01-08-2012, 11:59 AM
Working Capital Finance
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Trade Credit
Customer gets from supplier of goods in normal course of business.
An informal arrangement, granted on an open account basis, not formally acknowledge as a debt.
Trade credit may also take the form of bills payable.
Credit Terms refers to the conditions of due date and cash discount.
Pros and Cons
Advantages
Easy Availability.
Flexibility.
Informality.
Disadvantages
Implicit Cost.
Stretching A/P can prove to be very costly.
Accrued Expenses and Differed Income
Accrued Expenses
Accrued Wages and Salaries.
Accrued taxes and Interest.
Deferred Income
Advance Payments.
Regulation of Bank Finance
Dehejia Committee (1968)
Tandon Committee (1974)
Chore Committee (1979)
In the deregulated economic environment in India recently, banks have considerably relaxed their criteria of lending. In fact, each bank can develop its own criteria for the working capital finance.
Dehejia Committee–Existing Deficiencies
It is the borrower who decides how much he would borrow; the banker does not decide how much he would lend and is, therefore not in a position to do credit planning.
The bank credit is treated as first source of finance and not as supplementary to other source of finance.
The amount of credit extended is based on the amount of security available, not on the level of operations of borrower.
Security does not by itself ensure safety of bank funds since all bad and sticky advances are secured advances; safety essentially lies in the efficient follow-up of the industrial operations of the borrower.
The Tandon Committee Recommendations
Operating Plan
Production Based Financing
Partial Bank Financing
Maximum Permissible Bank Finance
First Method
Second Method
Third Method
The Chore Committee Recommendations
Reduced Dependence on Bank Credit.
Credit limit to be separated into “peak level” and “normal peak level” limits.
Existing Lending System to Continue.
Information System.
Commercial Paper
Unsecured promissory notes issued by firms to raise short-term funds.
In India introduced in 1989 on recommendation of the “Vaghul Working Group”.
Commercial papers sell at a discount from face value.
Merits and Demerits
Merits
Alternative Source of Finance.
High Liquidity in Money Market.
Low Cost of C.P.
Investors – Investment of Surplus funds.
Demerits
Impersonal Method of financing.
Only available to financially sound companies.
Can not be redeemed until maturity.
Limited to the amount of excess liquidity of purchasers.