gaurav manchanda-final report sip
TRANSCRIPT
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SUMMER TRAINING REPORT
On
ADVANCES MANAGEMENT
Indian Overseas bank
Submitted in partial fulfillment of the requirements of
Post Graduate Programme
By
Gaurav Manchanda
2012-2014
FT-12-109
IILM Institute for Higher Education
Greater Noida
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2
DECLARATION FORM
I hereby declare that the Project work entitled ADVANCES submitted by me for the
Summer Internship during the Post Graduate Program to IILM Institute for Higher
Education is my own original work and has not been submitted earlier either to IILM or to
any other Institution for the fulfillment of the requirement for any course of study. I also
declare that no chapter of this manuscript in whole or in part is lifted and incorporated in this
report from any earlier / other work done by me or others.
Signature of Student: _____________
Name of Student: _______________
Date:
Place:
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ACKNOWLEDGEMENT
I would like to express my gratitude to all those who gave me opportunity and help to
complete this project report. I would like to thank Indian Overseas Bankfor providing me
opportunity to work with them and giving guidance in completing the project to the best of
my abilities. I would like to extend my special gratitude to Miss Rashmi Agarwal, Assistant
Manager, Advances Department, Indian Overseas Bank, for being my company guide and
providing me an insight into various issues pertaining to the case mentioned in the report. Her
professional advice given throughout the completion of this project will not be forgotten. I
would also like to thank my team members Miss. Kritika Gupta and Mr. Anand Kumar
for their assistance, motivation and being a continual source of encouragement and guiding
me to complete this project successfully. I am highly indebted to Prof. Rajkishan Nair for
his mentorship and valuable suggestions that gave immense confidence and encouragement
that helped me to put in my best. I am also thankful to my parents because of whom I am
capable of pursuing pgdm. Last but not the least I would like to thank my friends and
classmates who gave me a positive feedback and a competitive frame of mind while making
this report.
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TABLE OF CONTENTS
S.No Name of the Topic Page no. Remarks
Executive Summary 6
Objectives 8
Chapter - 1 Company Profile1.1 Introduction 9
1.2 Corporate Social Responsibility 11
1.3 Socio- Economic responsibilities 11
Chapter- 2 Introduction to the Project
2.1 General concepts of loans andAdvances 12
2.2 Basel- II AccordA measure ofRisk Adequacy
13
2.3 Lending and Advances 15
2.4 Types of Advances 16
2.5 Financial Analysis of Lending 18
2.6 Methods of Credit Rating 23
2.7 Methods of Assigning Credit
Limits and Drawing Power
23
2.8 Securities used against Lending 24
2.9 Modes of Charging Securities 25
2.10 Credit Appraisal 26
2.11 Credit Appraisal Process 27
Chapter - 3 Working Capital Finance
3.1 Introduction 28
3.2 Operating cycle 29
3.3 Working capital financing bybanks 30
3.4 Form of assistance 30
Chapter - 4 Working Methodology4.1 Procedure of Credit Appraisal 32
Chapter - 5 Analysis
5.1 Working Capital Analysis 41
5.2 Ratio Analysis 45
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Chapter - 6 Case StudyXYZ Media Ltd. 46
Recommendations 57
Limitations 58Conclusion 59
References 60
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Executive Summary
Bank lending is an art as well as a science. There are several techniques, tools, methods and
principles which are mechanical and can work as guide to action or aid to perfection with
some of them have an inherent property that they are not static and are drawn from
experiences primarily used for appraising a credit proposal. Every lender should remember
and follow the basic principles of lending i.e. Safety, Security, Suitability, Profitability,
Integrity, Adequacy of Finance and Diversion of Risk. While considering and sanctioning
loans, banks usually investigate the prospective borrower effectively and efficiently.
Effective investigation means the collection and interpretation of all the required data and
efficient investigation will ensure that time and money are not wasted in the process. The
prime focus of this report is to enlighten the purpose and process of credit investigation and
subsequently how credit proposals are made. Different types of advances, method of
assigning credit limit and drawing power to individuals and business units has also been a
part of study during the internship period. The main purpose of the credit investigation is to
determine the business reputation, credibility and responsibility of the individuals involved
with particular reference to their experience in the line of activity, dealings with customers
trading or dealing with them, management capability, professional reputation with their
bankers, history of payment record and fulfillment of financial obligations, honesty and
integrity, willingness to repay the debt. A thorough credit investigation should take into
account the economic and business environment in which the prospective borrower is placed
.The process of credit investigation involves study of both financial and non-financial aspects
of the proposed borrower. Credit investigation includes ascertaining the creditworthiness of
the guarantors also.
Analysis of financial statements forms an integral part of a proposal and it is an important
tool for decision making. Key financial indicators assist a banker in taking qualitative credit
decisions. Normal credit risk is inherent in any advance. Analysis helps a banker in careful
evaluation of risks to arrive at a decision on calculated risk. The basic aspects of analyzing
financial statements include analysis of financial data of an organization in two statements
i.e. balance sheet and profit and loss account. While the balance sheet reflects the financial
position as on a particular date, the relative profit and loss account discloses the working
results of the enterprise during the preceding twelve months. The major aim of analyzing the
balance sheet is to examine the position of liquidity of the enterprise. The other importantattachments of the balance sheet are the Auditors report and Directors report. The Auditors
report is the end product of every audit which implies that the auditor has examined the
relevant records, in accordance with generally accepted auditing practices and is expressing
an opinion on whether or not the financial statements reflect a true and fair view of the state
of affairs and the working results of an enterprise. Then the ratio analysis is one of the most
important aspect which should be taken into consideration, this includes Tangible Net worth
(TNW), Total outside liabilities (TOL)/Tangible Net Worth, Funded Debt to Equity Ratio,
Current Ratio, Net Working Capital. Appraisal of Term Loan, Working Capital, Non-Fund
based facilities, the credit rating methods applied by the bank to rate the credibility of the
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prospective clients, risk management processes and Credit monitoring have also been
discussed in the report.
Later, the report includes the conversion of accounts into standard or bad debts. The
treatment of those Non-performing assets and the recovery of the same along with the legal
procedure followed by the bank are discussed in great detail. A model credit proposal of a
company (with changed personal details) is also given in the report which was witnessed
during the summer internship program. Finally, conclusion and recommendation as per the
analysis during the training period winds up the report.
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Objectives
The objective of this report is to understand the entire process involved in successful lending
by the bank as per the norms of the Reserve Bank of India and the authority that governs the
functioning of Indian Overseas Bank which involves principles of lending, Credit
investigation i.e. the assessment of the credit worthiness of the borrowers and estimation of
the net worth of the assets owned by him. The whole process of financial analysis involving
assessment of the balance sheets, P & L account, ratio analysis, then the purpose and detailed
analysis of the appraisal of term loan have also been a potential objective of this report.
Working capital, Non-Fund based facilities, rating of borrower accounts, Credit Risk
Management Policies, Credit Monitoring, Non Performing Assets (NPAs) and the recovery
policies are also some of the vital castles of this report and one of the major objective of this
report is to present detailed conceptualization which would prove to be valuable in
comprehension and formation of credit proposal and Credit Monitoring Arrangement (CMA).
The project is likely to help organization understand the various issues related to the
advances, giving it certain solutions to reduce the loses due to non recovery of loans and
maintain a healthy trend line of decreasing net NPA thereby helping it to maintain a balance
between its deposits and advances and an increase in its percentage yield.
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Chapter1
Company Profile
1.1 IntroductionIndian Overseas Bank (IOB) was founded in February 10th of the year 1937 by Shri. M. Ct.
M. Chidambaram Chettyar, a pioneer in many fields Banking, Insurance and Industry with
the twin objectives of specializing in foreign exchange business and overseas banking. IOB
had the unique distinction of commencing business in 10th February 1937 (on the inaugural
day itself) in three branches simultaneously - at Karaikudi and Chennai in India and Rangoon
in Burma (presently Myanmar) followed by a branch in Penang. Indian Overseas Bank has an
ISO certified in-house Information Technology department, which has developed the
software that 900 branches use to provide online banking to customers. At the dawn of
Independence IOB had 38 branches in India and 7 branches abroad. The Products & Servicesof the bank includes NRI Services, Personal Banking, Forex Services, Agri-Business
Consultancy, Credit Cards, Any Branch Banking and ATM Banking. Saga of the IOB is
covered into four categories, such as Pre-nationalization era (1947- 69), at the time of
Nationalization (1969), Post - nationalization era (1969-1992) and Post-Reform Period -
Unprecedented developments (1992 & after). In Pre-nationalization era (1947- 69), IOB
expanded its domestic activities and enlarged its international banking operations. As early as
in 1957, the Bank established a training centre, which has now grown into a Staff College at
Chennai with 9 training centres all over the country.IOB was the first Bank to venture into
consumer credit. It introduced the popular Personal Loan scheme during this period. In 1964,the Bank made a beginning in computerization in the areas of inter-branch reconciliation and
provident fund accounts. In 1968, IOB established a full-fledged department to cater
exclusively to the needs of the Agriculture sector. At the time of Nationalization (1969), IOB
was one of the 14 major banks that was nationalized in 1969. On the eve of Nationalization in
1969, IOB had 195 branches in India with aggregate deposits of Rs. 67.70 Crs. and Advances
of Rs. 44.90 Crs. In Post - nationalization era (1969-1992), during the year 1973, IOB had to
wind up its five Malaysian branches as the Banking law in Malaysia prohibited operation of
foreign Government owned banks. This led to creation of United Asian Bank Berhad in
which IOB had 16.67% of the paid up capital. In the same year Bharat Overseas Bank Ltd
was created in India with 30% equity participation from IOB to take over IOB's branch at
Bangkok in Thailand. In 1977, IOB opened its branch in Seoul and the Bank opened a
Foreign Currency Banking Unit in the free trade zone in Colombo in 1979. The Bank
sponsored 3 Regional Rural Banks viz. Puri Gramya Bank, Pandyan Grama Bank and
Dhenkanal Gramya Bank. The Bank had setup a separate Computer Policy and Planning
Department (CPPD) to implement the programme of computerization, to develop software
packages on its own and to impart training to staff members in this field. In the year 1988,
IOB acquired Bank of Tamil Nadu in a rescue. In Post-Reform Period - Unprecedented
developments (1992 & after), IOB formulated its Web site during the month of February in
1997. The Bank got autonomous status during the year 1997-98. IOB had the distinction ofbeing the first Bank in Banking Industry to obtain ISO 9001 Certification for its Computer
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Policy and Planning Department from Det Norske Veritas (DNV), Netherlands in September
1999. IOB started its STAR services in December of the year 1999 for speedy realisation of
outstation cheques. Now the Banks has 14 STARS centres and one Controlling Centre for
providing this service and in the same year started tapping the potential of Internet by
enabling ABB cardholders in Delhi to pay their telephone bills by just logging on to MTNLweb site and by authorising the Bank to debit towards the telephone bills. The Bank made a
successful debut in raising capital from the public during the financial year 2000-01, despite a
subdued capital market. IOB bagged the NABARD's award for credit linking the highest
number of Self Help Groups for 2000-2001 among the Banks in Tamil Nadu. Mobile banking
under SMS technology was implemented in Ahmadabad and Baroda. Pilot run of Phase I of
the Internet Banking commenced covering 34 branches in 5 Metropolitan centers. IOB was
one among the first to join Reserve Bank of India's negotiated dealing system for security
dialing online. The Bank has finalized an e-commerce strategy and has developed the
necessary Internet banking modules in-house. For the first time a Total Branch Automation
package developed in-house has been customized in one of the Overseas Branches of the
Bank. Most software developed in-house. During the year 2002-03, a new credit scheme
Shubh Yatra' was introduced to provide loans to those who undertake foreign travel for
tourism, employment and medical treatment. During the year 2004, the Government OF India
selected IOB for channelizing government credit to other countries, which runs into billions
of dollars. And also in the same year the bank made tie up with Times Online Money to
launch an Internet-based remittance product, e-Cash Home, targeted at NRIs in the US
wishing to transfer money to India. IOB made pact with Chola for MF products. During the
year 2005, the bank joined hands with Visa to offer debit cards to its esteemed customers. In
the year 2006, IOB inked MoU with CRI Pumps. In September 2006, Indian Overseas Bank(IOB) has finally taken control of Bharat Overseas Bank (BhOB), an unlisted private bank.
This is the first instance of a public sector bank taking over a strong private sector bank
without resorting to the moratorium route. During May of the year 2007, Indian rating agency
ICRA assigned an 'A1+' rating to the proposed 20 bln rupee certificates of deposit
programme of Indian Overseas Bank, citing the bank's consistent and measured growth, the
improvement in its asset quality through effective monitoring and collection systems, and
improving core profitability. During June of the year 2008, IOB launched two new products
namely IOB Gold' and IOB Silver' in savings account and IOB Classic' and IOB Super' under
current account. IOB have a network of more than one thousand eight hundred branches all
over India located in various metropolitan cities, urban, suburban and rural areas. IOB plans
to set up banking operations in Malaysia in a joint venture with two other India-based banks
Bank of Baroda and Andhra Bank with a minimum capital investment of RM320 million
(US$100 million).
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1.2 Corporate Social Responsibility
Company has taken several CSR steps help the society upto the maximum possibility.These
initiatives are:
IOB-Sampoorna Project - A Total Village Development ProjectThis project is primarily a rural development project aiming at complete development
of Village or Total Village Development named as IOB-Sampoorna in
Kuthambakkam and Padur Villages in TiruvallurDistrict, Kameshwaram village in
Nagapattinam District, Dhaliyur Village in CoimbatoreDistrict and Innambur village
in Thanjavur District of Tamil Nadu. This project is a unique example of Inclusive
growth at rural level.
Rural Self Employment Training Institutes (RSETIs)Bank had set up RSETIs at Thiruvananthapuram (Kerala State), Tirunelveli,Thanjavur and Trichy (Tamilnadu State) to provide training to farmers, members of
SHGs, beneficiaries under SGSY, Educated Unemployed Youths, Artisans and
Beneficiaries belonging to weaker sections.
Sakthi Memorial TrustThe Trust set up by Indian Overseas Bank in the memories of Founder Shri M.Ct.M.
Chidambaram Chettiar for the purpose of entrepreneurial development of women
through Entrepreneurial Development Programmes (EDPs) to make them financially
and socially strong.
Financial Literacy and Credit Counselling Centres (FLCCC) viz., SNEHAFor the purpose of financial literacy i.e. the awareness about financial products, IOB
set various FLCCC With a view to promote financial education.
1.3 Socio-Economic Responsibilities
Rajbhasha (Official Language Policy)IOB promoted Hindi through IOB Praveen and Banking Pragya Courses. Other than this to
promote Hindi IOB has taken various tangible steps like translating various meetings intoHindi, IOB official have access to Banking terminology available on IOB online .Various
documents related to bank like pass books, statement of account, DD &Deposit receipts are
also provided in Hindi. Availability of banks website is also an epitomic example of social
inclusion step taken by IOB. .
Aadhar Registration:IOB has provided the access to Aadhar registration and direct remittance facility.
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Chapter2
Introduction to the project
2.1 General Concepts of Loans and Advances
BORROWER:
A borrower in the loan agreement is a party which receives money and promises to repay it.
The borrower can be an individual, a company, a firm etc.
PURPOSE:
A banker should always keep in mind that the purpose for which the borrower is applying for
finance should not be anti social. The objective should be legal and should have good cause.
BORROWERS STAKE OR MARGIN:
The part of the loan that needs to be paid or contributed by the owner or venture. This
percentage is fixed which depends on some important factors like nature of business, level of
risk, guidelines of RBI.
INTEREST:
The profit generated by lending in return on the advances disbursed by the bank.
SECURITY:
Bank keeps adequate which may either be collateral in nature or in the form of personal
guarantee. By doing this a borrower is bound to repay or it can also be considered as a an
alternative for bank to recover its lending amount by liquidation of this security. Easily
transferable, marketable and stable are some of the prime properties of the security which a
banker should always keep in mind.
PRINCIPLES OF LENDING
Every lender should remember and follow the basic principles of lending:-
SafetyThe safety of funds lent by a bank is of paramount importance. The banks business
rests upon the public trust it enjoys and anything likely to shake this confidence such
as doubts regarding the safety of funds lodged with it, must be carefully avoided. The
advance should be guaranteed to a reliable borrower who can repay the loan in the
ordinary course of business.
SecuritySecurity is taken as a form of insurance so that it is available to fall back upon in the
event of some unforeseen developments taking place.
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SuitabilityBanker should concentrate his lending on purposes, which are desirable from thestand point of economic health of the nation and economic imperatives of the
country.
ProfitabilityAn advance must be guaranteed at a rate of interest considered satisfactory in relation
to the risk entailed and keeping in view the amount of work and expenses the amount
will cause to the bank.
LiquidityA bank would remain liquid if its advances are also liquid. In order to meet the
demands of the depositors, it is essential for the banker to ensure that borrower would
be in a position to repay the loan either on demand or within a reasonable period
thereafter.
IntegrityNo advance should be made to a borrower of doubtful integrity. A banker should be
concerned about the business integrity of the borrower.
Adequacy of financeA prudent banker would not lend a sum, which is inadequate to finance a given
project. If he does, not only he kills the project but sinks the advance as well because,
a partly completed project cannot generate money to pay for the investment.
TimelinessNot only that adequate finance be made available to the borrower, it is also important
that it is given in time. It is better not to give the finance at all rather than giving it
after a considerable lapse of time. Many opportunities might have been last due to
delay or many crises could have been averted but for the delay.
Diversification of RiskBanker should be ensured that the advances are diversified in a good number of
customers.
2.2 BASEL II ACCORD: A measure of risk adequacy
For the purpose of regulations about how much capital banks should put aside to guard
against various types of financial and operational risk , bank supervisors and central bankers
from the 13 countries which forms the Basel Committee on Banking Supervision(BCBS)recommended Basel II or The New Accord (correct full name is the International
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Convergence of Capital Measurement and Capital StandardsA Revised Framework) which
is the second Basel published in June 2004.Its a kind of recommendations on banking laws
and regulations.
THE ACCORD IN OPERATION: Minimum Capital Requirement Supervisory review Market Discipline
1
BASEL II
1. MINIMUM CAPITAL REQUIREMENTSCapital charges Stipulation for the improvement of risk management
BASEL II
MINIMUM CAPITAL
REUIREMENT
SUPERVISORY
REVIEWMARKET DISCIPLINE
Capital charges
Stipulation for the
improvement of
risk management
To avoid strategic,
reputational risks
and to practice
best risk practices,
creation of
Supervision
framework.
It requires banks to
disclose capital
structures, capital
adequacy and risk
exposures.
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Borrower comes to the bank with a loan proposal, colleateral security and appropriate
financial details. Now bank verifies the purpose, credit worthiness and repayment capacity of
the borrower. Than bank make a credit proposal of the borrower and send this credit proposal
to the Regional Office . Now Regional Office verifies the proposal and then, either approve
or reject the loan. Banks provide to kinds of loan facilities:
2.4Types of AdvancesBanks provide to kinds of loan facilities:
i. Fund Based Facilities (Fund Based Advances)Fund based Facilities includes term loans, demand loans, cash credit, overdraft, bill
discounted etc.
ii.
Non-Fund Based Facilities (Non Fund Based Advances)Non-Fund Based Facilities includes letters of credit and bank guarantee.
.Indian Overseas Bank offers a wide range of services in the loans and advances segment
some of which are indexed here:
i. Personal loanii. Educational loans
iii. Loans on bank term depositsiv. Loans against National Saving Certificates (NSC)v. Loans against Insurance Policies
vi. Loans against Gold jewels
TYPES OF ADVANCES
FUND BASED
ADVANCES
Includes term loans,
demand loans, cash
credit, overdraft, bill
discounted etc.
NON-FUND BASED
ADVANCES
Includes
Letters of credit and
bank guarantee.
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vii. Loans against Collateral Security, Stocks and debtorsviii. Loans against shares.Term
Term of the loan can be defined as the length of the time in which borrower have to repay theloan or debt. Debt financing can be either long-term or short- term:
i. Long Term LoanFor the purpose of purchasing, improving or expanding fixed assets such as pant,
facilities, major equipments and real estate one can seek bank for long term financing.
If someone is buying some asset and seeking loan from bank he or she has to repay
the amount within the useful life of the asset. In todays lending environment the rate
of interest is more in long term debt financing because of the risk carry by the of the
extending period of time. Long term debt financing also needs more substantialcollateral.
ii. Short Term loanCyclic needs, inventory needs, accounts payable and working capital are the prime
mottos behind short term loans.
Secured and Unsecured debt
Debt financing can also be secured or unsecured.
Secured DebtA secured loan is a promise to repay the debt along with the promise id secured by collateral
of the debtor. Bank can recover the debt by seizing and liquidating the specific property
.Lenders usually ask for collaterals from small startups for either long term or short term
because it is the value of the pledged collateral which is critical to the secured lender.
Lenders usually disburse loan after conservatively valuing the collateral of the borrower and
even the lender can also loan only a percentage of the appraised value of the collateral, in this
way lenders reduce the risk. The maximum loan amount, compared to the value of the
collateral, is known as the loan-to-value ratio.
Unsecured debt
Unsecured loan is also a promise to pay a debt but without any security or collateral.
Consumer Credit Card is a common example of unsecured loan but the main factors which
substantially hold position in such kind of loans are credit worthiness of the borrower and
reputation of the borrower. Sometimes it may also happen that working capital loans are also
unsecured. Usually any lender dont sanction unsecured loan for small business till it has an
established history and this is because of businesss risk.
Such kinds of loans have much risk since lender cannot claim any priority claim against any
particular property.
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Letter of Credit
With near cash characteristics i.e. no fluctuation with market conditions and can be cashed in
when presented to the issuing bank, Letter of Credit has been considered as a valuable widely
used collateral for many years in securities lending industry. Letter of Credit is a kind of bank
guarantee which bank issues whenever there is a contract between two parties, according towhich bank guarantees to pay the agreed amount on behalf of its client. Letter of credit is
operationally efficient collateral which carries very low settlement risk. Usually used in
international transactions, where two nations find it difficult to understand each other
personally due to different legal systems .
Bank Guarantee
Bank guarantee is a kind of guarantee provided by a lending institution which depicts that if
the debtor fails to repay a debt, bank will cover it . This kind of guarantee helps the debtor to
expand the business by acquire goods, buy equipment or draw down loans. Bank guarantee isusually used in cases like when a buyer buys goods from seller. And it runs into cash flow
difficulties and cant pay to the seller. Similarly if the supplier was unable to provide goods,
the bank will pay from supplier side to buyer. Its a kind of safety measure for the supposing
party in the transaction.
Specific types of bank loans
There are certain other specific kinds of loans which are issued by bank to small businesses:
Working capital lines of credit for the ongoing cash needs of the business Credit cards: higher-interest, unsecured revolving credit Short-term commercial loans for one to three years Longer-term commercial loans: generally secured by real estate or other major
assets
Equipment leasing for assets you dont want to buy outright Letters of credit for businesses engaged in international trade
2.5Financial analysis of lendingFinancial analysis is a complete evaluation of the financial data for the purpose of
assessment of stability, viability and profitability of a venture or project or business.
A banker must go through financial analysis to assess the companys financial condition
and to decide whether the borrower is able to repay the loan amount.
Financial analysis assesses the firms:
1. ProfitabilityCompanys ability to earn income and both short term and long term growth
which can be assessed by assessment of the companys income statements.
2.
SolvencyAbility of the company to repay long term payment of obligations.
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3. LiquidityCompanys ability of covering immediate obligations and to maintain a healthy
positive cash flow.
4. StabilityThe firms stability can be assessed by looking at its ability to sustain in thebusiness for long term without incurring too much loss and these attributes can be
assessed by balance sheet, P and L A/c and other non-financial indicators.
Steps involved in financial analysis of lending
Step 1:In this step, bank requires companys financial statement for at least 3 to 5 years for
the purpose of assessment. Following are the required financial statements:
Balance sheet Income statements Shareholders equity statement Cash flow statements
Step 2: includes a quick scanning of some important terms from one year to the next year.
The prime aim of doing this exercise is to find out any significant fluctuations and if found
then to subsequently conduct a relevant research to find out the reason so that any suspicion
can be removed.
Step 3: This step consist of a crude assessment of balance sheet for the purpose of
scrutinizing large changes in the various components of balance sheet. i.e. companys assetsand liabilities of equity e.g. if the amount for fixed assets have grown rapidly because of new
facilities or acquisitions, one should also taken into consideration that whether the debt has
also increased rapidly.
Step 4: This step includes assessment of income statement which includes preparation of
graphs and growths of the Revenue (sales) and Net Income (profit and earnings), and then
there will be trend assessment over time. Each expense component of the income is
calculated in terms of the percentage of sales of that year. Then there will be high lightening
of the favorable and unfavorable components.
Step 5: this step involves the assessment of the cash flow statement. This assessment gives
clear picture about cash inflows and outflows. This statement shows that how the borrower is
generating cash and how it is utilizing the same, which shows management efficiencies also
what an investor is searching for.
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Calculation of Financial ratios
In financial analysis ratio analysis holds the position of most significant tool. Ratios are
considered as the benchmark for evaluating exact performance of the company. Ratios are
compared with some standards which are given below:
Past ratios Competitors ratios Industry ratios Projected ratios
Bank uses following ratios for the purpose of analysis:
Liquidity Ratio Degree of financial leverage of debt Profitability Efficiency Valuea) Analyzing Liquidity
Cash convertible assets are called as liquid assets. For the purpose of analysis of
liquidity we should calculate two important ratios. These ratios are Current Ratio and
Quick Ratio. We can calculate them as:
1.
Current Ratio = Total Current Assets / Total Current liabilities
2. Quick Ratio = (Total Current AssetsInventories ) / Total Current LiabilitiesThe benchmarks or rule of thumb or acceptable values are Current Ratio (2:1), Quick
Ratio (1:1). The higher values of these two ratios indicate a greater liquidity and lower
risk for short term lenders.
b)Analyzing DebtDebt ratios show that how much a company depends on debt to finance its
investments and operations and how much it is capable of repaying its debt obligation.Inability of the company to repay its debt obligation can take it into bankruptcy and
the other face of the scenario says that debt is very useful because company can avail
tax benefits on this as well. These ratios are:
1. Leverage Ratios1a. Debt to Equity Ratio = Total Debt / Total Equity
Here Total debt has both the debts i.e.
i. Short Term Debt = bank advances + the current portion of long- term debtii. Long Term Debt = bonds, leases, notes payable
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Debt to equity ratio shows firms degree of leverage or how much it depends upon
external debt for financing purpose.
1b. Debt to Assets Ratio = Total Debt / Total Assets.
Lowering of any of the above two ratios indicates the conservative nature of thecompany. However, no one can reject this fact that if a company does not use debt, it may
loose investment and growth opportunities.
2. Interest Coverage (or Times Interest Earned) RatioEarnings before Interest and Taxes / Annual Interest Expense
This ratio shows companys ability to repay fixed interest charges by current earnings.
The fixed interest includes both short term and long term debt.
3. Cash Flow CoverageNet Cash Flow / Annual Interest Expense
Net Cash Flow = Net income is either subtracted from or added to non-cash items.
Non cash items include equity income + minority interest in earnings of subsidiary +
deferred income taxes + depreciation + depletion + amortization expenses.
Usually we take Net Cash Flow = Net Income + Depreciation, because depreciation is
the largest non-cash item in most companies.
c) Analyzing ProfitabilityThe ratios which are the indicators of profitability are as follows:
1. Net Profit Margin = Profit after taxes / sales2. Return on Assets (ROA) = Profit after taxes / Total Assets
3. Return on Equity ( ROE) =Profit after taxes / shareholders Equity (book value)4. Earnings per Common Share (EPS) = ( Profits after taxes Preferred Dividend /
Number of common shares outstanding
5. Payout Ratio = Cash Dividends / Net Income.As far as decision making is concerned, present value of the future profits is the main
consideration in the mind of lender (bank). For the purpose of ascertaining future
profits, bank analyzes past or current profits and this can be done by identifying
historical and forecasted trends of profits and sales.
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d)Analyzing EfficiencyThese ratios depicts that how efficiently firm has managed its assets. These ratios are
as follow:
1. Inventory Turnover = Cost of Goods Sold / Average InventoryInventory turnover indicates that how quickly the inventory got sold to produce sales.
Higher ratio signifies that the firm manages inventories efficientlt by minimizing the
investment in inventories.
2. Total Assets Turnover = Sales / Average Total Assets
Total Assets Turnover shows that how much sales a firm is producing for everydollar of investment in assets. Higher ratio signifies better performance.
3. Accounts Receivable Turnover = Annual Credit Sales / Average Receivables4. Average Collection Period = Average Accounts Receivable / (Total Sales / 365)
Ratios like Accounts Receivable Turnover and Average Collection Period depicts
that how much efficient the firm is in collecting cash from its sales credit. One can
comprehend from lowering of this ratio that the firm is very strict in its credit policy
which may repel customers but at the same time lowering of these ratios is also good.
5. Days in Inventory = Days in a year / Inventory turnoverDays in inventory shows that how fastly the manufactures product is sold off the Shelf. It
is also called as Shelf Life.
e) Value RatiosThese ratios indicate embedded value in stock. These ratios are:
1. Price to Earnings Ratio (P/E) = Current Market Price per Share / After-tax Earningsper Share
2. Dividend Yield = Annual Dividends per Share / Current Market Price per Share
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f) Debt Service Coverage Ratio (DSCR)Net Profit after tax* + Depreciation +
Interest on T/L and other long term debts
DSCR = ------------------------------------------------------------------
Installment of T/L and other long term debts
+ Interest on T/L and other Long term debts
*(but before appropriation of dividends)
This ratio is calculated on yearly basis from the year of commercial production to the last
year of proposed repayment.
DSCR of 2:1 or above is considered as an ideal ratio which indicates that for every rupee of
debt to be repaid in one year, the cash profit available is rupees two , which indirectly shows
a very comfortable and safe debt servicing capability.
For large industries, an average DSCR of 1.5 with a minimum of 1.2 in one year and in case
of SME units located in backward areas, a minimum DSCR of 1.5:1 is accepted.
2.6Methods of Credit RatingBank should check the credibility of the borrower for the purpose of which credit rating
methods exist. A banker should always taken into consideration all the parameters that wouldprove to be helpful in determining of credibility of the borrower. Method of credit rating is
explained letter on in the project with the help of a case study.
In IOB, Internal Credit rating system works upto an advance proposal of Rs. 1 crore, but if
the proposal is exceeding this amount or in order to make realistic assessment of credit risk,
IOB had outsources from CRISIL a risk-credit model called Risk Assessment Model
(RAM) for borrower accounts.
2.7Methods of Assigning Credit limit and Drawing Power Overdraft Facility for Individuals
Overdraft facility is provided by Indian Overseas Bank on behalf of the Credibility of
the customer, for the purpose of availing this facility to the individuals, their past six
months accounts transaction is assessed. If the individual did not default in normal
circumstances, then this facility is allowed to the customer by Indian Overseas
Bank.Overdraft facility upto Rs 2 lacs can be provided to the customer on behalf of
discretion from the branch manager and overdraft facility above Rs 2 lacs calls for
permission and approval from Regional office. This limit is sanctioned against the
total deposits of the individual where bank keeps 10 % as margin money.
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Cash Credit Facility for business ConcernBank usually assesses all the particulars of the customer who is looking for Cash
Credit facility for business concern. The documents, a customer must submit to the
bank for this purpose are as follows:
Balance sheets for the past three years Recent Stock Statement which should consist of paid up stock, bank dont take stock
on credit into consideration.
Record of debtors showing book debts up to 90 days. Pan Card details Sales Turnover of past three years. If the sales turnover exceeds Rs 40 lacs, a
certification from chartered accountant is also required.
Assets and Liability statements of both the borrower and guarantor are required. Projected sales and balance sheets of two years is also required.
On quarterly basis the customer is suppose to submit the stocks, debtors and sales statement
for the purpose of review of his credit limit from time to time.
Drawing PowerDrawing power can be calculated as:
Drawing Power = 75 % of stock + 50 % of debtors (both the stocks and debtors can
be calculated as per the details furnished in the documents)
2.8Securities Used against LendingThere are two kinds of securities:
i. Primary Securitiesii. Collateral SecuritiesCollateral securities are the securities that are accepted by the bank and can be legally
liquefied if the borrower defaults on repayment.
The securities which are accepted by the bank as collaterals are as follows:
PoliciesEndowment policy is accepted by the bank e.g Life Insurance Policy of LIC. Banks
usually sanction the loan up to 80-90% of the surrender value of the policy. Loans
against policies are not common but they are offered against saving policies and this
is one of the cheapest methods.
National Savings Certificate (NSC) and Kendriya Vikas Patra (KVP)NSCs and KVPs can be transferred to the banks name by the borrower and can
certainly be treated as bank security. Banks generally mark lien on the documents and
inform the same to the issuing authority.
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Fixed Deposit Receipts (FDR)Bank usually take Fixed deposit Receipts (FDRs) as security against loans while
keeping 10 % as margin.
House PropertyIn case of house loans, bank usually takes house property as security or insurance for
the repayment of the loan. One can avail up to 80 % of the cost of the property.
Other AssetsAny appropriate possession like machinery, equipment or business property can be
consider as securities and bank usually accepts them as collateral. In such cases the
asset remains with the borrower unless there is default, in which case the asset goes to
the bank. Generally banks dont provide credit facilities against equipments and
machinery.
2.9Modes of charging securitiesCharging a security can be defined as creating a legal right to the banker to take
recourse of the assets provided by the borrower if the borrower defaults on its part.
There are five different ways of creating this legal right called as charging a security.
These are:
1. LienBy this mode called lien, a banker can retain goods provided by the borrower on its
part as security by there is a special requirement of proving his diligence that it had no
notice of defect in the title. Lien can be general and specific.
2. HypothecationThis can be defined as charge on any movable property without transfer of its
ownership to the creditor i.e. debtor will remain the owner but there is an obligation
on the borrower that he has submit regular returns to the bank which indicates any
increase or decrease in the value of the said goods to indicate any change in the which
will indirectly help bank to determine his drawing limits.
3. PledgeIt is the opposite of the hypothecation which indicates that the goods in charge willremain in possession of the bank and borrower is not permitted to any withdrawal or
additions to the stocks without banks permission.
4. MortgageIt is the transfer of interest in specific movable property for the purpose of securing
the payment of money advanced or to be advanced by way of loan, an exsisting or
future debt, or the performance of an engagement which may give rise to a pecuniary
liability.
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2.10 Credit AppraisalsCredit appraisal is an important activity carried out by the loans and advances
department of the bank to determine whether to accept or reject the proposal for
financing its project. The project deals in credit facilities such as working capitalmethods of assessment, compilation of credit reports. The methods that are used by
the banks in order to calculate the loan limits are Turnover method, MBPF system
and Cash budget system. The financial viability of the borrower and its firm is
analysed through firms CMA data or through its proposed financial statements like
audited and provisional balance sheet and P/L account of previous years, current
financial year and assessment year. The firms financial performance is analyzed
through ratio analyses.
Financial requirements for project finance and working capital purposes are taken
care of at the credit department. Companies that intend to seek credit facilities
approach the bank. Primarily, credit is required for following purposes:
1. Working capital finance
2. Term loan for projects
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2.11 Credit Appraisal ProcessFIGURE 1
Receipt of application from applicant
Receipt of documents
(Audited, Provisional or Projected Balance sheets, Valuation reports of properties, Legal
Opinion, ROC documents, Guarantors Statement, Debtors & Stock statements for 120 days)
Pre-sanction visit by bank officers
Verification of legal procedures
(Check for RBI defaulters list, Wilful defaulters list, CIBIL Report, ECGC specific approval
list, check for watchoutinvestors website etc.)
Property and unit /stock inspection
Preparation of CMA data
Proposal preparation
Assessment of working capital limits to be sanctioned
(Turnover method or MBPF method)
Sanction/approval of proposal by appropriate sanctioning authority
Documentations, agreements, mortgages
Disbursement of cash credit limits or term loan
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Chapter - 3
Working capital finance
3.1 IntroductionWorking capital is the fund invested in current assets and is needed for meeting day to day
expenses. It occupies an important place in a firms Balance Sheet. Working capital financing
is a specialized area and is designed to meet the working requirements of a business. The
Main sources of working capital financing are trade credit, bank credit, factoring and
commercial paper. The firms generally enjoy easy access to the bank finance for meeting
their working capital needs. But from time to time, Reserve Bank of India has been issuing
guidelines and directives to the banks to strengthen the procedures and norms for working
capital financing. The project attempts to analyse the role of bank credit in financing working
capital needs of firms.Working capital is that portion of a firms capital which is employed in short term operations.
Current assets represent Gross Working Capital. The excess of current assets over current
liabilities is Net Working Capital. Current assets consists of all stocks including finished
goods, work in progress, raw material, cash, marketable securities, accounts receivables,
inventories, short term investments, etc. These assets can be converted into cash within an
accounting year. Current liabilities represent the total amount of short term debt which must
be settled within one year. They represent creditors, bills payable, bank overdraft, outstanding
expenses, short term loans, etc. The working capital is the finance required to meet the costs
involved during the operating cycle or business cycle. Operating cycle is the period involvedfrom the time raw materials are purchased to the time they are converted into finished goods
and the same are finally sold and realized. The need for current assets arises because of
operating cycle. The operating cycle is a continuous process and therefore the need for
current assets is felt constantly. Each and every current asset is nothing but blockage of
funds. Therefore, these current assets need to be financed which is done through Working
Capital Financing. There is always a minimum level of current assets or working capital
which is continuously required by the firm to carry on its business operations. This minimum
level of current assets is known as permanent or fixed working capital. It is permanent in the
same way as the firms fixed assets are. This portion of working capital has to be financed by
permanent sources of funds such as; share capital, reserves, debentures and other forms of
long term borrowings. The extra working capital needed to support the changing production
and sales is called fluctuating or variable or temporary working capital. This has to be
financed on short term basis. The main sources for financing this portion are trade credit,
bank credit, factoring and commercial paper.
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3.2 Operating cycle:
The time between purchase of inventory items (raw material or merchandise) and their
conversion into cash is known as operating cycle or working capital cycle. The longer the
period of conversion the longer will be the period of operating cycle. A standard operating
cycle may be for any time period but does not generally exceed a financial year. Obviously,the shorter the operating cycle larger will be the turnover of the fund invested for various
purposes. The channels of investment are called current assets.
Operating Cycle- FIGURE 2
Cash
Purchase of
Raw material
Receipt from
debtors
Creation of
Receivables (Debtors)
Sales of
Finished Goods
Creation of
A/c payable (Creditors)
Warehousing
Of Finished Goods
Payments to creditors
Office, selling, distribution
and other expenses
Manufacturing operation:
wages & salaries, fuel,
power, etc
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3.3 WORKING CAPITAL FINANCING BY BANKS
A commercial bank is a business organization which deals in money i.e. lending and
borrowing of money. They perform all types of functions like accepting deposits, advancing
loans, credit creation and agency functions. Besides these usual functions, one of the mostimportant functions of banks is to finance working capital requirement of firms. Working
capital advances forms major part of advance portfolio of banks. In determining working
capital requirements of a firm, the bank takes into account its sales and production plans and
desirable level of current assets. The amount approved by the bank for the firms working
capital requirement is called credit limit. Thus, it is maximum fund which a firm can obtain
from the bank. On the basis of the estimates submitted by the company, the bank may decide
the amount of assistance which may be extended, after considering the margin requirements.
This margin is to provide the cushion against the reduction in the value of security. If the
company fails to fulfil its obligations, the bank may be required to realize the security for
recovering the dues. Margin money is meant to take care of the possible reduction in the
value of security
.
3.4 Form of Assistance:
After deciding the amount of overall assistance to be extended to the company, the bank can
disburse the amount in any of the following forms:
Fund Based Non-Fund Based Lending
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Chapter -4
Working Methodology
This is analytical research area where we analyses information with cause and its effects
relationship. This analysis leads to the simple conclusions of whether to provide assistance of
working capital to the institution for business. When entrepreneurs for financing working
capital requirements approach the banks, the bank has to examine the viability of the project
before agreeing to provide working capital for it. Financial institutions & bank while
providing term loan finance to unit for acquisition of fixed assets does a detailed viability
study. They have to ensure that the project will generate sufficient return on the resources
invested in it. The viability of a project depends on technical feasibility, marketability of the
products, at a profitable price, availability of financial resources in time & proper
management of the unit. In brief the project should satisfy the tests of technical, commercial,
financial & managerial feasibility. The proposed methodology for fulfilling the objectives isas follows:
The project is based on secondary source of data. Secondary data have been mainlyobtained from reports, records and books of M/s. XYZ Media LTD. The data also
collected from audited financial statements periodicals and other records maintained by
M/s. XYZ Media LTD.
The methodology includes the detailed study of data of the borrower as provided by thebank officials for analytical study which have been utilised for the case study.
After the detailed study of the data, the pre and post requisites of lending are analysed. Preparation of CMA data of the borrowing firm.RESEARCH METHODOLOGY
TABLE -1
Research Type Analytical
Source of Data Primary and Secondary
Sample Unit Industries applying for loan
Sample Case studies
Sample Technique Allocation of Case
Analysis Tool used Financial Analysis
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Primary Data:Observation, Discussion with the company guide at the bank.
The company profile, its guidelines and principles.
Secondary Data:Secondary data relating to the procedure of assessment of working capital finance, old
sanction proposals, and RBI guidelines etc., financial statements have been sourced
from the branch and referenced books.
4.1 Procedure of Credit Appraisal at IOB
Credit appraisal is a means of an investigation/assessment done by the bank prior before
providing any loans & advances/project finance & also checks the commercial, financial &
technical viability of the project proposed its funding pattern & further checks the primary &
collateral security cover available for recovery of such funds. At Indian Overseas Bank,
Credit Appraisal is a long procedure which is required to be done before the credit document
is sent to higher authorities. Credit Appraisal process at IOB involves major 5 steps. They are
as follows:
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CREDIT APPRAISALFIGURE 3
PRE SANCTION
PROCESS
Preparation of CMA
data
Assessment of Working
Capital Limits
APPRAISAL &
RECOMMANDATION
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1. PRE SANCTION PROCESS: -When a customer required any credit facility or working capital loan he is required to
complete application form and submit the same to the bank.Also the borrower has to submitthe required information along with the application form.
Pre sanction process requires following documents and information which are analysed prior
to raising the credit proposal
Audited balance sheets and profit and loss accounts for the previous three year Estimated balance sheet for current year. Projected balance sheet for next year Profile for promoters/directors, senior management personnel of the company Obtain Guarantors statement Examine for preliminary appraisal RBI guidelines and Policies Prudential exposure norms and bank lending policy Industry exposure restriction and related risk factors. Obtain RAM rating ,CRISIL rating Compliance regarding transfer of borrowers accounts from one bank to another bank Government regulation / legislation impact on the industry Acceptability of the promoter and applicant status with regards to other unit to
industries.
Credit report of accounts running with other banks Arrive at the preliminary decision. Evaluation of prime and collateral security Examine/analysis /assessment Financial ratio & Dividend policy. Depreciation method Revaluation of fixed assets. Records of defaults (Tax, dues etc.) Pending suits having financial implication (Customs, excise etc.) Check for RBI defaulter list, Willful defaulter list, ECGC specific approval list,CIBIL
report.
Qualifications to balance sheet auditors remarks etc. Trend in sales and profitability and estimates /projection of sales. Production capacities and utilization: past & projected production efficiency and cost. Estimated working capital gap W.R.T acceptable build-up of
inventory/receivables/other current assets and bank borrowing patterns.
Assess MPBFdetermine facilities required Companys structure and system
Profitability factor, Inventory/Receivable level, Capacity utilization
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2. Preparation of CMA dataCredit Monitoring Arrangement (CMA) data is a very important area in the process of credit
appraisals. It is a critical analysis of current & projected financial statements of a loan
applicant by the banker. CMA data is a systematic analysis of working capital management
of a borrower and objective of this statement is to ensure the usage of long term and short
term fund have been used for the given purpose.CMA data is also beneficial for analysing
financial indicators .CMA data at Indian Overseas Bank is prepared in main 3 components
statements.
Balance sheet - Balance sheet analysis for the current & projected financial years is the first
statement in CMA data. This statement gives the detailed analysis of Current & noncurrent
assets, fixed assets, cash & bank position, current & noncurrent liabilities of the borrower.
Also this statement indicates the net worth position of the borrower for the projected years.
Balance sheet analysis gives a complete financial position of the borrower and cash
generating capacity during the projected years. Below is the snapshot of CMA data of XYZ
Media Ltd. Co. prepared at IOB as a part of the project.
SNAPSHOT - 1
Type of Financials Audited Audited Provisional Projected
Year ended 2011 2012 2013 2014
BALANCE SHEET
1.ASSETS
1.1CURRENT ASSETSI. Inventories
Raw Materials 198.59 240.45 160.00 110.00
Stock in process 0.00 0.00 0.00 0.00
Finished Goods 0.00 0.00 0.00 0.00
Consumable Spares 0.00 0.00 0.00 0.00
TOTAL INVENTORIES 198.59 240.45 160.00 110.00
II. Trade Debtors
Domestic Debtors over six months 0.00 0.00 0.00 0.00
Domestic Debtors less than six months 701.89 990.10 1,000.00 1,100.00
Export Debtors over six months 0.00 0.00 0.00 0.00
Export Debtors less than six months 0.00 0.00 0.00 0.00
TOTAL DEBTORS 701.89 990.10 1,000.00 1,100.00
III. Other Current Assets
Cash and Bank Balance 11.32 20.11 19.97 25.67
Prepaid Expenses 0.00 0.00 0.00 0.00
Advance Tax 0.00 0.00 0.00 0.00
Deposits with Excise and Sales Tax 750.75 831.84 900.00 850.00
Loans and Advances 0.00 0.00 0.00 0.00
Others/Dep margin with Bank/cenvat input 0.00 0.00 0.00 0.00
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Total Other Current Liabilities 148.81 110.04 124.25 159.30
IV. Creditors on Capital Account 0.00 0.00 0.00 0.00
SUB-TOTAL (e) 464.51 559.11 574.25 671.30
2.2.DEFERRED LIABILITIES
I. Term Loan from IOB 97.51 65.00 56.00 0.00
II. Term Loan from institutions 84.16 100.00 80.00 70.00
III. Other Long Term Liabilities
Preference Shares 0.00 0.00 0.00 0.00
Long-term loans from other banks 0.00 0.00 0.00 0.00
Foreign currency loans 0.00 0.00 0.00 0.00
NCD borrowings 0.00 0.00 0.00 0.00
Others 0.00 0.00 0.00 0.00
Other Long term liability which have been taken asQuasi Equity 159.35 621.14 600.00 550.00
Total Other Long Term Liabilities 159.35 621.14 600.00 550.00
SUB-TOTAL (f) 341.02 786.14 736.00 620.00
2.3.CAPITAL AND SURPLUS
I. Paid up Capital 51.94 65.96 66.56 72.56
II. Reserves and Surplus 1,141.30 1,297.82 1,348.16 1,411.81
III. Revaluation Reserves 0.00 0.00 0.00 0.00
Share Application Money 29.00 5.00 6.00 6.00
0.00 0.00 0.00 0.00
SUB-TOTAL (g) 1,222.24 1,368.78 1,420.72 1,490.37
Deferred Tax Liability (h) 0.00 0.00 0.00 0.00
TOTAL LIABILITIES (e+f+g+h) 2,027.77 2,714.03 2,730.97 2,781.67
Off Balance Sheet Debt 0.00 0.00 0.00 0.00
Current Portion of Long Term Debt 42.70 16.67 29.00 66.00
Profit and lossP &L is the second component of CMA data of a company and shows the
company's revenues and expenses during a particular period. It indicates net sales, gross
profit, operating profit, profit before tax (PBT), and net profit after tax (NPAT).
SNAPSHOT -2
Year ended 31-Mar-11 31-Mar-12 31-Mar-13 31-Mar-14
PROFIT AND LOSS
1.NET SALES
I.Domestic Sales - Cash 1,470.58 1,976.42 2,400.00 2,600.00
II.Domestic Sales - Credit 0.00 0.00 0.00 0.00
iii. Exports 0.00 0.00 0.00 0.00
Less Excise Duty 0.00 0.00 0.00 0.00
Total Net Sales 1,470.58 1,976.42 2,400.00 2,600.00
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2. COST OF SALES
Opening stock finished goods 0.00 0.00 0.00 0.00
Opening stock WIP 0.00 0.00 0.00 0.00
Opening stock RM - Indigenous 774.15 997.87 1,260.00 1,325.00
Opening stock RM - Imported 0.00 0.00 0.00 0.00
Add Purchases RM - Indigenous 0.00 0.00 0.00 0.00
Add Purchases RM - Imported 0.00 0.00 0.00 0.00
Stores consumed 0.00 0.00 0.00 0.00
Manufacturing Expenses 51.99 56.91 95.20 105.10
Depreciation 45.31 46.34 55.00 60.00
Add:Purchases Finished Goods 0.00 0.00 0.00 0.00
Less Closing stock finished goods 0.00 0.00 0.00 0.00
Less closing stock WIP 0.00 0.00 0.00 0.00
Less closing stock RM - Indigenous 0.00 0.00 0.00 0.00
Less closing stock RM -- Imported 0.00 0.00 0.00 0.00
Cost of Sales 871.45 1,101.12 1,410.20 1,490.10
Cost of Production 871.45 1,101.12 1,410.20 1,490.10
3. GROSS PROFIT(+)/LOSS(-) (1-2) 599.13 875.30 989.80 1,109.90
4. SELLING & ADM. EXP. 498.37 735.02 845.40 954.25
5. INTEREST & FIN.CHARGES 63.83 81.02 87.00 97.00
Total (4+5) 562.20 816.04 932.40 1,051.25
6.OPERATING PROFIT/LOSS 36.93 59.26 57.40 58.65
7.I.OTHER INCOME
Sale of Scrap 2.35 5.10 0.00 7.00
Interest Received 0.00 0.00 0.00 0.00Profit on Sale of FA / INV 0.00 0.00 0.00 0.00
Others 6.74 11.82 16.20 15.00
Total Other Income 9.09 16.92 16.20 22.00
7 II.LESS OTHER EXPENSES
Loss on Sale of FA / INV 0.00 0.00 6.00 0.00
Loss on Currency Fluctuation 0.00 0.00 0.00 0.00
Misc. Exp written off 0.00 0.00 0.00 0.00
Others 0.00 0.00 10.00 0.00
Total Other Expenses 0.00 0.00 16.00 0.00
Other Income Net of Expenses 9.09 16.92 0.20 22.00
8.PROFIT BEFORE TAX/LOSS 46.02 76.18 57.60 80.65
9.INCOME-TAX PROVISION 14.50 26.00 23.00 28.00
10.NET PROFIT AFTER TAX/LOSS 31.52 50.18 34.60 52.65
11.N.P.BEFORE DEP.&TAX 91.33 122.52 112.60 140.65
12.N.P.BEFORE DEP.TAX&INT. 155.16 203.54 199.60 237.65
13. CASH GENERATION 76.83 96.52 105.60 112.6514.DIVIDEND 0.00 0.00 0.00 0.00
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15. PREFERENCE DIVIDEND 0.00 0.00 0.00 0.00
16.RETAINED PROFIT 31.52 50.18 34.60 52.65
17.NET CASH ACCRUAL 76.83 96.52 105.60 112.65
Analytical and comparative Ratios- Ratio Analysis is a form of Financial StatementAnalysis that is used to obtain a quick indication of a firm's financial performance in several
key areas. The computation of ratios facilitates the comparison of firms which differ in size.
Ratios can be used to compare a firm's financial performance with industry averages. In
addition, ratios can be used in a form of trend analysis to identify areas where performance
has improved or deteriorated over time.
SNAPSHOT - 3
Year ended 31-Mar-11 31-Mar-12 31-Mar-13 31-Mar-14
ANALYTICAL AND COMPARATIVE RATIOS
I.FINANCIAL INDICATORS
1.TANGIBLE NETWORTH 1,222.24 1,368.78 1,420.72 1,490.37
2.TOTAL OUTSIDE LIAB.TO TNW 0.66 0.98 0.92 0.87
(TOL-USL)/(TNW+USL) 0.30 0.26 0.27 0.32
3.FUNDED DEBT TO TNW 0.28 0.57 0.52 0.42
4.NET WORKING CAPITAL 1,198.04 1,523.39 1,505.72 1,414.37
5.CURRENT RATIO 3.58 3.72 3.62 3.11
6.STOCK HOLDINGS 0.00 0.00 0.00 0.00
6.1.RAW MATERIALS 198.59 240.45 160.00 110.00
R.M. HOLDING (IN MTHS) 3.08 2.89 1.52 1.00
6.2.STOCK IN PROCESS 0.00 0.00 0.00 0.00
SIP HOLDING (IN MTHS) 0.00 0.00 0.00 0.00
6.3.FINISHED GOODS 0.00 0.00 0.00 0.00
FG HOLDING (IN MTHS) 0.00 0.00 0.00 0.00
6.4.CONSUMABLE SPARES 0.00 0.00 0.00 0.00
CON.SPARE CONSUMED 0.00 0.00 0.00 0.00
CON.SPARE HOLD(MTHS) #DIV/0! #DIV/0! #DIV/0! #DIV/0!
7.SUNDRY DEBTORS (DOMESTIC) 701.89 990.10 1,000.00 1,100.00
SUNDRY DEBTORS (EXPORT) 0.00 0.00 0.00 0.00
GROSS SALES (DOMESTIC) 1,470.58 1,976.42 2,400.00 2,600.00
GROSS SALES (EXPORT) 0.00 0.00 0.00 0.00
RECEIVABLES HOLD(MTHS) (DOMESTIC) 5.73 6.01 5.00 5.08
RECEIVABLES HOLD(MTHS) (EXPORT) #DIV/0! #DIV/0! #DIV/0! #DIV/0!
8. CREDITORS FOR PURCHASES 3.35 9.31 10.00 12.00
PURCHASES 0.00 0.00 0.00 0.00
CREDIT AVAIL (MONTHS) #DIV/0! #DIV/0! #DIV/0! #DIV/0!
II. PROFITABILITY RATIOS
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9. NET SALES 1,470.58 1,976.42 2,400.00 2,600.00
INCREASE/DECR.SALES #REF! 505.84 #REF! 200.00
10.PERCENT.INCR. SALES #REF! 34.40 #REF! 8.33
11.GROSS PROFIT TO SALES 40.74 44.29 41.24 42.69
12.OP.PROFIT TO SALES 2.51 3.00 2.39 2.26
13.N.P.BEFORE TAX TO SALES 3.13 3.85 2.40 3.10
14.N.P.AFTER TAX TO TNW 2.58 3.67 2.44 3.53
15. TOTAL BANK BORROWINGS 312.35 439.76 440.00 500.00
16. NPAT/Sales 2.14 2.54 1.44 2.03
3. Assessment of working capital limits - A unit needs working capital funds mainly tocarry current assets required for its operations. Proper assessment of funds required
for working capital is essential not only in the interest of the concerned unit but also
in the national interest to use the scare credit according to production requirements.
When a borrower demands for a credit facility from the bank, the bank has to assess
the limits of working capital to be sanctioned. Proper assessment of working capitalrequirement may be done as under-
i. TURNOVER METHOD (Nayak Committee Recommendations)a. Mainly used for SMEs (Small and Medium Enterprises).
b. Not appropriate for manufacturing and big trading companies.ii. CASH BUDGET SYSTEM
a. Mainly used for service sector companiesb. Cash inflowCash outflow = Bank finance in form of WC
iii. TONDON COMMITTEE RECOMMENDATIONSa. It has three methods of lending.
b. Out of 3 methods recommended, method II also known as MaximumPermissible Bank Finance (MPBF) is mainly used by the banks for assessment
of WC finance
4. Appraisal and RecommendationThis is the last step of appraising the credit proposal. All lending made or proposed by the
branches must be in conformity with banks lending policy and within the budget allocationsmade from time to time. In this connection officers are expected to be thorough with the Loan
Policy Document. Managers should strictly adhere to all the instructions and guidelines
issued by the Central Office from time to time. It is primarily the responsibility of the Branch
Managers to ensure the safety of all the advances of their branches. It is the basic duty of the
Branch Managers and the other officials to protect the banks interest in all the transactions of
the bank handled by them including advances. When the entire assessment is done ,the
proposal is sent to discretionary powers to appraise the credit proposal
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Chapter5
ANALYSIS
The project involves the following tools for analysing the given project proposal:
Working capital analysis Ratio analysis
5.1 Working capital analysis
All enterprises engaged in manufacturing or trading or providing services require finance for
their day-to-day operations, the amount required to finance day-to-day operation is called
working capital & the assets & liabilities are created during the operating cycle are called
current assets & current liabilities. The total of all the current assets is called gross working
capital & the excess of current assets over current liabilities is called net working capital.
When entrepreneurs for financing working capital requirements approach the banks, the bank
has to examine the viability of the project before agreeing to provide working capital for it.
Financial institutions & bank while providing term loan finance to unit for acquisition of
fixed assets does a detailed viability study. They have to ensure that the project will generate
sufficient return on the resources invested in it. In brief the project should satisfy the tests of
technical, commercial, financial & managerial feasibility. Proper co-ordination amongst
banks & financial institution is necessary to judge the viability of a project & to provideworking capital at appropriate time without any delay.
In the view of scarcity of bank credit, its increasing demand from various sectors of economy
& its importance in the development of economy, bank should provide working capital
finance according to production requirements. Therefore it is necessary to make a proper
assessment of total requirement of the working capital, which depends on the nature of the
activities of an enterprise & the duration of its operating cycle. It has to be ensured that the
unit will have regular supply of raw material to facilitate uninterrupted production. The unit
should be able to maintain adequate stock of finished goods for smooth sales operation. The
requirement of trade credit, facilities to be given by the unit to its customers should also beassessed on the basis of practice prevailing in the particular industry/trade which assessing
above requirements, it should also be ensured that carrying cost of inventories & duration of
credit to customers are minimized. After assessing the total requirement of working capital, a
part of working capital requirement should be financed for the long term & partly by
determining maximum permissible bank finance.
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5.1.2 Factors for Deciding Working Capital Limits
Drawing power of the borrower Security
1. DRAWING POWER OF THE BORROWERThe drawing power that a borrower enjoys at any one point depends on each components of
working capital. The bank for each component, which the borrower must hold as his
contribution to finance working capital, prescribes margins. The drawing power of the
borrower can be best explained with the following illustration
Illustration:
Suppose a borrower has Rs 100.00 lacs as working capital limit sanctioned to him by a bank.
The security provided by the borrower to the bank is the hypothecation of inventory.
Suppose, the borrower needs to hold an inventory level of say 130 lacs in order to enjoy Rs
100 lacs as his working capital limit.
The actual level of inventory with the borrower at a point is say 110 lacs.The inventory
margin prescribed by the bank is say 25 %
Therefore with this inventory level, the borrower enjoys only Rs 82.5 lacs as his working
capital limit as against Rs 100 lacs.
2. SECURITYBanks provide credit on the basis of the following modes of security from the borrowers.
Hypothecation: the banks provide credit to borrowers against the security of movable
property, usually inventory of goods.
Mortgage: It is the transfer f a legal / equitable interest in specific immovable property for
securing the payment of debt.
Pledge: The goods which are offered as security, are transferred to the physical possession of
the lender.
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5.1.3 Assessment of working capital limit:
In order to calculate net working capital & maximum permissible bank finance, it is
necessary to have proper classification of various items of current assets & current liabilities.
All illustrative lists of current assets & current liabilities for the purpose of assessment of
working capital are furnished below:
TABLE - 2
Current Assets Current Liabilities
Cash and bank balances Short term borrowings
Investments Unsecured loan
Receivables Sales-tax, excise, etc.
Inventories Deposits
Advance payment Interest and financial charges accrued
Prepaid expenses Provision for taxesSundry debtors Sundry creditors
5.1.4 Methods of financing working capital
Bank follows certain norms in granting working capital finance to companies. These norms
have been greatly influenced by the reconditions of various committees appointed by the RBI
from time to time.RBI has made certain recommendations for lending credit facilities
especially to SMEs (Small and Medium Enterprises) for which no tangible security is
needed. Recommendations suggested that bank credit will be provided on the basis ofoperating cycle and its inventories or turnover period. Following committees were appointed
to provide bank credit to SMEs-
Tondon Committee Nayak Committee1. Tondon Committee (Operating cycle Method)
Reserve Bank of India constituted a 'Study Group' with Shri Prakash Tandon as Chairman in
July, 1974 to frame necessary guidelines on bank credit for commercial banks for follow-up& supervision of bank credit for ensuring proper end-use of funds. Its main
recommendations related to norms for inventory and receivables, the approach to lending,
style of credit, follow ups & information system.
As per the recommendations of Tondon Committee, the corporates should be discouraged
from accumulating too much of stocks of current assets and should move towards very lean
inventories and receivable levels. The committee even suggested the maximum levels of Raw
Material, Stock-in-process and Finished Goods which a corporate operating in an industry
should be allowed to accumulate These levels were termed as inventory and receivable
norms. Depending on the size of credit required, the funding of these current assets (workingcapital needs) of the corporates could be met by one of the following methods:
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First method of lendingBanks can work out the working capital gap, i.e. total current assets less current liabilities
other than bank borrowings (called Maximum Permissible Bank Finance or MPBF) and
finance a maximum of 75 per cent of the gap; the balance to come out of long-term funds,
i.e., owned funds and term borrowings. This approach was considered suitable only for very
small borrowers i.e. where the requirements of credit were less than Rs.10 lacs
Second method of lendingThis is the most commonly used methods by banks. Under this method, it was thought that
the borrower should provide for a minimum of 25% of total current assets out of long-term
funds i.e., owned funds plus term borrowings. A certain level of credit for purchases and
other current liabilities will be available to fund the build up of current assets and the bank
will provide the balance (MPBF). Consequently, total current liabilities inclusive of bank
borrowings could not exceed 75% of current assets. RBI stipulated that the working capitalneeds of all borrowers enjoying fund based credit facilities of more than Rs. 10 lacs should be
appraised (calculated) under this method.
Third methods of lendingUnder this method, the borrower's contribution from long term funds will be to the extent of
the entire CORE CURRENT ASSETS, which has been defined by the Study Group as
representing the absolute minimum level of raw materials, process stock, finished goods and
stores which are in the pipeline to ensure continuity of production and a minimum of 25% of
the balance current assets should be financed out of the long term funds plus termborrowings. But This method was not accepted for implementation.
2. Nayak committee (Turnover Method)Reserve Bank of India constituted a Committee on 9 December 1991 under the Chairmanship
of Shri P.R. Nayank, Deputy Governor to examine the difficulties confronting the small scale
industries (SSI) in the country in the matter of securing finance. The representative of the SSI
associations had earlier placed before the Governor, Reserve Bank of India, various
problems, issues and the difficulties which the SSI sector had been facing.
Turnover method can be illustrated as:
i. Lets say ,sales or Turnover is Xii. Now, calculate 25% of X
iii. Also, Calculate 5% of Xiv. Now,Net Working Capital Availablev. Take Y as the maximum of (iii or iv)
vi. Subtract Y from (ii),lets say this amount as Z.vii. Therefore Z is the amount that would be financed by the banks.
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The level of credit limits to be assessed by turnover method ' has since been increased to Rs.
2.00 crores for all categories of borrowers and further to Rs. 5.00 crores for SSI units. The
banks have further been given discretion to apply this method upto any level of limits not
below the limits specified by Reserve Bank of India and frame a suitable policy in this
regard.
5.2 Ratio analysis
Ratio analysis is a widely used tool of financial analysis. It can be used to compare the risk
and return relationships of different sizes. It is defined as the systematic use of ratio to
interpret the financial statements so that the strengths and weaknesses of a firm as well as its
historical performance and current financial condition can be determined. A ratio is a
quantity that denotes the proportional amount or magnitude of one quantity relative to
another. The ratios show the relationship in the more meaningful way so as to enable us to
draw conclusion from than a single figure.Ratios are calculated from current year numbersand are then compared to previous years, other companies, the industry, or even the economy
to judge the performance of the company. Ratio analysis is predominately used by proponents
of fundamental analysis.
Ratios which are used by Indian Overseas Bank for the purpose of financial analysis are:
TABLE - 3
FINANCIAL INDICATORS PROFITABILITY RATIOS
TNW Net Sales
TOL/TNW Gross Profit to SalesTOL-USW/TNW+USW Operating profit to Sales
Funded Debt to TNW NPBT To sales
Net Working Capital ratio NPAT to TNW
Current ratio NPAT To Sales
Detailed ratio analysis for the case study of XYZ Media Ltd. Has been mentioned in the next
section.
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Chapter6
CASE STUDY
XYZ Media Ltd.XYZ Media Ltd was incorporated as a private limited company with an objective to provide
for outdoor advertising solutions to various companies for marketing their products. It is
reportedly known as one among the first five advertising companies in Delhi NCR to provide
complete outdoor advertising solutions.
Company is engaged in renting out display advertising spaces at various media/ public
utilities which are developed & maintained by the subject company such as Countdown
Timers, Bus Queue Shelters, Public Utilities, etc.Also the company has to maintain the
allotted sites for such term as mentioned in the contract. In turn company gets the advertising
rights on those spaces/ infrastructure developed, which it rents out to corporate and otherclients. Company is taking orders from various other companies and advertising agencies to
advertise their products or services on various media available with the subject, and charge
monthly service rentals/ display charges for the advertisements so displayed.
Date of establishment 18.03.2002
Sector MSME
Industrial classification Media Advertising
Banking with us since
Enjoying Credit facilities since
March 2005
March 2006
Names of
Directors
Designation Age Worth (Rs in
lacs)
Amount As on
Experience (in brief)
Mr. X Director 54 102.69 31.01.13 He has experience of more than a
decade in the field of advertising. Has
rich experience in the field of real
estate, hospitality & timber imports.
Mr. Y Director 27 25.55 31.01.13 More than four years of experience in
advertising field.
Mr. Z Director 45 34.60 31.01.13 Worked as director in MNC. He is
associated with advertising field for
more than 9 years.
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REQUIREMENT OF:
Enhancement in cash credit limits & LG limit to Rs.5.00crs & Rs.2.60crs respectivelywith projected sales of Rs 26 crores for the year 2013-14
To raise term loan of 6.60 crores
PURPOSE:
In 2010, company acquired two major tenders for a term of five years from DMRC.For the same purpose we issued a bank Guarantee ofRs 216.00lacs on behalf of the
subject company in favour of DMRC.
Company requires term loan to erect 42 super structures at Gwalior for advertisingSecurity
Prime Security -Stocks- Rs 160.00 lacs
-Book Debts- Rs 1000.00 lacs
-Fixed Assets- Rs 420.00 lacs (As per ABS- 31.03.13)
Total value: Rs.1580 lacs
Collateral security Forced Sales Value of property (FSV)
Agra- 35.00 lacs
Faridabad- 156.00 lacs
IP Extn. Delhi- 115.00 lacs
Gujarat-60.00 lacs
Fixed Deposit- 57.00 lacs
Collateral Coverage: 51%
Total value: Rs. 423 lacs
Banking Arrangement:
Subject is presently enjoying CC limit ofRs 330.00lacs, Term loan ofRs 175.00lacs and LG
ofRs 230.00lacs, from IOB, Vanasthali branch. Limits are utilized judiciously and operationsin the account are reported to be satisfactory.
Past Performance:
Sales of the company are increasing continuously over the last 3 years. It achieved sales ofRs
910.74lacs in 2009-10 compared toRs 884.70lacs in 2008-09, which translated in increase of
2.94% over previous year. In FY2010-11 they achieved sales ofRs 1470.58lacs i.e. 73.53%
of their projections (`2000.00lacs). In FY 2011-12, company has estimated sales of Rs
2200.00lacs
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FINANCIAL ANALYSIS
TABLE -4
BRIEF FINANCIAL INDICATORS OF SUBJECT COMPANY: (Rs inlacs)
31.03.11
(audited)
31.03.12
(audited)
31.03.13
(Provisional)
31.03.14
(Projections)
31.03.15
(Projections)
Net Sales 1,470.58 1,976.42 2,400.00 2,600.00 2,800.00
Operating Profit 36.93 59.26 57.40 58.65 83.95
Net Profit after Tax 31.52 50.18 34.60 52.65 72.95
Cash Accrual 76.83 96.52 105.60 112.65 137.95
Net Working Capital 1,198.04 1,523.39 1,505.72 1,414.37 1,460.32
Current Ratio 3.58 3.72 3.62 3.11 3.20
Tangible Networth 1,222.24 1,368.78 1,420.72 1,490.37 1,581.32
TOL/TNW 0.66 0.98 0.92 0.87 0.81
(TOL-USL)/(TNW+USL) 0.30 0.26 0.27 0.32 0.30
Abridged financial position
31.03.11
(audited)
31.03.12
(audited)
31.03.13
(Provisional)
31.03.14
(Projections)
31.03.15
(Projections)
Capital & Reserves 1,222.24 1,368.78 1,420.72 1,490.37 1,581.32
Long Term Liabilities 341.02 786.14 736.00 620.00 620.00
Current Liabilities 464.51 559.11 574.25 671.30 662.35
TOTAL 2,027.77 2,714.03 2,730.97 2,781.67 2,863.67
Fixed Assets 308.46 374.88 420.00 460.00 500.00
Non-Current Assets 0.00 0.00 0.00 0.00 0.00
Current Assets 1,662.55 2,082.50 2,079.97 2,085.67 2,122.67
Intangible Assets 0.00 0.00 0.00 0.00 0.00
TOTAL 2,027.52 2,714.02 2,730.97 2,781.67 2,863.67
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RATIO ANALYSIS
1. Financial Ratios TNW- Tangible Net Worth
A measure of the physical worth of a company, which does not include any value derived
from intangible assets such as copyrights, patents and intellectual property.
Tangible Net Worth = Total AssetsLia