved in the sales and
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realization of cash. There are time gaps between purchase of raw
materials & production, production & sales and realization of cash. Thus,
working capital is needed for the following purposes.
• For the purpose of raw materials, components and spares.
• To pay wages and salaries.
• To incur day-to-day expenses and overhead costs such as
fuel, power and office expenses, etc.
• To meet the selling costs as packing, advertising etc.
• To provide credit facilities to the customers.
• To maintain the inventories of raw materials, work in
progress, stores
• And spares and finished stock.
OPERATING CYCLE
Operating cycle indicates the length of time between firm’s paying
for materials entering into stock and receiving the cash from sale of
finished goods. In other words, the duration of the required time to
complete the sequence of events is called operating cycle. The operating
cycle may take the following sequence:
1. In a manufacturing concern
• Conversion of cash into raw materials.
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• Conversion of raw materials into work in progress.
• Conversion of work in progress into finished goods.
• Conversion of finished goods into debtors.
• Conversion of debtors and bills receivables into cash.
The following figure shows the operating cycle of a manufacturing
concern.
Cash Raw materials
Accounts receivable Work in progress

(or) Work in process
Finished goods
2. In a trading concern
a) Cash into inventories
b) Inventories into debtors and bills receivables
c) Debtors and bills receivables into cash
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The following figure shows the operating cycle of a trading
concern
Account receivables
Cash
Inventories
TYPES OF WORKING CAPITAL
The working capital is classified in to two types. They are
I. Permanent working capital
II. Temporary working capital
• Permanent working capital:
Permanent or fixed working capital is the minimum amount,
which is required to ensure effective utilization of fixed facilities
and for maintaining the circulation of current assets. This
investment if of a permanent type and as the size of the firm
expands, the requirement of working capital also increases.
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• Temporary working capital:
Temporary working capital is also called as the fluctuating or
variable working capital, which varies according to the problem
and sales. It is the capital required in addition to the working
capital.
• Net working capital:
It is the difference between current assets and liabilities. It is the
excess of current assets over current liabilities. This concept
enables a firm to determine the exact amount available at its
disposal for operational requirements.
• Gross working capital:
It refers to the total current assets of the business. It is also
known as circulating capital, because the current assets are rotating
in their nature.
• Negative working capital:
When a current liability exceeds current assets, it is called as
negative working capital.
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NEED FOR MAINTENANCE OF ADEQUATE WORKING
CAPITAL
An adequate or optimum working capital balance refers to the
desired working capital where a firm will not have excess or shortage of
working capital and indicates both profitability and liquidity for the firm.
It is necessary to maintain an optimum cash balance, an optimum level of
inventory and an optimum level of debtors and receivable.
DANGERS OF EXCESS WORKING CAPITAL
• It results in unnecessary accumulation of inventory in the form of
raw material or work in progress or finished goods, leading to a high
cost of storage, space, Insurance, increased theft, deterioration in the
quality of goods, etc.
• Also, it is an indication of defective credit policy and slack
collection period.
• Excess cash in hand indicates idle cash and even though the
liquidity position of the company is good, it lacks profitability.
• Excessive working capital makes the management complacent,
which degenerates into managerial inefficiency.
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DANGERS OF INADEQUATE WORKING CAPITAL
• The production process will be obstructed if there is shortage of
working capital.
• Fixed assets are not efficiently utilized if there is lot of working
capital funds, which leads to deterioration in profits.
• The firm loses its reputation when it is not in a position to honor its
short-term obligations.
• Ultimately it leads to the reduction in sale, as the firm cannot meet the
demand of the customers.
EFFECT OF INADEQUATE WORKING CAPITAL ON DECISION
MAKING:-
1) Stagnates the growth of the firm,
2) Threatens the solvency of the firm,
3) Creates difficulties in implementing the operating plans,
4) Renders the firm unable to avail the attractive credit opportunities
EFFECTS OF EXCESS WORKING CAPITAL ON DECISION
MAKING
 Impairs firm’s profitability through idle cash and
 Makes dividend policy liberal,
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 Creates difficulties to cope with the future, on the failure of the
estimated speculative profits.
IMPORTANCE OF WORKING CAPITAL
Even though the skills for maintaining the working capital are somewhat
unique, the goals are the same-viz. to make an efficient use of funds for
minimizing the risk of loss to attain profit objectives.
Firstly, the adequate of working capital contributes a lot in raising
the credit-standing of a corporation in terms of favorable rates of interest
on bank loan, better terms on goods purchased, reduced cost of
production on account of the receipt of cash discounts, etc.
Secondly, a company with sufficient working capital is always in a
position to take the advantage of any favorable opportunity either to
purchase raw materials or to execute a special order or to wait for better
market position.
In the third place, the ability to meet all reasonable demands for
cash without inordinate delay is a great psychological factor to improve
the all rounds efficiency of the business.
Lastly, during slump the demand for working capital, instead of
coming down, shoots up. A good amount of working capital is locked up
in the inventories and book debts. Concerns having ample resources can
tide over that period of depression.
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Thus, working capital is regarded as one of the conditioning factors
in the long run operations of the firm, which is often inclined to treat it as
an issue of short run analysis and decision making.
FACTORS INFLUENCING WORKING CAPITAL
 Nature of business
The working capital requirement of a firm basically depends upon
the nature of it’s business public utility undertakings like electricity,
water supply and railways need very little working capital because they
offer cash sales only and supply services, not products and such no funds
are tied up in inventories and receivables. The manufacturing
undertakings also require sizable working capital along with fixed
investments because they have also to build up inventories.
 Size of business
The working capital requirements of a concern are directly
influenced by the size of its business, which may be measured in terms of
scale of operations. Greater the size of business unit, generally, larger will
be the requirements of working capital. However in some cases, even a
smaller concern may need more working due to high overhead charges,
inefficient use of available resources and other economic disadvantages
of small size.
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 Production capacity
In certain industries the demand is subject to wide
fluctuations due to seasonal variations. The requirements of working
capital in such cases depend on the production policy.
 Manufacturing process
In manufacturing business the requirements of working
capital increase in direct proportion to length of manufacturing process.
Longer the process period of manufacture, larger is the amount of
working capital required.
 Seasonal variations
In certain industries, raw material is not available through out the
year. They have to buy raw materials in bulk during the season to ensure
an uninterrupted flow and process them during the entire year. A huge
amount is, thus, blocked in the form of material inventories during such
season, which gives rise to more working capital requirements.
 Working capital cycle
In a manufacture concern, the working capital starts with the
purchase of raw materials and ends with the realization of cash from the
sale of finished products. The speed with which the working capital
completes one cycle determines the requirements of working capital.
Longer the period of cycle, larger is the requirement of working capital.
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 Rate of stock turn over
There is a high degree of inverse correlation ship between
the quantum of working capital and the velocity or speed with which the
sales are affected. A firm having as high rate of stock turnover will need
lower amount of working capital as compared to a firm having a low rate
of turnover.
 Credit policy
The credit policy of a concern in its dealings with debtors
and creditors influences considerably the requirements of working
capital. A concern that purchases its requirements on credit sells its
products/services on cash requires lesser amount of working capital.
 Business cycle
Business cycle refers to alternate expansion and contraction
in general business actively. In a period of boom i.e., when the business is
prosperous, there is a need for larger amount of working capital due to
increase in sales, rise in prices, optimistic expansion of business, etc. on
the contrary, in the times of depression i.e., when there is a down swing
of the cycle, the business contracts, sales decline, difficulties are faced in
collections from debtors and firms may have a large amount of working
capital lying idle.
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 Rate of growth of business
The working capital requirements of a concern increase with
the growth and expansion of its business activities.
 Earning capacity and dividend policy
Some firms have more earning capacity than others due to
quality of their products, monopoly conditions, etc. such firms with high
earning capacity may generate high cash profits from operations and
contribute to their working capital. The dividend policy of a concern also
influences the requirement of its working capital.
 Price level changes
Changes in the price level also affect the working capital
requirements. Generally, the rising prices will require the firm to
maintain larger amount of working capital, as more funds will be required
to maintain the same current assets. The effect of rising prices will be
different for different firms. Some firms may be affected much while
some may not be affected at all by the rise in prices.
 Other factors
Certain other factors such as operating efficiency,
management ability, irregularities of supply, import policy, asset
structure, importance of labour, banking facilities, etc., also influence the
requirements of working capital.
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SOURCES OF WORKING CAPITAL
The various of working capital for the financing of working capital are as
follows:
Sources of working capital
Permanent or fixed Temporary or variable
1) Shares 1) Commercial banks
2) Debentures 2) Indigenous bank
3) Public deposits 3) Trade credits
4) Ploughing back of profits 4) Installment credit
5) Loans from financial institutions 5) Accounts receivables
FINANCING OF PERMANENT, FIXED OR LONG TERM
WORKING CAPITAL
Permanent working capital should be financed in such a
manner that the enterprise may have its uninterrupted use for a
sufficiently long period. There are five important sources of permanent or
long-term working capital:
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• Shares
Issue of shares is the most important source for raising the
permanent or long capital. A company can issue various types shares as
equity shares, preference shares.
• Debentures
A debenture is an instrument used by the company
acknowledging its debt to its holder. It is also an important method of
raising long term or permanent working capital.
• Public deposits
Public deposits are the fixed deposits accepted by a business
enterprise directly from the public. This source of raising short term and
medium term finance was very popular in the absence of banking
facilities.
• Ploughing back of profits
Ploughing of profits means the re-investment by a concern of its
surplus earnings in its business. It sis an internal source of finance and a
most suitable for an established firm for it’s expansion, modernization
and replacement, etc.
• Loans for financial institutions
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Financial institutions such as commercial banks, Life Insurance
Corporation, industrial finance corporation, industrial bank of India, etc,
also provide short term and long-term loans.
FINANCING OF TEMPORARY, VARIABLE OR
SHORT- TERM WORKING CAPITAL
The main sources of short-term working capital are as follows:
 Commercial banks
Commercial banks are the most important source of short-term
capital. The major portion of working capital loans is provided by
commercial banks. They provide a wide variety of loans tailored to meet
the specific requirements of a concern. The different forms in which the
banks normally provide loans and advances are loans, cash credits,
overdrafts, purchasing and discounting of bills.
 Indigenous bankers
Private moneylenders and country bankers used to be the only
source of finance prior to the establishment of commercial banks. They
used to change very high rates of interest and exploit the customers to the
largest extent possible.
 Installment credit
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This is another method by which the assets are purchased and
the possession of goods is taken immediately but the payment is made in
installments over a predetermined period of time.
 Trade credits
As present day commerce is built upon credit, the rate credit
arrangement of a concern with its suppliers is an important source of
short-term finance. The main advantages of this source are: it is very
convenient method of finance; it is flexible and it may be possible to
obtain favorable terms.
 Advances
Some business houses get advances from their customers and
agents against orders and this source is a short-term source of finance for
them.
 Accounts receivables
Accounts receivable is a permanent investment in the business.
As old receivables are collected and new receivables are created, it is the
major component of the current assets.
CASH MANAGEMENT
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INTRODUCTION
Cash is the most liquid asset and all assets of business are
finally converted into cash. Cash is considered as the lifeblood of the
business. It is essential for a business to carry out all its transactions.
Cash of a business includes cheques, currencies and bank drafts. The cash
determines the credit worthiness, solvency and liquidity position of a
business with the business. Cash management assumes more importance
than other current assets. Because cash is the most significant and least
productive asset of a business. Management of cash is important not only
because it is the most liquid asset but also because all the liabilities of the
business are to be met in cash. Though cash forms the smallest part in the
total assets of the company it requires a lot of time for it’s management.
MOTIVES FOR HOLDING CASH
A business may hold cash with the following motives:
 Transaction motive
It requires a firm to hold cash to conduct day-to-day operations
of business. The firm needs cash to make payments for purchases, wages
and operating expenses and other inevitable payments.
 Precautionary motive
The firms to meet emergencies i.e., the unforeseen events of the
business also maintain cash. A business firm will have to fan a number of
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risks. Because it has an environment of it’s own. The environment
consists of many uncontrollable factors like government legislation,
natural calamities, unpredictable consumer behaviour etc, to face all these
risks, the firm needs to hold cash in a business.
 Speculative motive
To take advantage of unexpected opportunities, a firm holds
cash for investing in profit making opportunities. Such a motive is purely
speculative in nature.
 Security motive
A firm should maintain cash reserves for future requirements if
a firm is not in a position to obtain finance from any other source, then it
can utilize the cash reserves.
 Compensatory motive
It is a motive to have cash to compensate against loss arising in
business.
OBJECTIVES OF CASH MANAGEMENT
 To meet the payment schedule
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The main objective of cash management is to make the
payments to the various types of expenditure. Every business will have
payment schedule and hence it has to generate cash inflows to meet the
cash outflows.
 To maintain minimum cash reserves
Another important objective of cash management is to maintain
optimum cash balance. To meet the expenses a firm need not maintain
huge reserves of cash. Huge reserves will mean idle cash, which is not
productive. On the other hand if there is no cash reserve, a firm finds it
difficult to meet the expenses. Hence, minimum cash reserves are to be
maintained.
STRATEGEIES OF CASH MANAGEMENT
Following are the various strategies for cash management.
 Cash planning
Cash planning is necessary to project the surplus or deficit of
cash. It also helps to maintain the cash balance for the planned period. It
is a technique to plan and control the use of cash. Cash planning may be
done on daily, weekly or monthly basis. The period and frequency of
cash planning generally depends upon the size of the firm.
Cash planning requires the use of two techniques namely
- Cash forecasting and
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- Cash budgeting
 Cash forecasting
It refers to the prediction of cash requirements and the sources
of cash generation. Cash forecasts are required to prepare cash budgets. It
may be done on a short-term basis or a long-term basis. The most
commonly used methods for cash forecasting are:
The receipts and disbursement method
2) Net adjusted income method
 Cash budgeting
Cash budget is the most significant device for planning and
controlling the receipts and payments. It is a summary statement of the
firms expected cash inflows and outflows over a projected time period.
The time horizon of a cash budget may differ from firm to firm. Daily,
weekly or monthly. Cash budget should be prepared for determining the
cash requirements.
 Management of cash inflows
Once the cash budget has been prepared the financial manager
should that their does not exit a significant deviation between projected
cash inflows and actual cash flows. The two objectives of managing cash
flows are:
- Accelerating cash inflows and
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- De-accelerating cash outflows
 Optimum cash balance
Cash management involves the maintenance of optimum cash
balance. Optimum cash balance is desired amount of cash to be held by
the firm. If a firm has an optimum cash balance it will not suffer with the
ideal cash or with shortage of cash. Cash by itself cannot generate until it
is invested. Having excess cash will mean an opportunity cost to the
business. If a firm runs short of cash it cannot fulfill the basic objectives
of meeting the payment schedules hence optimum cash balance is
necessary.
 Management of idle cash
Business firm will face the problem of managing idle cash. At
times a business will have more cash inflows and shortage of cash. It is
necessary for the firm to generate something out of the idle cash and keep
ready the same cash at that time when it runs to shortage of cash. The
best option to manage the idle cash is to invest it on marketable securities
i.e., it can invest on the securities like shares and debentures of other
companies. While investing on the securities of other it has to consider
the following three factors:
1) Safety
Marketability
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Maturity
RECEIVABLES MANAGEMENT
INTRODUCTION
Receivables management is a permanent investment in the
business. As old receivables are collected and new receivables are
created, it is a major credit of the current assets. This emerges because of
the existence of credit sales. It shows the amount receivable from the
purchases. This is called by different names such as bills receivables,
accounts receivable, trade debtors, sundry debtors, trade receivables etc.
Receivables derive benefits to the firm and also involve cost to
the firm. If the benefit is more the cost is also more and hence the risk
increases. On the other hand, if the benefits are less the cost and risk is
also less. Receivable management tries to trade of between benefits and
cost arising from receivables.
INVENTORY MANAGEMENT
INTRODUCTION
The important component of working capital is inventory.
Inventory refers to the stock of goods yet to be sold by a business firm. It
is denied as the stock of goods a firm is offering for sale and the
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components that make the goods. In other words the inventory includes
raw materials, work in progress and finished goods.
OBJECTIVES OF INVENTORY MANAGEMENT
 To provide continuous supply of raw materials for
production
 To reduce the wastage and to avoid loss of breakage
and
deterioration
 To meet the demand for goods of ultimate
consumers on time
 To provide right material at time and at right places
 To avoid excess and inadequate storing of materials
MOTIVES FOR HOLDING INVENTORY
Generally inventories are held by three motives
 The transaction motive, which emphasizes the need to maintain
inventories to facilitate smooth production and sales operation.
 The precautionary motive which necessitates holding of inventories
to guard against the risk of unpredictable changes in demand and
supply process and other factory.
 The speculative motive which influences the decision to increase or
reduce inventory levels to take advantages of price fluctuations.
SURANA COLLEGE 33
INVENTORY MANAGEMENT TECHNIQUES
In managing inventories, the firm’s objective should be in
consance with the wealth maximization principle. To achieve this, the
firm should determine the optimum level of inventory. Efficiently
controlled inventories make the firm flexible. To manage inventories
efficiently, the understanding economic order quantity and reorder point
can answer the questions.
ECONOMIC ORDER QUANTITY
One of the major inventory management problem to be resolved is
how much inventory should be added when inventory replenished.
Economic order quantity is that quantity of material, which is most
economical in buying taking into account the operational requirements of
the company. The economic order quantity is that inventory level, which
minimizes the total ordering cost and carrying cost.
PRINCIPLES OF WORKING CAPITAL MANAGEMENT
The objectives of working capital management are to manage the
firm’s current assets and current liabilities in such a way that a
satisfactory level of working capital is maintained. The following general
principles help us to maintain a sound working capital:
 Principle of risk variation
 Principle of cost of capital
SURANA COLLEGE 34
 Principle of Equity position
 Principle of maturity of payment
 PRINCIPLE OF RISK VARIATION
Risk here refers to the capability of a firm to meet its
obligations as and when they become due for payment. Larger
investment in current assets with less dependency on short-term
borrowing increases liquidity, like for example: conversion of
resources into inventories, into cash, here cash outflows occur
before cash inflow. But then the cash inflows are not certain
because sales and collections, which give rise to cash inflows, are
difficult to forecast accurately. Cash outflows on the other hand are
relatively certain. The firm is therefore, required to invest in
current assets for a smooth, uninterrupted functioning. It needs to
maintain liquidity to purchase raw materials and pay expenses such
as wages and salaries, other manufacturing administrative and
selling expenses as there is hardly a matching between cash
inflows and outflows.
On the other hand investment in current assets with greater
dependence on short-term borrowings increases risks, reduces
liquidity and increases profitability. For example: Acquiring
SURANA COLLEGE 35
resources on credit, temporarily postpones payment of certain
expenses. Thus, the time interval between cash collections from
sale of products and cash payments for resources acquired by the
firm reduces liquidity and increases profitability. In other words
there is a definite inverse relationship between the degree of risk
and profitability. The various working capital policies, such as
conservative policy, moderate policy, and aggressive policy
indicate the relationship between current assets and sales. A
conservative management prefers to minimize risk by maintaining
a higher level of current assets for working capital while a
moderate or aggressive management assumes comparatively
greater risk by reducing working capital. However, the goal of the
management should be to establish a suitable trade off between
profitability and risk.
 PRINCIPLE OF COST OF CAPITAL / PERMANENT AND
VARIABLE CAPITAL
Cost of capital varies with the source of finance and the
degree of risk involved. Generally, it is, higher the risk, lower is
the cost and lower the risk higher is the cost. A sound working
capital management should always try to achieve a proper balance
between these two.
SURANA COLLEGE 36
The magnitude of current assets needed is not always the
same; it keeps fluctuating (increases and decreases) over time.
However there is always a minimum level of current assets, which
is continuously required by the firm to carry on its business
operations. This minimum level of current assets is referred to as
permanent, or fixed, working capital. Depending upon the changes
in production an sales, the need for working capital over and above
permanent working capital, will fluctuate.
For example: extra inventory of finished goods will have to
be maintained to support the peak periods of and investment
maintained to support the peak period of sale, and investment in
receivables may also increase during such periods. On the other
hand, investment in raw material, work in progress and finished
goods will fall if the market is slack
The extra working capital, needed to support the changing
production and sales activities is called fluctuating, variable or
temporary working capital. The firm to meet liquidity requirements
that will last only temporarily creates temporary working capital.
Therefore, it can be concluded that permanent working
capital is stable over time, while temporary working capital is
fluctuating.
 PRINCIPLE OF EQUITY POSITION
SURANA COLLEGE 37
This principle is concerned with planning how much to
earmark for CA from the total investment. According to this
principle, the amount of working capital invested in each
component should be adequately justified by a firm’s equity
position. Every rupee invested in the current assets should
contribute to the net worth of the firm. Excessive working capital
needs idle funs, which earn no profits for the firm. Paucity of
working capital not only impairs the firm’s profitability but also
results in production interruptions and inefficiencies.
 PRINCIPLE OF MATURITY OF PAYMENT
This principle is concerned with planning the source of
finance for working capital. According to this principle, a firm
should make every effort to relate maturities of payment (sundry
creditors) to this flow of internally generated funds. Maturity
pattern of various current obligations is an important factor in risk
assumptions and risk assessments. Generally, shorter the maturity
schedule of current liabilities in relation to expected cash inflow,
greater the liability to meet its obligations in time. In the words of
Louis Brand, “we need to know when to look for working capital
funds, how to use them and how to measure, plan and control
them”. To achieve the above-mentioned objectives of working
SURANA COLLEGE 38
capital management, the financial manager has to perform the
following basic functions:
a) Estimating the working capital requirements.
b) Analysis and control of working capital.
a) Financing of working capital needs.
DESIGN OF THE STUDY
TITILE OF THE STUDY: A study conducted for HGS APPARELS
PRIVATE LIMITED on Working Capital Management & Ratio analysis.
STATEMENT OF PROBLEM
Working capital is an important requirement for any business,
without which no business can survive. Every activity of the business is
SURANA COLLEGE 39
related to the availability of the working capital. That is, arranging short-
term financing, negotiating favorable credit terms, controlling the
movement of cash, administering the account receivable and monitoring
the investment in inventories. All this consumes a great deal of time of
finance managers. Also the obstacles inhabiting the effective working
capital management throws open challenges to the finance managers in
managing working capital.
Initially American companies were the core customers through
which the garment business of HGS APPARELS PRIVATE LIMITED
was carried on, but in the year 2000, economy of America came down,
and a recession in the garment industry there, reduced the buying power
of American customers, thereby reducing the demand for garments. Due
to which the sales of HGS APPARELS came down which affected the
profitability of the company directly.
As profitability effects the working capital management of a firm,
it created an opportunity to prepare a case study at HGS APPARELS.
OBJECTIVES OF THE STUDY
 The study was conducted mainly to understand and analyze the
issue of working capital management, being practically employed
in HGS APPARELS PRIVATE LIMITED.
 To understand the practical difficulties faced by managing the
working capital.
SURANA COLLEGE 40
 To analyze the various external and internal factors effecting
working capital management in HGS APPARELS PRIVATE
LIMITED.
 To understand and learn the various policies framed by HGS
APPARELS PRIVATE LIMITED for effective management of
working capital.
DATA AND METHODOLOGY
Mainly data is obtained from the annual reports of the company.
Further data is collected through interviews with the key personnel and
concerned of the company. Sampling techniques are not applicable to the
study as it pertains to the study of a single company. Media of collecting
the data is the office of this company’s chartered accountant, K.V.
Gopalakrishnayya in Bangalore.
SCOPE OF STUDY
The study of working capital management is limited to the specific
company, HGS APPARALS PRIVATE LIMITED.
REFERENCE PERIOD
The study period covered in this case study is for 4 financial years
i.e., from 1998-1999, 1999-2000, 2000-2001, 2001-2002.
DEFINITIONS OF CONCEPTS
SURANA COLLEGE 41
Some of the concepts used in different senses from time to time in
the literature of financial management are discussed below in order to
make the study clear and meaningful.
WORKING CAPITAL
It is the fund, which is used to finance its day to day activities of
business, and it has to be employed in short term operations. There are
two concepts of working capital-gross concept and net concept.
WORKING CAPITAL MANAGEMENT
It means administration of current assets and current liabilities.
Objects in managing working capital –profitability and liquidity
PROFITABILITY
It is the ability of the firm to meet the claims of suppliers of short-
term capital for building up of current assets and also means short-term
debt repaying capacity of enterprise, in a limited sense.
OPERATING CYCLE
It is a period involved from the time cash is invested in inventory
till the time cash is recovered from sales of goods.
LIMITATIONS OF STUDY
 This report is based on the annual reports, which are provided by
the company that cannot be relied upon.
SURANA COLLEGE 42
 The collection of data for analysis is restricted to HGS APPARELS
PRIVATE LIMITED only and
 Time was major limiting factor to the study.
PROFILE OF HGS APPARELS PRIVATE LIMITED
ORIGIN AND DEVELOPMENT
In the achievement of the strategic objectives of a self-reliant
and dynamic economy, the government considers a substantial expansion
in export earnings to be of great importance. In order to achieve national
SURANA COLLEGE 43
objectives, the government has adopted new and scientific approach to its
export policy. Depending upon the tax paid by the company government
calculates and provides certain incentives to all the Indian exporters. HGS
APPARELS is one among such exporters. HGS APPARELS is a private
limited company, which is involved in manufacturing and exporting of
finished garments.
Pradeep.H.Hingorani established this company on 12th
February 1990. At the initial stages his father H.B.Hingorani and uncle
G.B.Hingorani were the promoters of liberty brand of garments in
Mumbai, but there business did not reach a higher level due to which they
had to start a separate export business in Mumbai. By 1985 Pradeep took
over the export business. He was then forced to shift the business to
Bangalore due to labour unrest. After this Pradeep strived hard and has
gained success in bringing his export business to a top most level which
was commenced in most critical circumstances. HGS APPARELS has its
office in TAVAREKERE and its manufacturing unit, located in BTM
Layout. HGS APPARELS was first started with a rental premises but
today it has its own premises where in which machine capacity of 100
machines is increased to 450 machines. Earlier there was no washing
plant and today there is a washing plant along with the latest technology
production plant.
SURANA COLLEGE 44
In the factory there are about 1100 laborers working with
subject to a regular bonus and other benefits. It is very tough to start a
company from the scratch in spite of facing hurdles, but still Pradeep
Hingorani managed to do so with a success and as a result HGS
APPARELS is one of the major exporter to companies such as:
GAP in US
DECABHLON in FRANCE
MATALON in UK etc.
COMPETITION
As there are various exporters of garments in Bangalore, HGS
APPARELS has to go through a cutthroat competition and make sure that
it overcomes this competition with ease. Some of the major competitors
of HGS APPARELS are:
ZENITH EXPORTS
MNS EXPORT ORIVATE LIMIITED
LT KARLE EXPORTS LIMITED
SAI LAKSHMI INDUSTRIES etc.
In order to overcome this competition the company has adopted
the following techniques:
 Charging reasonable price as per the range of the product.
 Maintaining the quality of the product and making sure that it is
as per the demand of the customers.
SURANA COLLEGE 45
 Timely delivery of the product to the overseas buyer without
any delay.
 Providing discounts to the customers.
 Retaining the customers.
RANGE OF PRODUCTS
 Shirts
 Blouses
 Shorts
ORGANISATION STRUCTURE
Organization structure is basic framework with in which the
manager’s decision-making behaviour takes place. The structure gives an
established pattern of relationship among the various components of an
organization. It is a vital tool for providing information about
organizational relationships.
HGS follows top to bottom chart, which is as follows
ORGANIZTION CHART
Mr. Pradeep H. Hingorani
SURANA COLLEGE 46
(Managing Director)
Mr. Chandrashekhar Mr. Mahesh V Sukhij

(Production Mgr) (Chief Executive Officer)
Cutting Department
Batch Department Mr. Gabrial Mr. L Rughuraj Mr.Patil

(Purchase Mgr) (General Mgr) (Marktg Mgr)
Washing Department
Finishing Department Marketing Dept.
Q C Department
Fabric Dept.
Trims & Exercise Dept.
Accounts Dept. Shipping Dept. Personnel Dept. Maintenance Dept.
MARKETING ACTIVITIES
The major market for HGS APPARELS prevails in foreign as it
is export oriented. It exports to various countries as discussed earlier.
This company does not have any subsidiary at present. Initially
it had a subsidiary in USA called NEXT APPARELS CORPORATE but
now it does not exist. There are local resources in India through whom
the company gets to know about the wants and desires of foreign buyers.
SURANA COLLEGE 47
SOURCES OF WORKING CAPITAL TO HGS APPARELS
Shares: Issues of shares is the most important source for raising the
permanent or long-term capital. HGS APPARELS has 15000 equity
shares of RS 100, each which are fully paid up.
Loans: Financial institutions such as commercial banks, life insurance
Corporation, industrial finance corporation of India, state financial
corporation etc provides long term, short term, and medium term loans to
the companies.
1. Secured loans: HGS APPARELS gets secured loans by borrowing
money from banks. It also allocates 18% non-convertible
debentures to KSFC. Borrowings from banks are generally secured
by the following;
Hypothecation of stocks, sundry debtors and machineries.
Personal guarantee of all the directors.
Mortgage of title deeds in respect of land and building belonging to
an associate firm.
2. Unsecured loans: HGS APPARELS gets unsecured loans from the
directors of the company, from shareholders and from Bangalore
fashion apparels private limited. Directors who grant unsecured
loans are as follows:
SURANA COLLEGE 48
GB HINGORANI
HB HINGORANI
KG HINGORANI
PH HINGORANI
RS SUKHIJA
LEELA.S.SUKHIJA is the shareholder who grants unsecured
Loans to HGS APPARELS PVT LTD.
Companies that grant loans are: Bangalore fashion apparels
private limited and Karnataka financial service limited.
ANALYSIS OF WORKING CAPITAL MANAGEMENT AND
RATIOS OF HGS APPARELS PRIVATE LIMITED
Working capital is looked as a driving seat of finance manager in
HGS APPARELS PRIVATE LIMITED. As it involves manufacturing
activity it requires efficient amount of working capital to meet its day-to-
SURANA COLLEGE 49
day needs. The long-term working capital needs are for building, plant,
furniture, etc., and the short-term needs are cash, inventories, securities,
etc. The balances sheet shows the financial position of a company at a
given point of time. It provides a snapshot and is regarded as a static
picture. The income statement or the profit and loss statement reflects the
performance of a company over a period of time. The significant
accounting policies followed by HGS APPARELS PRIVATE LIMITED
are as follows;
SIGNIFICANT ACCOUNTING POLICIES
 Basis of preparing financial statements
The financial statements of HGS APPARELS PRIVATE
LIMITED are prepared under the historical cost convention on an accrual
basis.
 Fixed assets
Fixed assets are stated at their original cost of acquisition and
subsequent improvement thereto, including taxes, duties, freight and
other incidental expenses related to acquisition, construction and
installation of asset(s) concerned.
 Depreciation
SURANA COLLEGE 50
Depreciation on fixed assets is provided at rates prescribed on
written down value basis in schedule XIV of the companies act of 1956
on a prorata basis from the date of acquisition of the asset.
 Inventories
Inventories are valued at lower of cost or net realizable value. Cost
is determined on first in first out basis and includes an appropriate portion
of production and factory related overheads
 Long-term investments
Long-term investments are accounted at cost, and no provision has
been made for dimunition in the value of the same.
 Foreign exchange transactions
Foreign exchange transactions are dealt with in accordance with
the accounting standards on accounting for effects of changes in foreign
exchange rates (AS11) issued by institute of chartered accountant of
India.
 Gratuity
Provision of gratuity is made on an estimated basis as per the
provision of the payment of gratuity act 1972.
 Research and development
SURANA COLLEGE 51
Research and development expenditure is charged to profit and loss
account in the year of incurrence. Fixed assets acquired for the purpose of
research and developments are capitalized.
Share capital
Out of the equity shares issued, 15000 shares of Rs.100 each were
allotted as fully paid up.
The current assets and current liabilities of HGS APPARELS
PRIVATE LIMITED are given below.
CURRENT ASSETS
 INVENTORIES
Raw materials and packing materials.
Work in progress.
Finished goods.
Finished goods in transit.
Packing material.
Scrap.
 SUNDRY DEBTORS (unsecured considered good)
Debts outstanding for a period exceeding 6 months
Others
 CASH AND BALANCES
Current account with scheduled banks.
SURANA COLLEGE 52
Current account with deutsche bank.
Margin deposit account.
Cash in hand.
 LOANS AND ADVANCES (unsecured considered good)
Advances receivable in cash or kind.
Deposits.
CURRENT LIABILITIES AND PROVISIONS
 CURRENT LIABILITIES
Sundry creditors.
Advance from customers.
Liability for expenses.
Interest accrued but not due on debentures.
 PROVISIONS
For taxation (net of Advance income tax).
For gratuity.
For leave encashment.
By studying the working capital in HGS APPARELS LIMITED, one
can know the factors influencing the growth prospects of the company.
Let us understand gross and net working capital changes of HGS
APPARELS LIMMITED over the years.
SURANA COLLEGE 53
TABLE - 01
TABLE SHOWING GROSS WORKING CAPITAL CHANGE
OF HGS APPARELS LIMITED
Particulars 1998-1999 1999-2000 2000-2001 2001-2002

Current Assets
Inventories 18450170 22444998 17500270 29520878
Sundry Debtors 5239150 11818945 4174430 5947413
Cash &Balance 2863563 1034108 1952882 2011974
Loans advances 9264595 10509307 9301065 8741638

Gross Working Capital 35817478 45807358 32928647 46221903
INFERENCE
The gross working capital has fluctuated with the growth of
the business over a series of years. There is an increase in the current
assets of the company.
SURANA COLLEGE 54
TABLE – 02
TABLE SHOWING NET WORKING CAPITAL CHANGE OF
HGS APPARELS
Particulars 1998-1999 1999-2000 2000-2001 2001-2002

Gross Working Capital 35817478 45807358 32928647 46221903
Current Liabilities 10004325 21128392 11339964 25537988
Net Working Capital 25813153 24678966 21588683 20683915
INFERENCE
The net working capital table indicates that excess current
asset is available at the disposal of the company for the operational
requirements.
OPERATING CYCLE OF HGS APPARELS
Operating cycle is one of the important determinants of
working capital requirements. In most of the companies, cash inflows and
cash outflows are not synchronized. Therefore, HGS holds the stock of
finished goods, to meet the demand of the customers and also make an
adequate investment in inventories and cash balance for a smooth and
uninterrupted production and sales, while book debts are created since the
goods are sold on credit basis for marketing sand competitive reasons.
The operating cycle of HGS can be divided into two broad
phases, which are as follows:
SURANA COLLEGE 55
 Inventory conversion period: - It is requirement of time to produce
and sell the product and includes conversion period of raw
material, work-in-progress and finished goods.
 Book debts conversion period: - It is the time required to collect
sales receipt from customers.
These two constitute the gross operating cycle. If this is deducted from
payment deferral system, the net operating cycle is obtained
TABLE - 03
TABLE SHOWING STATEMENT OF COST OF HGS
APPARELS PRIVATE LIMITED
Sl no Particulars 1998-1999 1999-2000 2000-2001 2001-2002
01 Opening stock 8175307 7481660 8907507 33832308
02 Purchase of raw materials 43303740 24383562 30274949 65882129

Closing
03 raw material inventory 7481660 8907507 5350148 10373012
04 Raw material consumed 43997387 22957715 33832308 60859265
(1+2-3)
05 Exgratia 139625 49369 5658 -------------
06 Freight inwards 239433 309140 387719 731840
07 PRIME COST 44376445 23316224 34225686 61591105
(4+5+6)
08 Factory Overheads 12453261 7553167 8941795 8451148
09 Depreciation on Buildings 69952.17 91593.97 112154 131686
10 Depreciation on Machinery 3153437.82 3707471.55 4280630 5034385
11 Depreciation on Electrical 439861.53 474952.98 510224 538760
12 (7+8+9+10+11) 60492958 35143410 48070489 75747084
13 Opening work in progress 63599110 5577575 5054229 6535267
14 Closing work in progress 5577575 5054229 6535267 7057849
15 WORKS COST 61275294 35666756 46589451 75224502
SURANA COLLEGE 56
(12+13+14)
16 Office Overheads 9714821 6683649 7154488 7926537
17 Depreciation on Computer 690939.81 888069.77 1006348 1077315
18 Depreciation on Office 127467.44 163329.35 184063 203059
equipments
19 Depreciation on 36553.61 49102.85 58403 65295
motorcycle
20 Depreciation on Motorcar 35639.83 540532.51 676995 778128
21 Depreciation on Furniture 500193.94 584159.53 643786 700437
& Fittings
COST OF PRODUCTION 72701667 44575599 56313534 85975273
22 (15+16+17+18+19+20+21)
23 Opening stock of finished 4694511 5057710 8205812 5047149
goods
24 Closing stock of finished 5057710 8205812 5047149 11137287
goods
25 COST OF GOODS SOLD 72338468 41427497 59472197 79885135
(22+23-24)
26 Selling Overheads 4414936 4038567 5771556 3566365
27 Labour Charges 11718355 8094779 2160423 1621333
28 COST OF SALES 88471759 53560843 67404176 85072833
(25+26+27)
Notes;
Factory overheads include; wages, production incentives, EL
encashment, repairs and maintenance of machinery and electrical, power
and electricity, repairs and maintenance of dg set, fabric and processing
charges, repairs and maintenance building.
Office overheads include; audit fees, bonus, conveyance, council
charges, entertainment, ESI contribution, gratuity, PF contribution,
SURANA COLLEGE 57
insurance, membership and subscription, printing and stationery,
professional fees, rates and taxes, rent, salaries, staff welfare, water
charges, courier charges.
Selling overheads include; claims on export sales, commission,
traveling expenses, vehicle maintenance, freight outwards, sales
promotion, service charges, donations, bad debts written off.
TABLE - 04
TABLE SHOWING SALES AND DEBTORS OF HGS APPARELS
Particulars 1998-1999 1999-2000 2000-2001 2001-2002

Sales 82298796 48397521 62649553 90124131
Opening 16929055 5239150 11818945 4174430
debtors
Closing 5239150 11818945 4174430 5947413
debtors
Opening 11912242 4776658 1287919 7452623
creditors
Closing 4776658 12827919 7452623 20032834
creditors
INFERENCE
SURANA COLLEGE 58
From the above table, it is evident that the sales of the HGS
have increased over a period of time and this increases the size and
components of working capital. There is also an increase in the debtors,
which is apparent from the table, which implies that the company is
running short of cash or there is inadequate cash in the hands of the
company.
To understand the operating cycle concept better and to
analyze how exactly it affects working capital, let us study the table
showing the operating cycle calculations.
TABLE - 05
TABLE SHOWING OPERATING CYCLE CALCULATION OF
HGS APPARELS PRIVATE LIMITED
SL NO PARTICULARS 1998-1999 1999-2000 2000-2001 2001-2002

01 Raw material consumption
period
A Raw material consumption 43997387 22957715 33832308 60859265
B Raw material consumption per day 120540.78 62897.84 92691.25 166737.71
C Raw material inventory 7481660 8907507 5350148 10373012
D 62 Days 142 Days 58 Days 62 Days
02 Work-in-progress conversion
period
A Cost of production 72701667 44575599 55845068 85149868
B Cost of production per day 199182.64 122124.92 153000.18 233287.30
C Work-in-progress inventory 5577575 5054229 6535267 7057849
D Work-in-progress holding days 28 Days 41 Days 43 Days 30 Days
03 Finished goods conversion period
A Cost of goods sold 72338468 41427497 59003731 79059730
B Cost of goods sold per day 198187.58 113499.99 161654.05 216602
SURANA COLLEGE 59
C Finished goods inventory 5057710 8205812 5047149 11137287

D Finished goods inventory holding 26 Days 72 Days 31 Days 51 Days
days
04 Collection period
A Credit sales 82298796 48397521 62649553 90124131
B Sales per day 225476.15 132595.94 171642.61 246915.42
C Book debts 5239150 11818945 4174430 5947413
D Book debts outstanding days 23 Days 89 Days 24 Days 24 Days
05 Payment deferral period
A Credit purchases 44491045 25501189 32984848 69718267
B Purchases per day 121893.27 69866.27 90369.44 191008.95
C Creditors 4776658 12827919 7452623 20032834
D Credit holding days 39 Days 184 Days 82 Days 105 Days
Formulae used to get the proper data in the above table are as follows:
1. Raw material Raw material inventory
Inventory = ------------------------------------- * 365
Holding days Raw material consumption
2. Work-in-progress work-in-progress inventory
Inventory = --------------------------------------- * 365
Holding days Cost of production
3. Finished Goods Finished Goods inventory
Inventory = -------------------------------------- * 365
Holding days Cost of goods sold
SURANA COLLEGE 60
4. Book debts Book Debts
Outstanding = -------------------------------------- * 365
Days Credit Sales
5. Creditors Creditors
Holding = --------------------------------------- * 365
Days Credit Purchases
ANALYSIS OF OPERATING CYCLE CALCULATIONS
From the table number 30 the raw material inventory level in
the year 199-2000 to 8907507 when compared to 1998-1999 which stood
as 7481660, indicating that the company has good production and does
not have any uncertainity in supply of raw materials, but in the year
2001-2002 raw material inventory has increased to 10373012 when
compared to year 2000-2001 which fallen down to 5350148 when
compared to it’s previous year which is satisfactory.
There has been an increase in the level of work in progress
inventory and hence it is a satisfactory level, also HGS has maintained an
increasing level of finished goods inventory to meet the demand of the
customers.
SURANA COLLEGE 61
In the case of collection period the book debts have
increased by 2.25 times more than in the year 1998-1999, and by 1.42
times in the year 2001-2002. This indicates that HGS has been extending
its credit facilities to the customers in order to avoid competition.
The company’s creditors are increased to 20032834 in 2001-
2002 and payment deferral period as accordingly increased in order to
decelerate the cash outflows. In the view of the company’s financial
position in paying more interest HGS has to reduce its creditors, and it
has done the same in the year 2001-2002.
TABLE – 06
TABLE SHOWING SUMMARY OF OPERATING CYCLE
CALCULATION OF HGS APPARELS
NO PARTICULARS 1998-1999 1999-2000 2000-2001 2001-2002

01 Inventory conversion period
A Raw material 62 Days 142 Days 58 Days 62 Days
B Work-in-progress 28 Days 41 Days 43 Days 30 Days
C Finished goods 26 Days 72 Days 31 Days 51 Days
02 Receivable conversion 23 Days 89 Days 24 Days 24 Days
period
03 Gross Operating Cycle 139 Days 344 Days 156 Days 167 Days
(1+2)
04 Payment Deferral period 39 Days 184 Days 82 Days 105 Days
05 Net Operating Cycle 100 Days 160 Days 74 Days 62 Days
(3-4)
INFERENCE
SURANA COLLEGE 62
According to the above table the operating cycle takes 62
days to convert raw materials into cash. The net operating cycle has
increased from 100-160 days in the year 1999-2000 and has decreased to
72 days in the year 2002-2001. The following reasons can be highlighted
about these fluctuations.
In the year 2001-2002 raw material holding days have
increased by 4 days this is because raw material consumption has
increased to 60859265 and at the same time the level of raw material
inventory has increased to 10373012.
One reason would be the policy of company, to reduce the
inventory holding to bring the cost down, but there is an increase in the
work in progress holding days when compared to that of the year 1998-
1999, due to fluctuations of demand for the company’s product in the
market.
Collection period is reduced so as to increase the cash inflows, where as
the payment deferral period is increased to 105 days in the year 2001-
2002 when compared to 39 days in the year 1998-1999, and 82 days in
2000-2001. this indicates that the company has to take necessary steps to
control disbursements for maximum availability of cash.
SURANA COLLEGE 63
RATIO ANALYSIS
INTRODUCTION
The ratio analysis is one of the most important and powerful
tools of financial analysis. It is the process of establishing and
interpreting various ratios. It is with the help of ratios that the ratios that
the financial statement can be analyzed more clearly and decisions made
from such analysis.
CONCEPT OF RATIO
SURANA COLLEGE 64
A ratio is a simple arithmetical expression of the relationship of
one number to another. It may be defined as the indicated quotient of two
mathematical expressions. According to Accountant’s handbook by
Wixonkell and Bedford, a ratio “is an expression of the quantitative
relationship between two numbers”.
RATIO ANALYSIS
Ratio analysis is the technique of calculation of number of
accounting ratios from the data found in the financial statements, the
comparison of the accounting ratios with those of the previous years or
with those of other concerns engaged in similar line of activities or with
those of standard ratios and the interpretation of the comparison.
CLASSIFICATION OF ACCOUNTING RATIOS
The use of ratio analysis is not confined to financial manager
only. There are different parties interested in the ratio analysis for
knowing the financial position of a firm for different purposes. In view of
various users of ratio which can be calculated from the information given
in the financial statement.
Ratios
SURANA COLLEGE 65
Traditional classification Functional classification Significance ratios
1. Balance sheet ratios 1. Primary ratios

1. Liquidity ratios
2. Revenue statement ratios 2. Secondary ratios
2. Leverage ratios
3. Mixed ratios
3. Activity ratios
4. Probability ratios
CLASSIFICATION ACCORDING TO TESTS
Liquidity ratios Long-term solvency ratios Activity ratios Probability ratios

1. Stock turn over
ratio
2. Debtors turnover
ratio
1. Current ratio 1. Debt equity ratio 3. Debt-collection
2. Acid test ratio period 1. Gross profit ratio
2. Proprietory ratio 2. Net profit ratio
3. Absolute 3. Capital gearing 4. Creditors
liquid ratio turnover ratio 3. Operating profit ratio
ratio 4. Return on capital
4. Fixed assets to net 5. Debt-payment
period employed
worth 5. Return on total
5. Current assets to 6. Fixed assets
turnover ratio resources
net worth 6. Return on equity
7. Total assets
turnover ratio
8. Working capital
turnover ratio
SURANA COLLEGE 9. proprietory fund 66
turnover ratio
LIQUIDITY RATIOS
CURRENT RATIO
Current ratio may be defined as the relationship between current
assets and current liabilities. This ratio, is also known as working capital
ratio. It is calculated by dividing the total current assets by total current
liabilities. Thus,
Current Assets
Current ratio = -------------------------
Current Liabilities
Current assets include cash in hand, cash at bank, bills receivable,
sundry debtors, inventory, prepaid expenses, outstanding incomes
temporary investments and advances. Current liabilities include bills
SURANA COLLEGE 67
payable, sundry creditors, bank overdraft, unclaimed dividend,
outstanding expenses, provision for taxation and proposed dividend etc.
TABLE – 07
TABLE SHOWING CURRENT RATIO
Year Current Assets Current Liabilities Current Ratio

1998-1999 25813153 10004325 2.58
1999-2000 24678965 21128392 1.16
2000-2001 21588683 11339964 1.90
2001-2002 20683915 25537988 0.80
INFERENCE
The current ratio decreased to 1.16 in the year 1999-2000,
when compared to the year 1998-1999, and again it is increased to
1.90 in 2000-2001, later it is again fallen down to 0.80. This shows
that there is no improvement in the short-term solvency of the
company for the year 2001-2002.
GRAPH – 01
GRAPH SHOWING CURRENT RATIO
SURANA COLLEGE 68
2.5
2 1998-1999
1999-2000
1.5
2000-2001
1 2001-2002
0.5
0
Current Ratio
ACID TEST RATIO
Acid test ratio may be defined as the relationship between liquid
assets and liquid liabilities. It is also known as liquid ratio or quick ratio.
Liquid assets include all current assets except inventory and prepaid
expenses. Liquid liabilities include all current liabilities except bank
overdraft.
Liquid Assets
Acid test ratio = ----------------------------
Liquid liabilities
TABLE – 08
SURANA COLLEGE 69
SHOWING THE LIQUID RATIO
Year Liquid assets Liquid liabilities Liquid ratio

1998-1999 17367308 10004325 1.73
1999-2000 23362359 21128392 1.10
2000-2001 15428377 11339964 1.36
2001-2002 16701025 25537988 0.65
INFERENCE
The liquid ratio is decreased to 1.10 in the year 1999-2000
when compared to the previous year 1998-1999, and again it is increased
to 1.36 in the year 2000-2001. This further confirms that there is
fluctuations in the short-term liquidity of the company.
GRAPH – 02
GRAPH SHOWING LIQUID RATIO
SURANA COLLEGE 70
1.8
1.6
1.4 1998-1999
1.2 1999-2000
1
2000-2001
0.8
2001-2002
0.6
0.4
0.2
0
Liquid ratio
ABSOLUTE LIQUID RATI0
Absolute liquid ratio may be defined as the relationship between
Absolute liquid assets and liquid liabilities. Absolute liquid assets include
cash in hand, cash at bank and marketable securities.
The absolute liquid ratio can be calculated by dividing absolute
liquid assets by liquid liabilities. Thus,
Absolute liquid assets
Absolute Liquid Ratio = ---------------------------------
Liquid liabilities
SURANA COLLEGE 71
TABLE – 09
SHOWING ABSOLUTE LIQUID RATIO
Year Liquid Assets Liquid Liabilities Absolute Liquid Ratio

1998-1999 22720507 10004325 2.27
1999-2000 23493785 21128392 1.11
2000-2001 18659035 11339964 1.64
2001-2002 18302726 25537988 0.71
INFERENCE
The absolute liquid ratio is increased to 1.64 when compared
to 1.11 in the year 1999-2000, but again it shows a fall in the year 2001-
2002 which stands at 0.71
GRAPH – 03
GRAPH SHOWING ABSOLUTE LIQUID RATIO
SURANA COLLEGE 72
2.5
2
1998-1999
1.5 1999-2000
2000-2001
1 2001-2002
0.5
0
Absolute Liquid Ratio
LONG TERM SOLVENCY RATIO
DEBT-EQUITY RATIO
Debt-Equity Ratio, also known as External-Internal Equity ratio is
calculated to measure the relative claims of outsiders and owners against
the firm’s assets. The Debt-Equity ratio can be calculated by dividing the
total Debts by equity. Thus,
Total debts
Debt-Equity ratio = ----------------------
Equity
SURANA COLLEGE 73
A total debt equals all long term debts plus current liabilities and
provisions and equity includes share capital, reserves and surplus minus
capital losses.
TABLE – 10
TABLE SHOWING DEBT-EQUITY RATIO
Year Total debt Equity Debt-Equity Ratio

1998-1999 62072358 28620421 2.16
1999-2000 74357442 28416205 2.61
2000-2001 55024148 28057713 1.96
2001-2002 70288556 30391887 2.31
INFERENCE
Debt equity ratio has increased to 2.61 in 1999-2000 when compared to
1998-1999 and again it is increased to 2.31 in the year 2001-2002 though
SURANA COLLEGE 74
it was decreased to 1.96 in the year 2000-2001. 7This shows that there is
improvement in the long-term solvency position of the company.
GRAPH- 04
GRAPH SHOWING DEBT-EQUITY RATIO
SURANA COLLEGE 75
2.5
1998-1999
2
1999-2000
1.5 2000-2001
2001-2002
1
0.5
0
Debt-Equity Ratio
PROPRIETORY RATIO
The ratio that expresses the relationship between proprietor’s fund
and total assets is called Proprietory ratio. This ratio can be calculated as
under.
Equity
Proprietory Ratio = ----------------------
Total Asset
TABLE – 11
SURANA COLLEGE 76
TABLE SHOWING PROPRIETORY RATIO
Year Equity Total Assets Proprietory Ratio

1998-1999 28620421 52068033 0.54
1999-2000 28416205 53229050 0.53
2000-2001 28057713 43684184 0.64
2001-2002 30391887 44750568 0.67
INFERENCE
This ratio is decreased in the year 1999-2000 to 0.53 when
compared to 1998-1999 and further increased to 0.67 in the year 2001-
2002 when compared to 2000-2001. this shows that there is an increase in
the long-term solvency of the business.
GRAPH - 05
TABLE SHOWING PROPRIETORY RATIO
SURANA COLLEGE 77
0.7
0.6
0.5 1998-1999
1999-2000
0.4
2000-2001
0.3 2001-2002
0.2
0.1
0
Proprietory Ratio
FIXED ASSETS TO NETWORTH RATIO
The ratio, which establishes the relationship between fixed assets
and shareholder’s funds, is called fixed assets to Net worth ratio. This
ratio can be calculated as follows
Fixed Assets (After depreciation)
Fixed assets to Net worth Ratio = -------------------------------------
Shareholder’s funds
TABLE – 12
TABLE SHOWING FIXED ASSETS TO NETWORTH RATIO
SURANA COLLEGE 78
Year Fixed Asset Net worth Fixed assets to
Net worth Ratio

1998-1999 6335879 28620421 0.22
1999-2000 6079307 28416205 0.21
2000-2001 5378748 28057713 0.19
2001-2002 7775901 30391887 0.25
INFERENCE
The ratio of fixed assets to net worth ratio is found to be
fluctuating in the year 1999-2000 and 2000-2001. but it is slightly
increased in the year 2002-2002 to 0.25.
GRAPH - 06
GRAPH SHOWING FIXED ASSETS TO NETWORTH RATIO
SURANA COLLEGE 79
0.25
0.2
1998-1999
0.15 1999-2000
2000-2001
0.1
2001-2002
0.05
0
Fixed assets to Net
worth Ratio
RATIO OF CURRENT ASSETS TO SHARREHOLDER’S FUND
The ratio which establishes the relationship between current assets
and shareholder’s funds is called ratio of current assets to shareholder’s
fund ratio. The ratio can be calculated as follows.
Current Assets
Current assets to Net worth ratio = --------------------------
Shareholder’s funds
TABLE – 13
SURANA COLLEGE 80
TABLE SHOWING RATIO OF CURRENT ASSETS TO
SHAREHOLDER’S FUND RATIO
Year Current Assets Net worth Current Assets
to Net worth Ratio

1998-1999 25813153 28620421 0.90
1999-2000 24678965 28416205 0.86
2000-2001 21588683 28057713 0.76
2001-2002 20683915 30391887 0.68
INFERENCE
The above table shows that the current assets to net worth
ratio in the year 1999-2000 has come down to 0.86 when compared to the
year 1998-1999 and the current asset ratio is on a declining trend in
subsequent years.
GRAPH – 07
TABLE SHOWING RATIO OF CURRENT ASSETS TO
SHAREHOLDER’S FUND RATIO
SURANA COLLEGE 81
0.9
0.8
0.7
1998-1999
0.6
0.5 1999-2000
0.4 2000-2001
0.3 2001-2002
0.2
0.1
0
Current Assets to
Net worth Ratio
CAPITAL GEARING RATIO
Capital gearing ratio is a ratio, which expresses relationship
between fixed interest and dividend bearing securities and equity share
capital. This ratio is calculated as follows.
Fixed interest and dividend bearing
Securities
Capital Gearing Ratio = --------------------------------------------
Equity share capital
TABLE – 14
SURANA COLLEGE 82
TABLE SHOWING CAPITAL GEARING RATIO
Fixed interest and
Year dividend bearing Equity share capital Capital gearing
securities ratio
1998-1999 1627673 1500000 1.08
1999-2000 1528950 1500000 1.01
2000-2001 1548490 1500000 1.03
2001-2002 1621805 1500000 1.08
INFERENCE
Capital gearing ratio is constant in the year 1998-1999 and
2001-2002 but it has decreased in 1999-2000 and 2000-2001,to 1.01 and
1.03 respectively.
GRAPH - 08
GRAPH SHOWING CAPITAL GEARING RATIO
SURANA COLLEGE 83
1.08
1.06
1998-1999
1.04
1999-2000
1.02 2000-2001
2001-2002
1
0.98
0.96
Capital gearing ratio
ACTIVITY RATIOS
INVENTORY TURNOVER RATIO
Inventory turnover ratio is the ratio, which indicates the number of
times the stock is turned over i.e., sold during the year. In other words, it
is the ratio between the cost of goods sold and closing stock. This ratio
can be calculated as follows.
Sales
SURANA COLLEGE 84
Stock Turnover Ratio = ----------------
Inventory
TABLE – 15
TABLE SHOWING INVENTORY TURNOVER RATIO
Year Sales Inventory Stock turnover Ratio
1998-1999 82298796 18450170 4.46

1999-2000 483975 21 22444998 2.15
2000-2001 62649553 17500270 3.57
2001-2002 90124231 29520878 3.05
INFERENCE
Inventory turn over ratio has decreased to 2.15 in the year
1999-2000 when compared to 1998-1999 and again increased in the year
2000-2001 to 3.57 but in the year 2001-2002 it shows a fall that is 3.05.
GRAPH - 09
GRAPH SHOWING INVENTORY TURNOVER RATIO
SURANA COLLEGE 85
4.5
4
3.5 1998-1999
3
1999-2000
2.5
2000-2001
2
2001-2002
1.5
1
0.5
0
Stock turnover Ratio
DEBTORS TURNOVER RATIO
Debtors turnover rate is in between credit sales and debtors. In
other words, it indicates the number of times the debts are collected in a
year. This ratio is calculated as follows.
Credit Sales
Debtors Turnover Ratio = -----------------------
Debtors
SURANA COLLEGE 86
TABLE - 16
TABLE SHOWING DEBTORS TURNOVER RATIO
Year Credit Sales Debtors Debtors Turnover
Ratio
1998-1999 82298796 5239150 15.70
1999-2000 48397521 11818945 4.09
2000-2001 62649553 4174430 15.0
2001-2002 90124131 5947413 15.15
INFERENCE
The debtors turn over ratio has decreased to 4.09 in the year 1999-
2000 and again has increased to 15.15 in the year 2001-2002
GRAPH - 10
GRAPH SHOWING DEBTORS TURNOVER RATIO
SURANA COLLEGE 87
16
14
12 1998-1999
10 1999-2000
8 2000-2001
6 2001-2002
4
2
0
Debtors Turnover
Ratio
DEBT COLLECTION PERIOD RATIO
Debt collection period ratio is the ratio, which shows the average
time taken by the firm to collect the debts. This is calculated as follows.
Debtors
Debt collection period ratio = ----------------------- * 365 days
Credit Sales
TABLE – 17
TABLE SHOWING DEBT COLLECTION PERIOD RATIO
Year Debtors Credit Sales Debt collection Ratio
SURANA COLLEGE 88
1998-1999 5239150 82298796 23 Days

1999-2000 11818945 48397521 89 Days
2000-2001 4174430 62649553 24 Days
2001-2002 5947413 90124131 24 Days
INFERENCE
The debt collection period ratio remains constant in the 2000-2001
and 2001-2002 but has increased in the year 1999-2000 to 89 days when
compared to that of 23 days in the year 1998-1999.
GRAPH – 11
GRAPH SHOWING DEBT COLLECTION PERIOD RATIO
SURANA COLLEGE 89
90
80
70 1998-1999
60
1999-2000
50
2000-2001
40
2001-2002
30
20
10
0
Debt collection Ratio
CREDITORS TURNOVER RATIO
Creditors turnover ratio is the ratio, which indicates the number of
times the debts are paid in the year. This ratio is calculated as follows.
Credit purchase
Credit Turnover Ratio = ---------------------
Average creditors
TABLE -18
TABLE SHOWING CREDITORS TURNOVER RATIO
SURANA COLLEGE 90
Year Credit purchase Creditors Creditors turn over Ratio
1998-1999 44491045 4776658 9.31

1999-2000 25501189 12827919 1.98
2000-2001 32984848 7452623 4.42
2001-2002 69718267 20032834 3.48
INFERENCE
The creditors turnover ratio has decreased to 1.98 in 1999-
2000 when compared to 1998-1999 and again it is increased to 4.42 in
2000-2001 but again there is slight fall in the year 2001-2002 to 3.48.
GRAPH – 12
GRAPH SHOWING CREDITORS TURNOVER RATIO
SURANA COLLEGE 91
10
8
1998-1999
6 1999-2000
2000-2001
4
2001-2002
2
0
Creditors turn over
Ratio
DEBT PAYMENT PERIOD RATIOS
Debt payment ratio is a ratio, which shows the average time taken
by the firm to repay the debt. This ratio is calculated as follows.
Creditors
Debt payment period ratio = ------------------ * 365 Days
Credit purchase
TABLE – 19
TABLE SHOWING DEBT PAYMENT PERIOD RATIO
SURANA COLLEGE 92
Year Creditors Credit purchases Debt payment period
Ratio
1998-1999 4776658 44491045 39 Days
1999-2000 12827919 25501189 184 Days
2000-2001 7452623 32984848 82 Days
2001-2002 20032834 69718267 105 Days
INFERENCE
The debt payment period increased to 184 days in 1999-
2000 and also in the year 2001-2002 to 105 days when compared to 39
days in the year 1998-1999, 2000-2001.
GRAPH - 13
GRAPH SHOWING DEBT PAYMENT PERIOD RATIO
SURANA COLLEGE 93
200
150 1998-1999
1999-2000
100 2000-2001
2001-2002
50
0
Debt payment period
Ratio
FIXED ASSETS TURNOVER RATIO
The ratio, which expresses the relationship between the sales and
total assets, is known as Fixed assets turnover ratio.
Sales
Fixed assets turnover ratio = ------------------
Fixed Asset
TABLE – 20
TABLE SHOWING FIXED ASSETS TURNOVER RATIO
SURANA COLLEGE 94
Year Sales Fixed Assets Fixed assets turn over
Ratio
1998-1999 82298796 6335879 12.98
1999-2000 48397521 6079307 7.96
2000-2001 62649553 5378248 11.64
2001-2002 90124131 7775901 11.59
INFERENCE
Fixed assets turnover ratio has decreased to 7.96 in the year
1999-2000 when compared to 1998-1999 and more or less remains
constant in the years 2000-2001 and 2001-2002 with slight variations
standing at 11.64 and 11.59.
GRAPH – 14
GRAPH SHOWING FIXED ASSETS TURNOVER RATIO
SURANA COLLEGE 95
14
12
10 1998-1999
8 1999-2000
6 2000-2001
2001-2002
4
2
0
Fixed assets turn
over Ratio
CURRENT ASSETS TURNOVER RATIO
The ratio, which expresses the relationship between the current
assets to sales, is called as Current assets turnover ratio. It is calculated as
follows.
Sales
Current Assets Turnover Ratio = -------------------
Current Assets
TABLE – 21
TABLE SHOWING CURRENT ASSETS TURNOVER RATIO
SURANA COLLEGE 96
Year Sales Current Assets Current assets turn over
Ratio
1998-1999 82298796 25813158 3.18
1999-2000 48397521 24678965 1.96
2000-2001 62649553 21588683 2.90
2001-2002 90124131 20683915 4.35
INFERENCE
The current assets turnover ratio has increased to 1.96 in
1999-2000 and also in the year 2000-2001 to 2.90 when compared to the
previous year 1998-1999 and subsequent year 2001-2002.
GRAPH - 15
GRAPH SHOWING CURRENT ASSETS TURNOVER RATIO
SURANA COLLEGE 97
4.5
4
3.5
1998-1999
3
2.5 1999-2000
2 2000-2001
1.5 2001-2002
1
0.5
0
Current assets turn
over Ratio
WORKING CAPITAL TURNOVER RATIO
The ratio, which expresses the relationship between the working
capital and sales, is called as Working capital turnover ratio. It is
calculated as follows
Sales
Working capital turnover ratio = --------------------
Working capital
TABLE – 22
SURANA COLLEGE 98
TABLE SHOWING WORKING CAPITAL TURNOVER RATIO
Year Sales Working capital Working capital turn
over ratio
1998-1999 82298796 25813153 3.18
1999-2000 48397521 24678966 1.96
2000-2001 62649553 21588683 2.90
2001-2002 90124131 20683915 4.35
INFERENCE
Working capital turnover ratio has decreased to 1.96 in
1999-2000 when compared to 1998-1999 and again it is further decreased
to 2.90 when compared to that of the year 2001-2002 which stands at
4.35.
GRAPH – 16
GRAPH SHOWING WORKING CAPITAL TURNOVER RATIO
SURANA COLLEGE 99
4.5
4
3.5
1998-1999
3
2.5 1999-2000
2 2000-2001
1.5 2001-2002
1
0.5
0
Working capital turn
over ratio Ratio
PROPRIETORY FUND TURNOVER RATIO
This is a ratio, which expresses the relationship between the
proprietory fund and sales, is called as Proprietory fund turnover ratio. It
is calculated as follows.
Sales
Proprietory fund turnover ratio = ---------------------
Proprietory fund
SURANA COLLEGE 100

TABLE – 23
TABLE SHOWING PROPRIETORY FUND TURNOVER RATIO
Year Sales Equity Proprietory fund
turn over Ratio

1998-1999 82298796 28620421 2.87
1999-2000 48397521 28416205 1.70
2000-2001 62649553 28057713 2.23
2001-2002 90124131 30391887 2.96
INFERENCE
This ratio has increased to 2.96 when compared to that of all
the previous ratios in the year 2001-2002.
GRAPH - 17
SHOWING PROPRIETORY FUND TURNOVER RATIO
SURANA COLLEGE 101

3
2.5
1998-1999
2
1999-2000
1.5 2000-2001
1 2001-2002
0.5
0
Proprietory fund
turn over Ratio
PROFITABILITY RATIOS
Profitability ratios are calculated to determine the operating
efficiency of the company. Profit is the difference between total revenues
and expenses over a period of time. It is the ultimate output of the
company without which the company has no future. Therefore, the
financial manager should continuously evaluate efficiency of the
company on terms of profits. Profitability ratios can be determined on the
SURANA COLLEGE 102

basis of sales or in relation to investments. Generally, two major types of
profitability ratios are calculated.
 Profitability in relation to sales.
 Profitability in relation to investment.
PROFITABILITY IN RELATION TO SALES
Generally, the following profitability ratios are calculated in
relation to sales.
GROSS PROFIT RATIO
Gross profit ratio, is the ratio which expresses the relationship
between gross profit and sales expressed in percentage. It is calculated as
follows.
Gross profit
Gross profit ratio = ----------------------- * 100
Sales
SURANA COLLEGE 103

TABLE – 24
TABLE SHOWING GROSS PROFIT RATIO
Year Gross profit Sales Gross profit Ratio
1998-1999 1434421 82298796 1.74%

1999-2000 ------------- 48397521 --------
2000-2001 3711530 62649553 5.92%
2001-2002 2736963 90124131 3.03%
INFERENCE
Gross profit ratio has increased in the year 2000-2001 to
5.92% having no profits in the year 1999-2000 and shows a fall in 2001-
2002 to 3.03%.
GRAPH – 18
GRAPH SHOWING GROSS PROFIT RATIO
SURANA COLLEGE 104

6.00%
5.00%
1998-1999
4.00%
1999-2000
3.00% 2000-2001
2001-2002
2.00%
1.00%
0.00%
Gross profit Ratio
NET PROFIT RATIO
It is the ratio, which expresses the relationship
between net profit and sales expressed in percentage. It is calculated as
follows.
Net profit
Net profit ratio = ------------------- * 100
Sales
TABLE – 25
TABLE SHOWING NET PROFIT RATIO
SURANA COLLEGE 105

Year Net profit Sales Net profit Ratio
1998-1999 1359421 82298796 0.61%

1999-2000 ----------- 48397521 -------
2000-2001 ----------- 62649553 -------
2001-2002 2334174 90124131 0.02%
INFERENCE
The net profit ratio has decreased in the year 2001-2002 to 0.02% having
no profit in the immediate previous years when compared to that of
profits of 1998-1999 to 0.61%. This shows there is decline in the
profitability of the company.
GRAPH – 19
GRAPH SHOWING NET PROFIT RATIO
SURANA COLLEGE 106

0.70%
0.60%
0.50% 1998-1999
1999-2000
0.40%
2000-2001
0.30% 2001-2002
0.20%
0.10%
0.00%
Net profit Ratio
OPERATING RATIO
The ratio, which expresses the relationship between operating cost
and sales expresses in percentage, is called as Operating ratio. This ratio
is calculated as follows.
Operating cost
Operating ratio = ------------------------ * 100
Sales
TABLE – 26
SURANA COLLEGE 107

TABLE SHOWING OPERATING RATIO
Year Operating cost Sales Operating Ratio
1998-1999 24171616 82298796 29.37%

1999-2000 15647946 48397521 32.33%
2000-2001 11102218 62649553 17.72%
2001-2002 21072481 90124131 23.38%
INFERENCE
The operating ratio in the year 1999-2000 increased to 32.33%
when compared to 1998-1999. but it is increased in the year 2001-2002 to
23.38% when compared to that of 17.72% in the year 2000-2001. so this
is the reason for decline in the net profit of the company.
GRAPH – 20
GRAPH SHOWING OPERATING RATIO
SURANA COLLEGE 108

35.00%
30.00%
25.00% 1998-1999
1999-2000
20.00%
2000-2001
15.00% 2001-2002
10.00%
5.00%
0.00%
Operating Ratio
OPERATING PROFIT RATIO
The ratio, which expresses the relationship between operating
profit and sales expressed in percentage, is called as Operating profit
ratio. It is calculated as follows.
Operating profit cost
Operating profit ratio = ---------------------------- * 100
Sales
TABLE – 27
SURANA COLLEGE 109

TABLE SHOWING OPERATING PROFIT RATIO
Year Operating profit Sales Operating profit
Ratio
1998-1999 1400467 82298796 1.70%
1999-2000 39457 48397521 0.08%
2000-2001 3463897 62649553 5.52%
2001-2002 2661924 90124131 2.95%
INFERENCE
The operating profit ratio has increased to 5.52% in the year
2000-2001 when compared to both the previous years, 1998-1999 and
1999-2000. but it is decreased to 2.95% in the year 2001-2002. this is
further confirmed that the increase in operating cost is the main reason for
decrease in operating profit.
GRAPH – 21
GRAPH SHOWING OPERATING PROFIT RATIO
SURANA COLLEGE 110

6.00%
5.00%
1998-1999
4.00%
1999-2000
3.00% 2000-2001
2001-2002
2.00%
1.00%
0.00%
Operating profit Ratio
PROBABILITY IN RELATION TO INVESTMENT
RETURN ON PROPRIETOR’S FUND
The ratio between net profit after tax and proprietor’s fund is called return
on proprietor’s fund. It is calculated as follows.
Net profit after tax
Return on proprietor’s fund = ------------------------ *100
Equity
TABLE – 28
SURANA COLLEGE 111

TABLE SHOWING RETURN ON PROPRIETOR’S FUND
Year Equity Profit after tax Return on
proprietor’s fund
1998-1999 28620421 1359421 4.74%
1999-2000 28416205 ---------- -------
2000-2001 28057713 ---------- -------
2001-2002 30391887 2334174 7.68%
INFERENCE
The ratio of return on proprietor’s fund has increased to
7.68% when compared to 1998-1999 having no return on proprietor’s
fund because of no profits in the year 2000 and 2001 when compared to
1999-1999 having 4.74%. this is because of decline in the profitability
due to more operating cost.
GRAPH – 22
GRAPH SHOWING RETURN ON PROPRIETOR’S FUND
SURANA COLLEGE 112

8.00%
7.00%
6.00% 1998-1999
5.00% 1999-2000
4.00% 2000-2001
3.00% 2001-2002
2.00%
1.00%
0.00%
Return on
proprietor’s fund
RETURN ON TOTAL RESOURCES
The ratio between net profit after tax and total assets is called as
Return on total resources. It is calculated as follows.
Return on total resources = ------------------------- * 100
Total assets
TABLE – 29
TABLE SHOWING RETURN ON TOTAL RESOURCES
SURANA COLLEGE 113

Year Net profit after tax Total assets Return on total
resources
1998-1999 1359421 52068033 2.61%
1999-2000 ----------- 53229050 --------
2000-2001 ----------- 43684184 --------
2001-2002 2334174 44750568 5.21%
INFERENCE
The return on total resources increased to 5.21% in the year
2001-2002 nothing in the year 1999-2000 and 2000-2001 when compared
to that of 1998-1999.
GRAPH – 23
SHOWING RETURN ON TOTAL RESOURCES
SURANA COLLEGE 114

6.00%
5.00%
1998-1999
4.00%
1999-2000
3.00% 2000-2001
2.00% 2001-2002
1.00%
0.00%
Return on total
resources
RETURN ON CAPITAL EMPLOYED
The ratio between net profit before interest and tax and capital
employed is called as return on capital employed. It calculated as
followed
Net profit before tax
Return on capital employed = ---------------------------- * 100
Capital employed
TABLE – 30
TABLE SHOWING RETURN ON CAPITAL EMPLOYED
SURANA COLLEGE 115

Year Profit before tax Capital employed Return on capital
employed
1998-1999 1434421 19918044 7.20%
1999-2000 -107398 22470777 -------
2000-2001 3711530 16717253 22.20%
2001-2002 2736963 16290752 16.80%
INFERENCE
The return on capital employed ratio shows nil return on capital
employed in the year 1999-2000 because of losses incurred by the
company in that year. In the next year it reaches to 22.20% which is
5.40% more when compared to the one in the year 2001-2002.
GRAPH - 24
GRAPH SHOWING RETURN ON CAPITAL EMPLOYED
SURANA COLLEGE 116

25.00%
20.00%
1998-1999
15.00% 1999-2000
2000-2001
10.00%
2001-2002
5.00%
0.00%
Return on capital
employed
EARNING PER SHARE (EPS)
The ratio between net profit after tax and number of equity shares
is called as Earning per share.
Earning per share = ------------------------------- * 100
Number of equity shares
TABLE – 31
TABLE SHOWING EARNING PER SHARE (EPS)
Year Number of equity Profit after tax Earnings per share
SURANA COLLEGE 117

shares
1998-1999 15000 1359421 0.60%
1999-2000 15000 ----------- --------
2000-2001 15000 ----------- --------
2001-2002 15000 2334174 1.03%
INFERENCE
The earnings per share have increased to 1.03% in the year
2001-2002 when compared to all the remaining previous year’s earnings
per share.
GRAPH – 25
GRAPH SHOWING EARNING PER SHARE (EPS)
SURANA COLLEGE 118

1.20%
1.00%
1998-1999
0.80%
1999-2000
0.60% 2000-2001
2001-2002
0.40%
0.20%
0.00%
Earnings per share
SUMMARY OF FINDINGS,
CONCLUSIONS AND SUGGESTIONS
FINDINGS
The analysis and interpretation of the data gathered, has
revealed the following facts:
 Operating cycle of HGS has increased from 100 days in the year
1998-1999 to 160 days in the year 1999-2000 but decreased to 74 days
SURANA COLLEGE 119

2000-2001, and is again decreased to 62 days in the year 2001-2002.this
is due to the holding of finished goods inventory and work in progress
inventory for more days and also due to increased raw material
consumption. The finished goods inventory conversion period has
increased from 26 days in the year 1998-1999 to 72 days in 1999-2000,
again in the year 2000-2001 it has been decreased to 31 days and in the
year 2001-2002 it has increased to 51 days. Also the work in progress
inventory conversion period has increased from 28 days in the year 1998-
1999 to 41 days, again it is increased to 43 days in 2000-2001 with a
decrease of 30 days in 2001-2002.
 The receivable conversion period has increased from 23 days to 89
days in 1999-2000; it is decreased to 24 days in 2000-2001 and again in
the year 2001-2002 it remains stable.
 At the same time the company is increased its payment deferral
from 39 days to 184 days in the year 1999-2000, it is decreased to 82
days in the year 2000-2001 and again increased by 105 days in the year
2002-2002. This shows that the company has to control the cash
disbursements to enhance the availability of cash.
 The current ratio of the company has come down from 2.58 to 1.16
in the year 1999-2000.In the next year it has increased to 1.90 but again it
is decreased to 0.80 in the year 2001-2002. This indicates that the
SURANA COLLEGE 120

company is not able to meet the standard of 2:1 the downfall represents
that the company’s short-term liquidity position is not satisfactory.
 The debt equity ratio is increased to 2.61 in 1999-2000 when
compared to 1998-1999, and gain in the year 2001-2002 it is increased to
2.31 when compared to the year 2000-2001. This shows that there is an
improvement in the long-term solvency position of the company.
 Current assets to net worth ratio shows a declining trend in all the
years.
 The debt collection period ratio has increased to 81 days in the year
1999-2000. But has remained constant in the future i.e., 24 days.
 The working capital turn over ratio has decreased to 1.96 in the
year, but from there on it has kept on increasing in the future.
 Gross profit ratio has increased in the year 2000-2001 to 5.92%
having no profits in the year 1999-2000 and shows a fall in 2001-2002 to
3.03%.
 The net profit ratio has decreased in the year 2001-2002 to 0.02%
having no profit in the immediate previous years when compared to that
of profits of 1998-1999 to 0.61%. This shows there is decline in the
profitability of the company.
SURANA COLLEGE 121

 The operating ratio in the year 1999-2000 increased to 32.33%
when compared to 1998-1999. But it is increased in the year 2001-2002
to 23.38% when compared to that of 17.72% in the year 2000-2001. So
this is the reason for decline in the net profit of the company.
 The operating profit ratio has increased to 5.52% in the year 2000-
2001 when compared to both the previous years, 1998-1999 and 1999-
2000. But it is decreased to 2.95% in the year 2001-2002. This further
confirms that the increase in operating cost is the main reason for
decrease in operating profit.
 The ratio of return on proprietor’s fund has increased to 7.68%
when compared to 1998-1999 having no return on proprietor’s fund
because of no profits in the year 2000 and 2001 when compared to 1999-
1999 having 4.74%. This is because of decline in the profitability due to
more operating cost.
 The return on total resources increased to 5.21% in the year 2001-
2002 nothing in the year 1999-2000 and 2000-2001 when compared to
that of 1998-1999.
 The return on capital employed ratio shows nil return on capital
employed in the year 1999-2000 because of losses incurred by the
SURANA COLLEGE 122

company in that year. In the next year it reaches to 22.20%, which is
5.40% more when compared to the one in the year 2001-2002.
 The earnings per share have increased to 1.03% in the year 2001-
2002 when compared to all the remaining previous year’s earnings per
share.
CONCLUSIONS
 HGS has now completed more than 11 years in the field of export
of manufacturing goods. In spite of incurring losses in the year
1999-2000, it has successfully managed to overcome this by
making profits in future, which is a good sign of prosperity to the
company.
 The long-term solvency position of the company has shown a
recurrent increase.
SURANA COLLEGE 123

 The sales of the company has increased in the year 2000-2001
which indicates that the foreign companies are well satisfied with
the company’s product, which is a good sign to company’s
prosperity.
SUGGESTIONS
 HGS should make proper financial planning so that the available
funds are utilized in more efficient and effective manner.
 The company must try to maintain its short-term liquidity position,
by investing only in those investments, which are easily convertable into
cash.
SURANA COLLEGE 124

 HGS must cut down the operating and other expenses with out
reducing the quality of its products.
 The company should reduce the idle capacity in order to increase
the efficiency in the operations.
 HGS must take immediate measures to reduce the length of the
operating cycle.
BALANCE SHEET AS ON 31ST MARCH 1999
1998-1999
SOURCES OF FUNDS
SHAREHOLDER’S FUNDS
Share Capital 1500000
Reserves and surplus 27120421 28620421
SURANA COLLEGE 125

LOAN FUND
Secured loans 18074612
Unsecured loans 5373000 23447612
TOTAL 52068033
APPLICATION OF FUNDS
FIXED ASSETS
Gross Block 11710682
Less: Depreciation 5374803
Net Block 6335879
INVESTMENTS 19918044
CURRENT ASSETS LOANS 35817478
AND ADVANCES
Less: CURRENT LIABILITIES 10004325
AND PROVISIONS
Net Current Assets 25813153
MISCELLANEOUS EXPENDITURE
SURANA COLLEGE 126

Preliminary expenses 965
TOTAL 52068033
1999-2000
SOURCES OF FUNDS
Reserves & surplus 26916205 28416205
SURANA COLLEGE 127

LOAN FUND
TOTAL 53229050
FIXED ASSETS
Net Block 6079307
AND ADVANCES
AND PROVISIONS
TOTAL 53229050
SURANA COLLEGE 128

2000-2001
SOURCES OF FUNDS
Reserves & surplus 26557713 28057713
Loan fund
SURANA COLLEGE 129

TOTAL 43684184
FIXED ASSETS
Net Block 5378248
AND ADVANCES
AND PROVISIONS
TOTAL 43684184
SURANA COLLEGE 130

2001-2002
SOURCES OF FUNDS
Reserves and surplus 288918887 303918887
LOAN FUND
SURANA COLLEGE 131

TOTAL 44750568
FIXED ASSETS
Net Block 7775901
INVESTMENTS 1629075
AND ADVANCES
AND PROVISIONS
TOTAL 44750568
SURANA COLLEGE 132

PROFIT AND LOSS ACCOUNT FOR THE YEAR ENDED
31ST MARCH 1999
Year Ended
31st march1999
INCOME
Sales 82298796
Other income 11032002
SURANA COLLEGE 133

Accretion in stock of
Finished goods & WIP Goods -419137
TOTAL (A) 92611661
EXPENDITURE
Consumption of raw materials 48391470
Operating and other expenses 24171616
Administration, Selling
& Distribution Expenses 14129757
Interest & Financial Charges 3651289
Depreciation 1167061
TOTAL (B) 91511194
Profit from operations (A-B) 14004687
Share of profit/loss (-) as partner in a firm 39954
Prior year adjustment (-) -------
Provision for taxation (75000)
SURANA COLLEGE 134

Profit/loss (-) after tax 1359421
Add: surplus of previous year 25761000
Profit transferred to balance sheet 27120421
PROFIT AND LOSS ACCOUNT FOR THE YERAR ENDED
31ST MARCH 2000
Year Ended
31st march 2000
INCOME
Sales 48397521
SURANA COLLEGE 135

Finished& WIP Goods 2635556
TOTAL (A) 56979102
EXPNEDITURE
Consumption of raw materials 26034954
Administration, Selling 10722216
& Distribution Expenses
Interest & Financial charges 3410119
TOTAL (B) 56939644
Share of profit/loss (-) as partner in a firm (145855)
Prior year adjustment (-) --------
Provision for taxation (97818)
Profit/loss (-) after tax (204216)
Add: surplus of previous year 27120421
SURANA COLLEGE 136

31ST MARCH 2001
Year Ended
31st march 2001
INCOME
Sales 62649553
SURANA COLLEGE 137

Finished & WIP Goods -1685375
TOTAL (A) 71612567
EXPENDITURE
Consumption of materials 39735344
Operating & other expenses 11102218
Administration, Selling 12926044
& Distribution Expenses
Depreciation 973391
TOTAL (B) 68148670
Add: share of profit/loss (-) as partner in a firm 247633
Less: loss on sale of shares 3285750
Less: prior year adjustment (-) 109272
Provision for taxation 675000
SURANA COLLEGE 138

Profit/loss (-) after tax -358492
Add: profit of previous year 26916205
31ST MARCH 2002
Year Ended
31st march 2002
INCOME
Sales 90124131
Accretion/decretion in stock of
SURANA COLLEGE 139

Finished & WIP Goods 6721344
TOTAL (A) 107653411
EXPENDITURE
Consumption of materials 68333964
Administration, Selling
& Distribution expenses 11492902
TOTAL 104991487
Add: share of profit/loss (-) as partner in a firm 75039
Less: loss on sale of shares ------
Less: prior year adjustment (-) ------
Provision for taxation 402789
Profit/loss (-) after tax 2334174
Add: profit of previous year 26557713
SURANA COLLEGE 140

SCHEDULE OF THE INTERVIEW
1) When was the company established?
2) Who started the company?
3) What is the range of its products?
4) Does it have any trademark?
SURANA COLLEGE 141

5) Origin and development of the company.
6) Which are the countries it exports to?
7) Which are the companies that purchase its products?
8) How does it come into negotiations with them?
9) What is the mode of transport followed by the company?
10) How does it advertise?
11) Who are its competitors?
12) Does HGS have any branch?
13) What is the selling procedure?
14) Does it have any subsidiary?
15) What are the company’s achievements so far?
SURANA COLLEGE 142

16) What is its future plans for expansion?
17) What is the organization structure of the company?
18) What are the accounting policies followed by HGS APPARELS
PRIVATE LIMITED?
19) The raw material used is local or imported?
20) What is the production procedure?
21) How does it handle the competition?
22) What does total debts include?
23) What method of depreciation does the company follow?
24) How much is the credit sales and credit purchases of the company?
25) What are the total number of working days of the company?
SURANA COLLEGE 143

26) What is the opening and closing stock of raw materials, work in
progress and finished goods?
27) Depreciation provided on vehicle is to be included in office
expenses or factory expenses?
BIBLIOGRAPHY
BOOKS
 Financial management By. S.K.R. Paul
 Financial management By. S.N. Maheshwari
 Principles of corporate finance By. Brealy & Myers
Mc Graw Hill, New York
SURANA COLLEGE 144

 Financial Management Theory & By. Prasanna Chandra
Practice Tata Mc Graw Hill
Publishing Company Limited
 Financial Management By. R.K. Sharma & Gupta
Kalyani Publishing House
JOURNALS & MAGAZINES
 Annual reports of HGS apparel private limited.
SURANA COLLEGE 145

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H G S APPARELS PVT. LTD.

It would be worthwhile to recall what Henry ford once remarked.”

throws light on the significance of money or finance. A budding concern

commence business simply because it is not in the position to get

who is incharge of the finance function, is difficult because he has to play

that role and relate it to the role of other managers.

issuance of the distribution of and the purchase of liability and equity

claim issued for the purpose of generating revenue-producing assets.

These claims are commonly referred to as financial claims.

According to Paul.G.Hasings. ”Finance” Is the management of the

monitory affairs of the company. It includes determining what has to be

Ronald Burns define financing as “a process of organizing the flow of

manner and meet it’s obligations as they fall due”.

Finance function is a task of providing the funds required by an

enterprise on the terms most favourable to it in the light of the objectives

with enough funds to accomplish its objectives. Getting the required

Finance presents itself in a broad spectrum of activities. There are a

number of basic functions underlying finance. It is an essential, and at the

same time a very distinct, segment of the overall managerial function. It

is the lifeblood of any business activity and no business function can be

discharged without it. Finance must be used judiciously. It has to be

systematically controlled and regulated so that it may contribute to the

different functions of business administration. If the finance function is

properly blended with production, marketing, personnel, accounting and

other business functions, the wastage of funds can be avoided.

In simple words financial planning means deciding well in advance

as to how much finance is required, when is it required, what are the

sources through which finance is available and how should it be put to

use, so as to obtain organizational objectives. The aim in financial

planning should be to match the needs of the companies with those of

investors with a sensible gearing of short term and long-term interest

Financial planning helps the financial manager to see the financial

situations clear of stress and strains and to develop a deep insight-an

essential prerequisite for financial stewardship. The importance of

manager to develop a diagnostic skill of analyzing complex situations and

arriving at suitable solutions.

STEPS INVOLVED IN FINANCIAL PLANNING

The various steps involved in financial planning are as follows:

1. Establishing objectives: Every business enterprise will have to

establish it’s financial objectives. It will have to state how much

capital is employed in various factors of production over the long

run and how much productivity can be ensured through the

employment those factors. It would be necessary for every business

enterprise to stipulate both short-run and long run objectives so that

it may operate in a dynamic society.

2. Policy formulation: financial policies will have to have a thrust on

• Governing the amount of capital required for the firm to

achieve the financial objectives.

• Determining the control by the parties who furnish the

capital. For example, if debt exceeds in unassuming

portions, it would obviously mean dilution of control.

• Acting as a guide in the use of debt or equity capital. For

example, the business enterprise will have to state clearly its

plans about the debt-equity proportions.

• Guiding management in the selection of the source of funds.

This also means the financial plans should state which

source of funds should be drawn upon by a business

enterprise in various time phases.

2. Forecasting: forecasting is usually done on the basis of facts; but

facts do not become readily available, more particularly when they

are addressed to the future. In that case, financial management will

have to forecast the future predicting the variability of the factors