CHAPTER- 1

INTRODUCTION

The project undertaken is on WORKING CAPITAL MANAGEMENT IN PEC

LTD.
It describes about how the company manages its working capital and the various steps
that are required in the management of working capital.

Cash is the lifeline of a company. If this lifeline deteriorates, so does the company's
ability to fund operations, reinvest and meet capital requirements and payments.
Understanding a company's cash flow health is essential to making investment
decisions. A good way to judge a company's cash flow prospects is to look at its
working capital management

(WCM).

Working capital refers to the cash a business requires for day-to-day operations or,
more specifically, for financing the conversion of raw materials into finished goods,
which the company sells for payment. Among the most important items of working
capital are levels of inventory, accounts receivable, and accounts payable. Analysts
look at these items for signs of a company's efficiency and financial

strength.

The Problems
In the management of working capital, the firm is faced with two key problems:
1. First, given the level of sales and the relevant cost considerations, what are the
optimal amounts of cash, accounts receivable and inventories that a firm should choose
to maintain?
1

2. Second, given these optimal amounts, what is the most economical way to finance
these working capital investments? To produce the best possible results, firms
should keep no unproductive assets and should finance with the cheapest available
sources of funds. Why? In general, it is quite advantageous for the firm to invest in
short term assets and to finance short-term liabilities.

PURPOSE OF STUDY

The objectives of this project were mainly to study the inventory, cash and
receivable at PEC LTD., but there are some more and they are

The main purpose of our study is to render a better understanding of the

concept Working Capital Management.

To understand the planning and management of working capital at PEC.
To measure the financial soundness of the company by analyzing various

ratios.
To suggest ways for better management and control of working capital at the
concern.

Company profile
2

PEC Ltd was incorporated in April, 1971 in New Delhi, India. It is a

public sector undertaking under Ministry of Commerce and Industry,
Department of Commerce, Government of India. The company's primary
business thrusts are in exports, imports, deemed exports, third country
trading, arranging financing, logistics, project exports and management.
PEC Ltd, over last three decades, has expanded its role to become an
international business organizer and a provider of integrated trade
facilitating services. Through its diversification activities since early
nineties, it has emerged as a positive force for the exchange of
commodities, goods and services between India and the nations of the
world. PEC as a trading company, is both initiator and intermediary,
developer as well as facilitator for global trade.
PECs comprehensive, global commercial services is balanced by our
readiness to listen to the individual client and tailor our services to his
needs. Each of our people is familiar with the local market he or she
covers and have a deep appreciation for the differences in regional flavor,
national character and prevailing situations.
Our client services are geared to two objectives: conducting international
transactions and developing whole new business ventures that will
contribute to Indias trade.
PEC brings buyers and sellers from India and countries around the globe
together on the common ground of mutually profitable trade.
3

Our acquired expertise and up-to-date information are unerring guides to

rich market opportunities. Our skills in negotiation have been tested and
refined over years in various marketplaces around the world. We can
arrange for the funds required for financing a transaction and the logistics
of transporting goods to their destinations.
Three decades in international trade has taught us how rapidly and
radically global trade flows can shift. We follow and interpret these
changes for our clients benefit and also take an active part in directing
the change.
PEC knows that, as there is no routine in the complex and volatile global
market, there is no profit in simple textbook solutions. To be sure, the
basic forms of trade, such as export, import and counter-trade, are
immutable. But, with the entire world a marketplace, these basic forms
support limitless opportunities for profitable commerce.
We also know that capitalizing on the dynamics of international takes a
global outlook, openness to the possibilities of the unexpected and to try a
fresh approach.
PEC thus offers an unmatched wealth of experience, skills and product
knowledge. But we hold equally important our creative ability to select
and adapt our resources to meet the particular needs of each client as well
as the current realities of the market.

Our clients can make use of our resources and expertise at any stage of a
transaction.
PEC thus offers:
Review and refinement of trade objectives thus helping a client to
craft a strategic plan for building a profitable business.
Advising clients on adapting products, pricing and distribution to
meet local needs and preferences in new markets.
Generation of a wealth of data on any transaction that a client may
contemplate, from cost estimates to the creditworthiness of
customers.
Negotiation of transactions on behalf of a client anywhere in the
world taking into account the different cultures, customs, languages
and monetary systems prevalent in that particular market.
Prepare all the necessary and indispensable paperwork required by
each legal and regulatory jurisdiction that touches a clients
transactions.
Line up the funds required to set a clients transaction in motion
and oversee payment and collection at its conclusion.

BOARD OF DIRECTORS
PEC is headed by Chairman-cum-Managing Director and whole time Directors. The
Board consists of the following members:

Rajani Rajan Rashmi ( CMD)

A.K. Mirchandani (CMD)
J. Ravi Shanker
Aditi Das Rout
M.C. Luther
Ravi Kumar
Santosh Kumar

PECs line of business:

 Exports of Projects, Capital goods, Engineering items, Software and IT related

services and pharmaceutical items & medical equipment/disposables.
Trading in Agricultural Commodities.
Import of Industrial Raw Materials.
Import of Bullion.

Major Commodities & Industrial Raw Materials

Rice

Wheat

Maize

Barley

Pulses

Edible Oils

Oil Seeds

Sugar

Jute

Soyabean

Cotton

Steel

Coal & Coke

Chemicals

Petrochemicals

Iron Ore

Ferro Chrome

Bullion

Agro - Commodities
Indian agriculture has made rapid progress in augmenting the food grain production in
last fifty years and the total annual production has increased from 51 million tonnes in
1950-51 to almost 200 Million tonnes now.
PEC has established itself as a reliable trader of rice, wheat, soybean/meal, edible oil,
sugar, corn etc. and has emerged as one of the largest traders in commodities from
India. With expertise gained over years as a consistent player in the international agro
commodity market, PEC is able to source agro commodities from world over to meet

the requirements of Indian buyer and also able to export agro commodities of Indian
produce.

Edible Oils
India is the one of the world's leading importer and consumer of edible oils in the
world. Currently, India accounts for 11.2 percent of vegetable oil import and 9.3 per
cent of edible oil consumption, import of edible oil has nearly doubled in six years
and is expected to continue rising due to stagnant oilseed production and a rising
demand following an increase in household incomes and per capita consumption. The
country buys soya oil from Argentina & Brazil and palm oil from Malaysia &
Indonesia. Palm oil constitutes around 80% of imported oil in the country. Soybean
oil and sunflower oil constitute remaining 20% (around 10% each).

Industrial Raw Materials

PEC is actively engaged in trading of industrial raw materials.

Steel scrap, billets, HR Coils, Wire Rods, re-inforcing bars and galvanising

sheets have been imported.

Zinc and Manganese concentrates are imported from Australia and Latin
America .

Coking Coal

Imports for the pharmaceutical sector include Penicillin G Crystals, PHPG

base, Ethyl & Methyl Aceto Acetate etc.

PEC also imports Industrial Solvents like Toluene, Methanol,Butyl Acetate

etc.
It imports manganese ore, coking coal,steam coal,LAM Coke and
Anthracite Coal for buyers in India from major producers in Australia,

Import Of Bullion
8

India is one of the largest consumers of Gold and its demand per annum is around 850
MT. According to rough estimates 95% of gold import is used for jewellery
fabrication & investment demand and balance 5% for industrial use in dental,
electronics & other industries. India is also one of the largest user of Silver.Silver
import per annum is around SSOOMT.
Banks authorized by Reserve Bank of India and Public Sector Undertakings & Star/
Premier Trading House nominated by Directorate General of Foreign Trade can
import Gold/ Silver in India. PEC is one of the nominated agencies allowed to import
Gold/Silver.

PEC has been active in bullion business since February 1998. PEC was the first
agency to offer usance Letter of Credit Facility to import gold. PEC import gold and
silver as per the guidelines issued by Government of India/Reserve Bank of Indiafrom
time to time.
PEC has imported Gold in denomination of 1kg. 100 gms and 5 gms/10 gms coins at
various destinations in India like Delhi, Mumbai, Bangalore, Jaipur, Chennai,
Ahmedabad, Lucknow,Kanpur etc. from LBMA (Landon Bullion Market Association)
approved Gold suppliers and Banks.
CORPORATE SOCIAL RESPONSIBILITY
PEC recognizes the essence of corporate social responsibility and sustainability.
Significant efforts have been put in for identification of relevant projects that would
make a positive and lasting impact on society. During the year a sum of Rs. 2.15
crores was spent on CSR activities in community welfare initiatives. The majors
thrust areas for CSR and sustainability projects are

Environment Conservation and Green Energy.

Heritage, culture and sports
Healthcare
Education of Under privileged and disabled
Swachh Bharat Abhiyan
Vocational Training
Drinking Water and Water Conservation

10

MISSION

To trade in the international market in a manner to create an image of quality,

reliability, ethical values and sustained long term relationship with the
customers and other business partners by

Export of engineering projects and equipment specially from small and

medium enterprises.

Export and Import of bulk items viz. commodities, raw materials and bullion
etc. and develop new products and new markets.

VISION

To be a highly market focused company engaged in international and domestic

trade; an organisation which is lean and flexible; capable of responding to the
changing environment and always conscious of its obligations of delivering
value to stakeholders.

A company capable of providing total service to the customers related to

international trade.

OBJECTIVES

To focus on export of engineering projects and equipment specially from small

and medium enterprises.

To trade internationally in commodities such as agricultural products,

industrial raw materials, chemicals and bullion.

To see new opportunities in the global and domestic market in order to sustain
a reasonable rate of growth in business.

PECs present line of business includes:

Exports of Projects, Capital goods, Engineering items, Software and IT related

services and pharmaceutical items & medical equipment/disposables.

Trading in Agricultural Commodities.

11

Import of Industrial Raw Materials.

Import of Bullion.

Network Of Offices

Source:- http://www.peclimited.com/images/india-political-map.gif

12

However the present working offices of PEC Ltd are in New Delhi, Ahmadabad,
Kolkata, Chennai, Kota, Jaipur, Mumbai.

Year

200506

200607

200708

2008-09

2009-10

Sales

3725.4
3

4517.9
1

5671.5
7

10274.7
8

11025.9
4

Exports

382.63

356.77

903.68

1261.78

1254.91

Domestic

330.59
3830.5
5

420.81
4347.0
8

492.72

889.46

Imports

158.37
3184.4
3

8520.28

Income

46.79

69.40

90.98

Expenditure
Establishment
Administration

26.33
16.76
9.57

27.30
11.88
15.42

Prior
Period
Ajustment
Profit before Tax
Tax
Profit After Tax

0.22
20.68
7.43
13.25

Capital Employed
Shareholder's Funds
Loan Funds

201011

201314

201415
6186.7
6

6960.51

9780.3
7
2556.0
3
1543.4
9
5680.8
5

159.72

159.63

43.02

-137.61

39.84
26.69
13.15

41.19
28.48
12.71

46.56
27.46
19.10

41.04
24.73
16.31

42.18
29.54
12.64

-0.07
102.89
35.18
67.71

0.00
106.56
35.64
70.92

0.00
118.53
38.98
79.55

0.00
113.07
16.12
96.95

0.00
1.98
1.27
0.71

0.01
-179.79
28.75
-208.54

180.74
180.69

460.03
232.03

479.51
285.51

347.63
347.63

586.13
362.04

0.05

228.00

194.00

0.00

224.09

1568.5
1
362.75
1205.7
6

1453.1
0
154.21
1298.8
9

2011-12

2012-13

9969.9
4
1136.2
5

11041.3
3

11649.0
1

1036.92

3029.12

1798.36

1659.38

8881.57

926.89
7906.8
0

8206.05

149.73

145.55

146.40

27.79
15.85
11.94

37.45
24.97
12.48

42.59
20.08
22.51

-0.24
41.86
14.31
27.55

-0.02
63.17
21.79
41.38

0.02
112.26
40.09
72.17

74.65
74.65

114.02
95.22

338.37
126.07

0.00

18.80

212.30

601.22
613.29
4972.2
5

13

CHAPTER-2
RESEARCH METHODOLOGY

This project requires a detailed understanding of the concept Working

Capital Management. Therefore, firstly we need to have a clear idea of what
is working capital, how it is managed in PEC ltd. what are the different ways
in which the financing of working capital is done in the company.

The management of working capital involves managing inventories, accounts

receivable and payable and cash. Therefore one also needs to have a sound
knowledge about cash management, inventory management and receivables
management.

Then comes the financing of working capital requirement, i.e. how the
working capital is financed, what are the various sources through which it is
done.

SCOPE OF THE STUDY

This project is vital to me in a significant way. It does have some importance for the
company too. These are as follows

This project will be a learning device for the finance student.

Through this project I would study the various methods of the working
capital management.
14

The project will be a learning of planning and financing working capital.

The project would also be an effective tool for credit policies of the
companies.

This will show different methods of holding inventory and dealing with
cash and receivables.

This will show the liquidity position of the company and also how do they
maintain a particular liquidity position.

DATA SOURCES:
The following sources have been sought for the preparation report:

Primary sources such as business magazines, current annual reports, book

on Financial Management by various authors and internet websites the imp

amongst them being :www.indiainfoline.com, www.studyfinance.com .

Secondary sources like previous years annual reports, CMA Data, reports
on working capital for research, analysis and comparison of the data

gathered.
While doing this project, the data relating to working capital, cash
management, receivables management, inventory management and short

term financing was required.

This data was gathered through the companys websites, its corporate

intranet, PECs annual reports and CMA Data of the last three years.
A detailed study on the actual working processes of the company is also
done through direct interaction with the employees and by timely studying
the happenings at the company.

15

Also, various text books on financial management like

Khan& Jain,

Prasanna Chandra and I.M.Pandey were consulted to equip ourselves with

the topic.

LIMITATIONS OF THE STUDY:

We cannot do comparisons with other companies unless and until we have the

data of other companies on the same subject.

Only the printed data about the company will be available and not the back

end details.
Future plans of the company will not be disclosed to the trainees.
Lastly, due to shortage of time it is not possible to cover all the factors and
details regarding the subject of study.
The latest financial data could not be reported as the companys websites have
not been updated.

.
WORKING CAPITAL MANAGEMENT
CONCEPTUAL FRAMEWORK
16

Introduction to working capital

Working Capital is the Life-Blood and Controlling Nerve Center of a business

The working capital management precisely refers to management of current assets. A
firms working capital consists of its investment in current assets, which include
short-term assets such as:

Cash and bank balance,

Inventories,

Receivables (including debtors and bills),

Marketable securities.

Working capital is commonly defined as the difference between current assets

and current liabilities.

Working Capital = Current Assets-Current Liabilities

There are two major concepts of working capital:

Gross working capital

Net working capital

17

Gross working capital:

It refers to firm's investment in current assets. Current assets are the assets, which
can be converted into cash with in a financial year. The gross working capital
points to the need of arranging funds to finance current assets.

Net working capital:

It refers to the difference between current assets and current liabilities. Net
working capital can be positive or negative. A positive net working capital will
arise when current assets exceed current liabilities. And vice-versa for negative net
working capital. Net working capital is a qualitative concept. It indicates the
liquidity position of the firm and suggests the extent to which working capital
needs may be financed by permanent sources of funds. Net working capital also
covers the question of judicious mix of long-term and short-term funds for
financing current assets.

18

Significance Of Working Capital Management

The management of working capital is important for several reasons:

For
thing,

one
PAYMENT TO SUPPLIERS

EASY LOAN FROM BANKS

the

DIVIDEND DISTRIBU-TION

SIGNIFICAN--CE OF WORKING CAPITAL

INCREASE EFFECIENY

INCREASE DEBT CAPACITY

INCREASE IN FIX ASSETS

current assets of a typical manufacturing firm account for half of its total assets.
For a distribution company, they account for even more.

Working capital requires continuous day to day supervision. Working capital has
the effect on company's risk, return and share prices,

There is an inevitable relationship between sales growth and the level of current
assets. The target sales level can be achieved only if supported by adequate
working capital Inefficient working capital management may lead to insolvency
of the firm if it is not in a position to meet its liabilities and commitments.

Liquidity Vs Profitability: Risk - Return trade off

Another important aspect of a working capital policy is to maintain and provide

sufficient liquidity to the firm. Like the most corporate financial decisions, the
19

decision on how much working capital be maintained involves a trade off- having a
large net working capital may reduce the liquidity risk faced by a firm, but it can
have a negative effect on the cash flows. Therefore, the net effect on the value of the
firm should be used to determine the optimal amount of working capital.
Sound working capital involves two fundamental decisions for the firm. They are the
determination of:

The optimal level of investments in current assets.

The appropriate mix of short-term and long-term financing used to support

this investment in current assets, a firm should decide whether or not it
should use short-term financing. If short-term financing has to be used, the
firm must determine its portion in total financing. Short-term financing
may be preferred over long-term financing for two reasons:

The cost advantage

Flexibility

But short-term financing is more risky than long-term financing. Following table
will summarize our discussion of short-term versus long-term financing

20

Maintaining a policy of short term financing for short term or temporary assets
needs (Box 1) and long- term financing for long term or permanent assets needs
(Box 3) would comprise a set of moderate risk profitability strategies. But what one
gains by following alternative strategies (like by box 2 or box 4) needs to weighed
against what you give up.

21

CLASSIFICATION OF WORKING CAPITAL

Working capital can be classified as follows:

ON THE BASIS OF TIME

ON THE BASIS OF CONCEPT

KIND OF WORKING CAPITAL

ON THE BASIS
OF CONCEPT

ON THE BASIS
OF TIME

GROSS
WORKING
CAPITAL

NET
WORKING
CAPITAL

REGULAR
WORKING
CAPITAL

FIXED
WORKING
CAPITAL

RESERVE
WORKING
CAPITAL

VARIABLE
WORKING
CAPITAL

SEASONAL
WORKING
CAPITAL

SPECIAL
WORKING
CAPITAL

Types of Working Capital Needs

22

Another important aspect of working capital management is to analyze the total

working capital needs of the firm in order to find out the permanent and temporary
working capital. Working capital is required because of existence of operating cycle.
The lengthier the operating cycle, greater would be the need for working capital. The
operating cycle is a continuous process and therefore, the working capital is needed
constantly and regularly. However, the magnitude and quantum of working capital
required will not be same all the times, rather it will fluctuate.

The need for current assets tends to shift over time. Some of these changes reflect
permanent changes in the firm as is the case when the inventory and receivables
increases as the firm grows and the sales become higher and higher. Other changes
are seasonal, as is the case with increased inventory required for a particular festival
season. Still others are random reflecting the uncertainty associated with growth in
sales due to firm's specific or general economic factors.

The working capital needs can be bifurcated as:

Permanent working capital

Temporary working capital

Permanent working capital:

There is always a minimum level of working capital, which is continuously required

by a firm in order to maintain its activities. Every firm must have a minimum of
cash, stock and other current assets, this minimum level of current assets, which
23

must be maintained by any firm all the times, is known as permanent working
capital for that firm. This amount of working capital is constantly and regularly
required in the same way as fixed assets are required. So, it may also be called fixed
working capital.3

Temporary working capital:

Any amount over and above the permanent level of working capital is temporary,
fluctuating or variable working capital. The position of the required working capital
is needed to meet fluctuations in demand consequent upon changes in production
and sales as a result of seasonal changes.

The permanent level is constant while the temporary working capital is fluctuating
increasing and decreasing in accordance with seasonal demands as shown in the
figure. In the case of an expanding firm, the permanent working capital line may not
24

be horizontal. This is because the demand for permanent current assets might be
increasing (or decreasing) to support a rising level of activity. In that case line would
be rising.

FACTORS DETERMINING WORKING CAPITAL REQUIREMENTS

There are many factors that determine working capital needs of an enterprise. Some
of these factors are explained below:

Nature or Character of Business.

The working capital requirement of a firm is closely related to the nature
of its business. A service firm, like an electricity undertaking or a transport
corporation, which has a short operating cycle and which sells
predominantly on cash basis, has a modest working capital requirement.
Oh the other hand, a manufacturing concern like a machine tools unit,
which has a long operating cycle and which sells largely on credit, has a
very substantial working capital requirement.
PEC is a manufacturing concern so this requires them to keep a
very sizeable amount in working capital.

Size of Business/Scale of Operations.

PEC has a good position in its segment and they are also spending their
operations in the domestic market as well as in foreign market. The scale
of operations and the size it holds in the market makes it a must for them
to hold their inventory and current asset at a huge level.

Rate of Growth of Business.

The rate of growth of sales indicates a need for increase in the working
capital requirements of the firm. As the firm is projected to increase their
sales by 69% from what it was in 2013, it is required to guard them against
25

the increasing requirements of the net current asset by way of efficient

working capital management. The sales and projected sales level determine
the investment in inventories and receivables.

Price Level Changes.

Changes in the price level also affect the working capital requirements. It
was the reduced margins in the price of the raw materials that had prompted
them to go for bulk purchases thus making on additions to their net current
assets. They might have gone for this large-scale procurement for availing
discounts and anticipating a rise in prices, which would have meant that
more funds are required to maintain the same current assets.

SOURCES OF WORKING CAPITAL

PEC has the following banks available for the fulfillment of its working capital
requirements in order to carry on its operations smoothly:
Banks:
These include the following banks
o Indian Bank
o Syndicate Bank

26

NAME OF BANK

FUND BASED

NON - FUND BASED

INDIAN BANK

300

250

SYNDICATE BANK

200

100

TOTAL

500

350

WORKING CAPITAL CYCLE

The upper portion of the diagram below shows in a simplified form the chain of
events in a manufacturing firm. Each of the boxes in the upper part of the diagram
can be seen as a tank through which funds flow. These tanks, which are concerned
with day-to-day activities, have funds constantly flowing into and out of them.

27

RAW MATERIAL
CASH
OPERATING CYCLE

& BILLS RECEIVABL-ES

SALES

WORK IN PROGRESS

FINISH GOODS

The chain starts with the firm buying raw materials on credit.

In due course this stock will be used in production, work will be carried out on the
stock, and it will become part of the firms work-in-progress.

Work will continue on the WIP until it eventually emerges as the finished product.

As production progresses, labor costs and overheads need have to be met.

Of course at some stage trade creditors will need to be paid.

When the finished goods are sold on credit, debtors are increased.

They will eventually pay, so that cash will be injected into the firm.
28

Each of the areas- Stock (raw materials, WIP, and finished goods), trade debtors, cash
(positive or negative) and trade creditors can be viewed as tanks into and from
which funds flow.
Working capital is clearly not the only aspect of a business that affects the amount of
cash.

The business will have to make payments to government for taxation.

Fixed assets will be purchased and sold
Lessors of fixed assets will be paid their rent

Shareholders (existing or new) may provide new funds in the form of cash

Some shares may be redeemed for cash

Dividends may be paid

Long-term loan creditors (existing or new) may provide loan finance, loans will

need to be repaid from time-to-time, and

Interest obligations will have to be met by the business

Unlike, movements in the working capital items, most of these non-working capital
cash transactions are not every day events. Some of them are annual events (e.g. tax
payments, lease payments, dividends, interest and, possibly, fixed asset purchases and
sales). Others (e.g. new equity and loan finance and redemption of old equity and loan
finance) would typically be rarer events.

29

INVENTORY MANAGEMENT

Inventories

Inventories constitute the most important part of the current assets of large majority of
companies. On an average the inventories are approximately 60% of the current assets
in public limited companies in India. Because of the large size of inventories
maintained by the firms, a considerable amount of funds is committed to them. It is
therefore, imperative to manage the inventories efficiently and effectively in order to
avoid unnecessary investment.

Nature of Inventories

Inventories are stock of the product of the company is manufacturing for sale and
components make up of the product. The various forms of the inventories in the
manufacturing companies are:

Raw Material: It is the basic input that is converted into the finished product
through the manufacturing process. Raw materials are those units which
have been purchased and stored for future production.

30

 Work-in-progress: Inventories are semi-manufactured products. They

represent product that need more work they become finished products for
sale.

Finished Goods: Inventories are those completely manufactured products

which are ready for sale. Stocks of raw materials and work-in-progress
facilitate production, while stock of finished goods is required for smooth
marketing operations. Thus, inventories serve as a link between the
production and consumption of goods.

31

Inventory Management Techniques

In managing inventories, the firms objective should be to be in consonance with the

shareholder wealth maximization principle. To achieve this, the firm should determine
the optimum level of inventory. Efficiently controlled inventories make the firm
flexible. Inefficient inventory control results in unbalanced inventory and
inflexibility-the firm may sometimes run out of stock and sometimes pile up
unnecessary stocks.

Economic Order Quantity (EOQ): The major problem to be resolved is how

much the inventory should be added when inventory is replenished. If the
firm is buying raw materials, it has to decide lots in which it has to purchase
on replenishment. If the firm is planning a production run, the issue is how
much production to schedule. These problems are called order quantity
problems, and the task of the firm is to determine the optimum or economic
lot size. Determine an optimum level involves two types of costs:Ordering Costs: This term is used in case of raw material and
includes all the cost of acquiring raw material. They include the costs incurred in
the following activities:
Requisition
Purchase Ordering
Transporting
Receiving
Inspecting
Ordering cost increase with the number of orders placed; thus the more frequently
inventory is acquired, the higher the firms ordering costs. On the other hand, if
the firm maintains large inventorys level, there will be few orders placed and
32

ordering costs will be relatively small. Thus, ordering costs decrease with the
increasing size of inventory.

Carrying Costs: Costs are incurred for maintaining a given level of

inventory are called carrying costs. These include the following activities:
Warehousing Cost
Handling
Administrative cost
Insurance
Deterioration and obsolescence
Carrying costs are varying with inventory size. This behavior is contrary to that
of ordering costs which decline with increase in inventory size. The economic
size of inventory would thus depend on trade-off between carrying costs and
ordering cost.

ABC System: ABC system of inventory keeping is followed in the

factories. Various items are categorized into three different levels in the order of
their importance. For e.g. items such as memory, high capacity processors and
royalty are placed in the A category. Large number of firms has to maintain
several types of inventories. It is not desirable the same degree of control all the
items. The firm should pay maximum attention to those items whose value is
highest. The firm should therefore, classify inventories to identify which items
should receive the most effort in controlling. The firm should be selective in
approach to control investment in various types of inventories. This analytical
approach is called ABC Analysis. The high-value items are classified as A
items and would be under tightest control. C items represent relatively least

33

value and would require simple control. B items fall in between the two
categories and require reasonable attention of management.

INVENTORY TURNOVER RATIO

The following issues can impact the amount of inventory turnover:

Seasonal build. Inventory may be built up in advance of a seasonal selling

season.

Obsolescence. Some portion of the inventory may be out-of-date and so

cannot be sold.

Cost accounting. The costing method used, combined with changes in prices
paid for inventory, can result in significant swings in the reported amount of
inventory.

Flow method used. A "pull" system that only manufactures on demand

requires much less inventory than a "push" system that manufactures based on
estimated demand.

Purchasing practices. The purchasing manager may advocate purchasing in

bulk to obtain volume purchase discounts. Doing so can substantially increase the
investment in inventory.
When there is a low rate of inventory turnover, this implies that a business may have a
flawed purchasing system that bought too many goods, or that stocks were increased
in anticipation of sales that did not occur. In both cases, there is a high risk of
inventory aging, in which case it becomes obsolete and has little residual value.
When there is a high rate of inventory turnover, this implies that the purchasing
function is tightly managed. However, it may mean that a business does not have the
cash reserves to maintain normal inventory levels, and so is turning away prospective
sales. The latter scenario is most likely when the amount of debt is unusually high and
there are few cash reserves.

34

Inventory Turnover Formula

To calculate inventory turnover, divide the ending inventory figure into the annualized
cost of sales. If the ending inventory figure is not a representative number, then use an
average figure instead. The formula is:
Annual

cost

of

goods

sold

Inventory
Inventory Turnover Period
You can also divide the result of the inventory turnover calculation into 365 days to
arrive at days of inventory on hand, which may be a more understandable figure.
Thus, a turnover rate of 4.0 becomes 91 days of inventory. This is known as the
inventory turnover period.
Inventory Turnover Refinements
A more refined measurement is to exclude direct labor and overhead from the annual
cost of goods sold in the numerator of the formula, thereby concentrating attention on
just the cost of materials.
There are several ways in which the inventory turnover figure can be skewed. For
example:

Cost pools. The contents of the cost pools from which overhead costs are
allocated to inventory may be altered. For example, some items that were charged to
expense as incurred are now allocated.

Overhead allocation. The method for allocating overhead to inventory may

change, such as from using direct labor hours as the basis of allocation to using
machine hours used.

Standard costs. If standard costing is used, the standard cost applied to an

inventory item may diverge from its actual cost.

VARIOUS INVENTORY LEVELS

35

Determination of various levels of inventory is one of the prime responsibility of

Materials Department. The purpose behind setting of different stock levels is to ensure
smooth operation of the enterprise and allocation of appropriate amount of monetary
resources to different items in the inventory. A number of factors affect the
determination of stock levels for different items. Some of these are:

Rate of consumption

Lead time

Storage /warehousing /carrying costs

Insurance cost

Seasonal considerations

Price fluctuations

Economic Order Quantity (EOQ)

Quality of raw material

Availability of space

Availability of funds

Government and other legal and statutory requirements.

A systematic material control results in economy and efficiency in the maintenance of
each item of inventory and at the same time ensures that it is available as and when
required. It helps in avoiding blocking up of funds in unnecessary stock items. Now,
coming back to the topic under discussion, to ensure smooth running of production
process, the materials department of an enterprise sets different levels for each item of
inventory. These levels are:
1. Maximum level
2. Minimum level
3. Reorder level

36

4. Danger or safety stock level

Now lets have a detailed discussion on each one of these.
1. Maximum level: This is the maximum quantity above which stock should never be
held at any time. It is fixed after considering the following factors:

Investment required in stores, raw materials and other items of inventory

Availability of storage space

Lead time for delivery of materials

Obsolescence rate

Consumption rate of materials

Economic Order Quantity

Storage and Insurance costs

Price advantage due to bulk purchases.

Maximum Level can be calculated as:
Maximum Level=Re-order Level Re-order Quantity ( Minimum consumption
Minimum Re-order period)
2. Minimum Level: This is the minimum level below which an item of stoeck should
never be allowed to fall. Minimum level depends on the following factors:

Consumption rate of materials.

Lead time for delivery of materials.

Production requirements.

Minimum order size fixed by suppliers.

Minimum level is computed using the following formula:

37

Minimum level=Re-order level (Normal consumption Normal reorder-period)

3. Danger or safety level: Safety or reserve stock is fixed to avoid stock out
conditions. Carefully fixed safety stock level helps in minimising stock-out and
carrying costs. This level is fixed usually between minimum level and zero level. On
reaching this level, the storekeeper stops issuing materials. However sometimes for
preventive measures, this stock is fixed above minimum level.
Formula for calculating Danger level is:
Danger/Safety level= Ordering Level(Average rate of consumptionRe-order period)
Or
(Maximum rate of consumptionAverage rate of consumption)Lead Time

4. Ordering Level: Ordering Level is that level on reaching which, a fresh order is
placed with the suppliers. This level depends on:

Annual consumption of an item.

Lead time.

Expected usage during lead period.

Minimum Level.
Ordering level is calculated using the formula:
Ordering Level= Minimum Level + consumption during lead period
or
Maximum consumption Lead time + Safety stock
38

or
Maximum consumptionMaximum re-order period

39

CHAPTER 3
DATA ANALYSIS AND INTRPRETATION

3.1 Ratio analysis

1. Current ratio :
The current ratio is a liquidity ratio that measures a company's ability to pay shortterm and long-term obligations. To gauge this ability, the current ratio considers the
current total assets of a company (both liquid and illiquid) relative to that
company's current total liabilities.
CURRENT RATIO = CURRENT ASSETS /CURRENT LIABILITIES

YEARS

2011

2012

2013

2014

2015

CR

1.044

1.062

1.074

1.095

1.042

Table 1.1

1.1
1.09
1.08
1.07
1.06
Column3

1.05
1.04
1.03
1.02
1.01
2011

2012

2013

2014

2015

Figure 1.1

40

Interpretation:
Current ratio is an indicator of companys ability to meet its short term obligations. In fig.
1.1 it can be concluded that current ratio is low as comparison to previous year i.e. 1.042
from 1.095 which indicates that company is not able to meet its current liabilities on time
and inadequate working capital.

2. ABSOLUTE LIQUIDITY RATIO :

Liquidity ratios are a class of financial metrics used to determine a
companys ability to pay off its short-terms debts obligations. Generally, the higher
the value of the ratio, the larger the margin of safety that the company possesses to
cover short-term debts.

ABSOLUTE LIQUIDITY RATIO = CURRENT ASSETS STOCK PREPAID

EXPENSE / CURRENT LIABILITIES

YEARS

2011

2012

2013

2014

2015

LR

0.789

0.915

0.399

1.026

0.971

41

1.2
1
0.8
0.6

Column3

0.4
0.2
0
2011

2012

2013

2014

2015

Figure 1.2

Interpretation:
This ratio is an indicator of short term debt paying capacity of an company and is
better indicator of liquidity.
In figure 1.2 it can be concluded that liquidity ratio is low which means it indicates
overstocking.

42

3. Return on current assets :

The return on assets (ROA) ratio illustrates how well management is
employing the company's total assets to make a profit. The higher
thereturn, the more efficient management is in utilizing its asset base. The
ROA ratio is calculated by comparing net income to average total assets,
and is expressed as a percentage.

Return on current assets = net income / total assets

years

2011

2012

2013

2014

2015

ROA

0.024

0.027

0.029

0.011

0.038

Table 1.3

0.04
0.04
0.03
0.03
0.02

Column3

0.02
0.01
0.01
0
2011

2012

2013

2014

2015

Figure 1.3

43

Interpretation:
There is sharp rise in the ratio from 2014 to 2015 i.e. from 0.011 to 0.038
which indicates that company is utilizing its current assets in more efficient
manner.

4. Debtors turnover ratio:

The receivables turnover ratio is an activity ratio measuring how efficiently a firm
uses its assets. Receivables turnover ratio can be calculated by dividing the net
value of credit sales during a given period by the average accounts
receivable during the same period.

Debtors turnover ratio= net credit sales / average debtors

Where, average debtors =opening debtors + closing debtors / 2

years

2011

2012

2013

2014

2015

DTR

3.38

2.98

0.55

3.20

2.33

Table 1.4

44

3.5
3
2.5
2
Column3
1.5
1
0.5
0
2011

2012

2013

2014

2015

Figure 1.4
Interpretation:
This ratio indicates number of times the receivables are turned over in a year in
relation to sales. It shows how quickly debtors are converted into cash.
In 2011 there is high ratio which indicates that debts are being collected more
promptly. But after 2011 there is decline in ratio then again rise in 2014 but in
2015 there is decline which means inefficiency in collection and more
investment in debtors than required.

5. Creditors turnover ratio :

The accounts payable turnover ratio is a short-term liquidity measure used to
quantify the rate at which a company pays off its suppliers.Accounts payable
turnover ratio is calculated by taking the total purchases made from suppliers and
dividing it by the average accounts payable amount during the same period.

Creditors turnover ratio = net credit purchases / average creditors

45

years

2011

2012

2013

2014

2015

CTR

2.10

0.417

3.047

3.341

Table 1.5

3.5
3
2.5
2
Column3
1.5
1
0.5
0
2011

2012

2013

2014

2015

Figure 1.5
Interpretation:
The objective is to establish the number of times the creditors are turned over
in relation to purchases.
In 2015 ratio is very high as compared to other previous years which indicates
that company is not availing the full credit period and this boosts up the credit
worthiness of the company as it is being seen from above table 1.5 and figure
1.5 for PEC.

46

6. Debt equity ratio :

The debt-to-equity ratio (D/E) is a financial ratio indicating the relative
proportion of shareholders' equity and debt used to finance a company's assets.
Closely related to leveraging, the ratio is also known as Risk, Gearing or
Leverage.

Debt equity ratio = total liability / total equity

YEARS

2011

2012

2013

2014

2015

D/E

20.1

16.80

14.81

9.66

22.19

Table 1.6

25

20

15
Column3
10

0
2011

2012

2013

2014

2015

Figure 1.6

47

INTERPRETATION:
The objective is to measure relative proportions of outsiders fund and
shareholders fund invested in company. Judges the long term financial
position and soundness of long term financial policies of firm.
In 2015 there is rise in the ratio as compared to previous years which
indicates a risky financial position which further indicates that firm
depends upon outsiders for there existence.

7. Working capital turnover ratio :

The working capital turnover ratio shows the relationship between the funds used to
finance a company's operations and the revenues a company generates as a result of
conducting these operations. A higher working capital turnover ratio indicates that a
company generates a higher dollar amount of sales for every dollar of the working capital
used.

Working capital turnover ratio = working capital/sales*100

years

2011

2012

2013

2014

2015

WCTR

2.60

3.11

3.19

3.42

2.32

Table 1.7

48

3.5
3
2.5
2

WCTR

1.5
1
0.5
0
2011

2012

2013

2014

Figure 1.7

Interpretation:
The objective of computing this ratio is to ascertain whether or not working capital has
been effectively utilized in making sales.
in figure 1.7 it can be seen that from 2012 to 2014 there is slight variation but ratio is
stable and high which is good for company but in 2015 there is decline in ratio

8. Net working capital ratio :

Net working capital is the aggregate amount of all current assets and current
liabilities. It is used to measure the short-term liquidity of a business, and can also
be used to obtain a general impression of the ability of company management to
utilize assets in an efficient manner.

49

Net working capital ratio = current assets current liabilities/ sales

years

2011

2012

2013

2014

2015

NWC

0.026

0.031

0.03

0.034

0.023

Table 1.8
0.04
0.03
0.03
0.02
Column3
0.02
0.01
0.01
0
2011

2012

2013

2014

2015

Figure 1.8

Interpretation:
The objective of this ratio is to utilize its current assets in an efficient manner.
In above figure 1.8 it is clear that in 2015 there is decline in ratio i.e from 0.034 to 0.023
which is not good for company.

50

CONCLUDING ANALYSIS

The working capital position of the company is sound and the various sources
through which it is funded are optimal.
The company has used its purchasing, financing and investment decisions to good
effect can be seen from the inferences made earlier in the project.
The various ratios calculated are an indicator as to the fact that the profitability of
the firm and sales are on a rise and also the deletion of the inefficiencies in the
working capital management.
The firm has not compromised on profitability despite the high liquidity is
commendable.
PEC ltd. has reached a position where the default costs are as low as negligible and
where they can readily factor their accounts receivables for availing finance is
noteworth

51

ESTIMATION OF NET WORKING CAPITAL

PARTICULARS
CURRENT

2011
60228.86

2012
58271.39

2013
5345.92

2014
3839.70

2015
3566.94

ASSETS(CA)
CURRENT

57636.61

54837.11

4973.78

3504.27

3423.06

3434.28

372.14

335.43

143.88

LIABILITIES(CL
)
NET WORKING 2592.25
CAPITAL=CA-CL
Table 1.9

INTERPRETATION:
net working capital means aggregate amount of all current assets and current liabilities and used to
measure short term liquidity of an organization.
In above table 1.9 it can be concluded that working capital from year 2011 to year 2015 has decreased
from 2592.25 to 143.88. this means that capital required to meet its current liabilities are not sufficient
enough therefore more capital is required by the company at present and also in future.

CASH AND CASH EQUIVALENTS

52

PARTICULARS
(A)CASH
EQUIVALENTS
(i) cash on hands
(ii)
cheques,
drafts in hand
Balances with
banks
(i)in current/cash
credit accounts
(ii)in
EEFC
accounts
(iii)in deposits
account
Maturing within
3 months
Maturing
between
3-12
months
TOTAL

PROVISION
FOR
BLOCKED
FUNDS
IN
FOREIGN
BANK
(B)
OTHER
BANK
BALANCES
(i) in deposit
accounts
Maturing
between
3-12
months
Maturing after
12 months
TOTAL(A+B)

2011

2012

2013

2014

2015

0.001

169.15

256.72

30.95

10.01

4.05

4.78

104.51

1.08

138.05

0.17

84.58

19.77

10.01
(0.04)

4.05
(0.04)

9.97

4.01

3.58

0.83

315.01

3.54

0.77

0.09

0.04

0.06

311.98

465.58

347.30

13.55

4.84

Table 1.10

FINANCING OF WORKING CAPITAL

53

PARTICULARS
(A)CASH CREDIT FROM
United bank of india
Corporation bank
Vijaya bank
(B)OVERDRAFT FROM
Indian bank
Syndicate bank
(C)DEMAND LOAN
Punjab national bank
Deutsche bank
TOTAL

AS AT 31ST MARCH, 2015(RS. IN CRORE)

100.00
499.99
6.93
156.97
100.00
175.00
1298.89
Table 1.11

WORKING CAPITAL FINANCING MIX

Working capital is financed both internally and externally through long-term and short-term funds,
through debt and ownership funds. In financing working capital, the maturity pattern of sources of
finance depended much coincide with credit period of sales for better liquidity.
Generally, it is believed that funds for acquiring the fixed assets should be raised from long term
sources and short-term sources should be utilized for raising working capital. But in the recent modern
enterprises, both the types of sources are utilized for financing both fixed and current assets.
There are basically three approaches to financing working capital. These are: the Hedging approach,
the Conservative approach and the Aggressive approach.

1.

Hedging Approach: The hedging approach is also known as the matching approach. Under this

approach, the funds for acquiring fixed assets and permanent current should be acquired with long term
funds and for temporary working capitalshort term funds should be used.

54

2. Conservative Approach: This approach suggests that in addition to fixed assets and permanent
current assets, even a part of variable current assets should be financed from long-term sources.
The short-term sources are used only to meet the peak seasonal requirements. During the off
season, the surplus fund is kept invested in marketable securities. Surplus current asset enable the
firm to absorb sudden variation in sales, production plans, and procurement time without
destructing production plans. Additionally the higher liquidity level reduces the risk of insolvency.
But lower risk translates into lower returns. Large investment in current asset lead to higher
interest and carrying cost and encouragement for efficiency. But conservative policy will enable
the firm to absorb day to day risk. It assures continuous flow of operation and illuminates worry
about recurring obligation. Under this strategy, long term financing covers more than the total

55

requirement of capital. The excess cash is invested in short-term marketable securities and in need
these securities are sold off in the market to meet the urgent requirement of working capital.

Financing
Strategy
in
Equation:
Long Term Funds will Finance = Fixed Assets + Permanent Working Capital + Part of Temporary
Working
Capital
Short Term Funds will Finance = Remaining Part of Temporary Working Capital

3. Aggressive Approach: This approach depends more on short-term funds. More short-term
funds are used particularly for variable current assets and a part of even permanent current assets,
the funds are raised from short term sources. Under this approach current assets are maintained
just to meet the current liabilities without keeping cushions for the variation in working capital
needs. The companies working capital is financed by long-term source of capital and seasonal
variation are met through short-term borrowing. Adoption of this strategy will minimize the
investment in net working capital and ultimately it lowers the cost financing working capital
56

needs. The main drawback of this strategy is that it necessitates frequent financing and also
increase, as the firm is variable to sudden shocks. Risk preferences of management shall decide
the approach to be adopted. The risk neutral will adopt

the hedging approach, the risk averse

will adopt the conservative approach and risk seekers will adopt the

aggressive approach.

Following table gives a summary of the relative costs and benefits of the three different approaches:

Factors

Conservative

Aggressive

Hedging

More

Less

Moderate

Liquidity

57

Profitability
Less

More

Moderate

More

Less

Moderate

Less

More

Moderate

Less

More

Moderate

More

Less

Moderate

Cost

Risk

Asset utilization

Working capital

Thus management of working capital is concerned with determining the investment needed and deciding
the financing pattern. You would be now knowing that deciding the financing pattern is essentially
determining the size and composition of current liabilities in relation to those of current assets. Cost of
different types of funds (the long-term and short-term funds), the return on different type of current
assets, ability to bear risk, desired liquidity levels, etc. have to be considered to decideworking capital
management related issues.

58

BIBLIOGRAPHY

Following sources have been sought for the preparation of this report:

Corporate Intranet

Financial Statements (Annual Reports)

CMA Data

Direct interaction with the employees of the company

Internet ----

www.PEC.co.in

www.scribd.com

www.mbaknol.com

www.efinance management.com

Studytesttime.com

Textbooks on financial management I.M.Pandey

R.P. RUSTAGI

59

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