3 iim working capital

8/4/2019 3 IIM Working Capital

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PRODUCTS FOR WORKING

CAPITAL FINANCE


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Cash

Cash

Finished Goods

Work in process

Value added

ExpensesIncurred

Rawmaterialspurchased

Bills

Payable

FinishedGoods sold

Billsreceivable

The Cycle


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Working Capital Cycle

Raw Material

Work in Process

Finished Goods

Receivables

Cash Payables

Bank funding is availableat every stage (exceptof course cash!)

20781Total Current assets

3252Cash & Bank Balance

679Other Current Assets

7414Receivables

9436Inventories

9397Other current liabilities

5387Sundry Creditors/ BillsPayables/ Acceptances

5344Bank borrowings forworking capital


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Trade transaction analysed

Seller Buyer

Enquiry/negotiation/Order

Goods/Service Delivery

Payment immediate/delayed

Will buyer refuseto take delivery?

Will buyer pay on

time/at all?

Will buyerscountry run intoproblems?

Will seller deliverat all?

Will seller deliver

on time ?

Will quality be asagreed?


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Financing Purchases

Letters of Credits Facilitate transaction

and/or finance transaction Discounting of suppliers Bills

Financing Inventory

Cash Credit / Overdraft

Short Term Loans

Commercial Papers

Pre shipment Credit


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Cash Credit/ Working CapitalDemand Loan

Most Prevalent in the country

Unique to Indian Conditions

Various methods of assessment Primarily against hypothecation of

Inventory and receivables

Working Capital Demand Loan


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Financing Sales

Sales Bills / Supply Bills Discounting

Overdraft against Collection Bills

Invoice Financing

Factoring Similar Products for export sales


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Stock level for ExportsPacking Credit

Export receivable LevelForeign Bills

Level of purchasesthrough LC, Leadperiod, Usance period

LC for Rawmaterials

Receivables LevelCC against bookdebts, sales bills

Stock LevelCC against Stocks,Purchase bills etc

Structure of Limits


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Term Loan To Augment Networking Capital

Low net working capital

Good asset coverage

Good DSCR

Medium Term Loans Security Second Charge on Fixed

Assets


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RiskRiskRiskRisk

Adhoc Short Term Loans

Unforeseen requirements

Temporary Cash flow requirements

Importance of Takeout


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RiskRiskRiskRisk

Commercial Papers

Eligibility

Terms

Mode of Issue

Eligible Investors


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RiskRiskRiskRisk


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Bills Discounting

Negotiable Instruments

Clean and Documentary Bills

Supply Bills

Invoice Financing Why Banks prefers Bills


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Mumbai, 30th June, 2011 Amount Rs. 100,00,000Amount Rs. 100,00,000Amount Rs. 100,00,000Amount Rs. 100,00,000

At60 days after sight60 days after sight60 days after sight60 days after sight pay against this sole bill of exchange

To the order ofTo the order ofTo the order ofTo the order ofourselves the sum of Rupees onecrore only

For value receivedFor value receivedFor value receivedFor value received

To: For and on behalf of

M/s Atharva Steel Limited

Steel Authority of IndiaPalacia, Indore, MP

Finance Director/Manager

Bill of Exchange


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RiskRiskRiskRisk


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Factoring

Extensions of Invoice discounting

Assignment of receivables

With / Without / Partial Recourse

Balance sheet management


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Facilitating production for exports atmandated interest rates and tenors.

Pre ShipmentPost Shipment

Export Finance


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Pre shipment : Packing Credit

Against firms orders / Letter of Credit

In Rupees or Dollars

Interest concessions?

Up to 180 days/270 days To be converted into Post Shipment

finance

ECGC cover


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Post Shipment Finance

Bill Discounting under L/c orOtherwise

C/C against collection Bills

Facility in Rupee / Foreign Currency Concessional Interest Rate

ECGC cover


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Suppliers Credit / Buyers Credit

Arranged for importers by exporters

bank abroad Or arranged by Importers Banks

abroad with their foreign

Correspondent Bank Against Letter of credit of Importers

Bank

Low Finance Cost Can be done synthetically


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Factoring & Forfaiting ofExport Receivables

Short Term Receivables: Factoring

Medium Term Receivables: Forfaiting

Bank abroad takes credit risk on theImporters by Co-accepting ExportBills

Bank in India take performance riskon exporters

Discounts Co- accepted Bills

Similar process of forfaiting


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Cash flow/ Receivable Buyout

Discounting of certain or near certaincash flows

Similar to securitisation of future

receivables, involves Performance &Credit risk

Credit risk transfer to buyers if

without recourse


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Balance sheet Impact

Liabilities RsAfter

buy-out Assets RsAfter

buy-out

Networth 100 100 Fixed Assets 290 290

Term borrowings 200 200

Current Liabilities Current Assets

Creditors for supplies 30 30 Inventory 50 50Peovisions 20 20 Receivables 40 10Bank Borrowings 50 20 Cash 10 10

Other Current Assets 10 10Total CL 100 70 Total CA 110 80

Total liabilities 400 370 Total Assets 400 370

Tol/TNW 3 2.7

Current Ratio 1.10 1.14

Balance Sheet of ABC Ltd.

Improved by 10%


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Credit Enhancement Mechanism

Cash Collateralisation

Over Collateralisation

Cherry Picking

Buyback of delinquent portion Credit Support of a Bank

Use of Escrow accounts


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Securitisation

The process of conversion of illiquidloans into tradable, Bankruptcy-remote securities

An issue of securities backed byspecific assets


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Structured Finance


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Why Structured Finance?


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Progressive StructureDevelopment


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Key Success Factors


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Change of Picture.

Up to early 90s corporates pursued aggressive capacity expansion& diversification

Everything produced was sold irrespective of quality/costs. Speculative gains were driving use of working capital. This stopped after liberalisation made cost competitiveness critical

and so the demand for Term loans and working capital declined. Five years from 2002 saw up-turn in trade cycle but from second

half of year 2008 recession took a grip. Through fiscal meansGovt. has ensured soft landing but groth has suffered. Real estate and export led bubble has burst Regulator is forced to prefer recession stimulus over inflation A conflict is clearly seen in regulators twin role as monetary

authority and Govt. debt manager


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Current trends.

Efficiency in use of working capital is increasingsignificantly with use of technology and better practices.

Banks are moving money faster.

Banks IT systems are talking to customers ERP systems.

Outsourcing is used increasingly to gain costcompetitiveness - Banks are managing receivables

/payables of clients. With rise in inflation, inventory and receivable levels are

going up and so also the need for bank finance.

Suppliers supply goods not credit.

Banks prefer to provide cash-flow based structured ratherthan vanila finance against current assets.


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Current trends.

Risk unbundling and risk pricing is the KEY

channel financing is the buzz word afterRetail Financing..

For a large manufacturing company, banks

finance suppliers on one hand and dealerson the other.

Various kind of comforts offered to thebankers in place of security through

transaction based structuring.Transaction history is an important guide.


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Lettersof

Credit


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Billo

fLading


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Open

sanL

/C

Req

uestforL/c


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dededede----RiskRiskRiskRiskdededede----RiskRiskRiskRiskLetter of Credit

Letter of credit is an arrangement whereby a bank (Issuing Bank) acting at the request and in

accordance with the instructions of

a customer(applicant) is to make payment to or to theorder of

a third party (beneficiary) or is to pay, accept ornegotiate bills of exchange drawn by the beneficiary orauthorises such payments to be made or such drafts tobe paid, accepted or negotiated by another bank

against stipulated documents, provided that the termsand conditions of the LC are complied with.


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PARTIES TO A LETTER OF CREDIT

A. Applicant - Applicant is normally the buyer of

the goods who has to make payment to theseller - beneficiary.

B.Issuing Bank - Issuing bank is one whichissues the credit i.e. it is the bank which

undertakes to make the payment to selleragainst documents.

C. Beneficiary - He is normally the seller of thegoods who has to receive payment from the

Applicant. He gets payment on presentation ofstipulated documents complying with the termsand conditions of the LC.


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dededede----RiskRiskRiskRiskdededede----RiskRiskRiskRiskD.Advising Bank- Advising bank advises the credit to the

beneficiary, thereby assuring the genuineness of thecredit. It is normally located in beneficiary's territory.

E. Confirming Bank- Confirming bank adds its guaranteeto the credit opened by another bank,

thereby,undertaking the responsibility of payment /negotiation / acceptance under the credit, in addition tothat of the issuing bank.

F. Nominated Bank- The bank which is nominated and

authorised by the Issuing bank to pay, to incur a deferredpayment undertaking, to accept draft (s) or to negotiate.In a freely negotiable credit any bank is a nominatedbank.

F. Reimbursing Bank- It is the bank, authorised tohonour the reimbursement claim in settlement ofnegotiation acceptance / payment lodged with it by thepaying , negotiating or accepting bank.


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TYPES OF LETTER OF CREDIT

A. Revocable / Irrevocable Letter of Credit

LC which can/can not be amended orcanceled by the issuing bank at any timeprior to its expiry without notice to thebeneficiary.

B. Confirmed Letter of Credit - A confirmedletter of credit is an irrevocable LC to whichanother bank (usually the advising bank)

has, at the issuing bank's request, added itsconfirmation constituting a definiteundertaking of the former.


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D. Revolving Letter of Credit L/c

providing for an automatic renewal of theamount for which the credit is opened.

E. Transferable Letter of Credit - Atransferable LC is a credit which thebeneficiary has the right to giveinstructions to the negotiating bank tomake the credit available in whole or in

part to one or more third parties.F. Back-to-back Credit - A Back-to-backcredit is an ancillary letter of credit whichthe beneficiary uses to support another LC

opened by the seller's bank, favouring hissupplier.


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Standby Letter Of CreditStandby Letter Of CreditStandby Letter Of CreditStandby Letter Of Credit


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G. Sight Credit - It is a credit payable againstpresentation of requisite documents to the

designated paying bank.H. Usance Credit - It calls for drawing of drafts at

stated usance period requiring acceptance and/orpayment by drawee at the end of the usance

periodI. Acceptance Credit - It is similar to deferred credit

except for the fact that in this credit drawing of ausance draft is a must.

J. Deferred Payment Credit - It is a usance creditwhere payment will be made by designated bank,on respective due dates, as per stipulations of thecredit, without the drawing of drafts.

Another Classification of Letters Of Credit


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Performance / Bid Guarantees

Financial Guarantees

Shipping Guarantees

Guarantees under EPCG scheme

Deferred Payment Guarantees

Standby Letter Of credit.

Guarantees

Guarantee is an abstract promise to perform, independentof the underlying transaction. The guarantee is used to

secure the performance of a specific obligation, irrespectiveof whether the performance is owed or not.


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Number & amount of

tenders expected tobe participated,normally 5% of

contract vale

Bid Bond Guarantee

Number & value ofcontracts. Normally10% of value of

contracts

Financial/PerformanceBG

Structure of Limits cont..


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Financeanalysis

Risk rating

Portfolio Credit Risk management

Financial statements Business information Business plans & forecasts

Credit decision framework


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Qualitative : an undertaking of a non quantitative nature designed to protect

the lender against loss.

Restriction on investment in subsidiaries

Quantitative is a measurable benchmark standard of performance typicallyfinancial performance or constraint to which borrower agrees to be bound.

Restrictions on fresh secured borrowings from other sources

Minimum current ratio requirement

Minimum net-worth requirement/Max TOL-TNW ratio

Restrictive/Negative :

Negative pledge

Cross default

a material adverse change clause.

Covenants


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Failure to pay interest when due,

Insolvency of borrower

Cross default by borrower

Material adverse change in borrowers business like a founder promoter sellingout partially/fully

Breach of warranty/conditions of contract

If a warranty in agreement of a revolving credit arrangement likecash credit is found to be false, further drawings can be stopped bythe lender.

Breach of warranties may give the bank a legal remedy fordamages too.

Events of Default


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Members (share holders)M.A & A.A.

Chairman & MDBoard of Directors

Top Management

Other levels of management and others

A Public Limited Company


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Legal Issues and Documentation

Memorandum & Articles of AssociationDoctrine of Constructive Notice

Doctrine of Indoor Management

Borrowing Powers

Charge Creation & Registration

Board ResolutionPower of Attorney Holders


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Remedial Management

Early warning signals

Better immediately than later

Need to take decision away from relationshipmanager

Loan Review Mechanism

Remedial management Group

3 iim working capital

Documents