Chapter 7: RECEIVABLES MANAGEMENT CHAPTER 7 RECEIVABLES MANAGEMENT

Transcription

1 CHAPTER 7 RECEIVABLES MANAGEMENT 145

2 Trade Credit is a prominent and all pervasive force in the present day competitive industrial environment. This is because, it is highly difficult to a manufacturer to pay cash across the counter, whatever be his liquidity in meeting the debts. In the words of Pandey 1, A firm is said to have granted trade credit when it sells its products or services and does not receive cash immediately. Trade credit is an essential marketing tool which acts as a bridge for the movement of goods from the stage of production to distribution. It acts as a device to protect firm s sales from its competitors and also attracts potential customer, who otherwise finds it difficult to make cash purchases. Trade credit creates receivables, which the firm is expected to collect in the near future. Thus, the book debt or receivables, arising out of credit has three dimensions 2. First, it embraces an element of risk which needs to be assessed, since cash sales are totally riskless. Second, it is based on economic values. To the buyer, the economic value in goods or services is passed on immediately at the time of sale while the seller expects an equivalent value to be received at a later date. Third, it implies futurity. The payment for value received, arises at a future date. But, creation of receivables block the firm s funds for the period between the date of sale and the date of receipt of payment which is to be financed out of working capital funds. This necessitates the firm to arrange funds from banks and other sources. Thus, receivables represent investment, which constitutes a substantial portion of current assets of manufacturing firm. Thus, it needs careful analysis and proper management. Receivables, in the strict accounting sense, include (i) book debts or accounts, (ii) notes and bills and (iii) accrued receivables only. However, in broader sense, the term receivables is used to include further (iv) any pre-payment made against purchase and expenses contract and (v) advance to subsidiaries, employees and officers 3. The quantum of book debts depends upon the volume of credit sales and collection policy. The greater the volume of credit sales and larger the credit period allowed, the more is the investment in trade debtors. Sometimes, the customers, at the time of credit sales, may be asked to sign notes or bills promising therein to pay a specified date the amount extended to them as credit. Again, sale of durable goods on hire purchase basis gives rise to accrued receivables for those installments that 146

3 become due for payment. Pre-payment arise when payment is made in advance of receipt of goods and services. As pre-payments represent items to be consumed during the course of business, it is different from typical receivables. Insurance premium, rent, etc., are pre-payments of this nature. Pre-paid tax is also considered an asset as it chargeable to a later period. and loans to employees and officers of the company are also current assets. They are, however, good assets only to the extent that the responsibility of the employees or the officers can be relied upon. In the present chapter, the term receivables has been used in its broader sense, that is, to include trade debtors and loans and advances in its purview. In order to evaluate the performance of receivables management in select cement companies, an attempt has been made to analyze the size, composition and efficiency of receivables during the study period. SIZE OF RECEIVABLES This analysis is intended to know the size of receivables in select cement companies. This is done in two stages. In the first stage, the absolute size of receivables, its growth was analyzed and in the second stage, the size of receivables has been studied in relation to other important elements such as total assets, current assets, sales, etc., so as to know its relative importance of receivables in select cement companies. The size of receivables in select cement companies has been presented in the table 7.1. This table reveals that the size of receivables has been on the increase in the industry during the study period. It increased from Rs crore in to Rs crore in registering a base year growth rate of per cent. In select units, the size of receivables varied from one undertaking to another, but has been showing an increasing trend in all select units. The highest rate of growth was registered in APCL ( per cent), where it increased from Rs crore in to Rs crore in The lowest rate of growth was registered in DCL (11.87 per cent) where it showed a fluctuating trend (between Rs crore and Rs crore). In BCL, NCL, PCMIL and SCL, it increased from Rs crore, Rs crore, 147

4 TABLE - 7.1: SIZE AND TREND OF RECEIVABLES IN SELECT CEMENT COMPANIES (Rs.in crore) Year APCL BCL DCL NCL PCMIL SCL Average (100) 7.78 (90.26) (123.78) (220.30) (313.92) (343.74) (491.42) (621.81) (900.58) (982.48) 7.29 (100) 8.95 (122.77) (160.63) (194.10) (254.18) (749.38) (462.00) (530.73) (785.05) (775.31) (100) (79.74) (102.80) (129.44) (270.26) (504.51) (205.05) (280.96) (140.19) (111.87) (100) (103.60) (158.47) (249.28) (302.20) (448.28) (465.02) (577.31) (476.76) (313.89) Notes: Figures in brackets indicate base year growth. Source: Annual Reports of Select Cement Companies (100) (76.92) 4.56 (22.34) (149.68) (330.08) (579.13) (622.24) (608.13) (579.23) (469.72) (100) (140.12) (96.53) (185.53) (304.18) (425.59) (500.88) (662.41) (543.71) (555.65) (100) (99.49) (102.43) (182.97) (298.98) (498.66) (451.41) (535.40) (500.96) (445.13) 148

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6 Rs crore and Rs. 17 crore in to Rs crore, Rs crore, Rs crore and Rs crore in registering per cent, per cent, per cent and per cent growth rate respectively. The net sales are high in size than that of receivables in all select units during the entire study period. But, the progressive growth rate of receivables was more than that of sales in APCL, BCL and SCL, and less in DCL, NCL and PCMIL on an average, which has revealed by the table 7.2. The analysis revealed that the size of receivables is showing an increasing trend in select cement companies irrespective of trend in sales. Increased receivables in select units were unjustifiable and indicate bad financial planning. On the whole, it said the size and growth of receivables had been high in select cement companies. However, in a competitive industry like cement, the size of receivables has a positive relationship with the growth. Thus, no conclusions about the size of receivables can be drawn unless it is related to some important parameters. Hence, the size of receivables has been related to total assets, current assets and sales. For this purpose, the ratios of receivables to total assets, receivables to current assets and receivables to sales have been calculated and presented in the tables 7.3, 7.4 and 7.5. The ratio of receivables to total assets (table 7.3) has fluctuated between per cent and per cent and on an average it was per cent in the industry during the study period. 150

7 TABLE - 7.2: PROGRESSIVE BASE YEAR GROWTH RATE OF RECEIVABLES AND SALES IN SELECT CEMENT COMPANIES (In percentage) Year Component APCL BCL DCL NCL PCMIL SCL Average Receivables Sales Receivables Sales Receivables Sales Receivables Sales Receivables Sales Receivables Sales Receivables Sales Receivables Sales Receivables Sales Receivables Sales Receivables Sales Source: Annual Reports of Select Cement Companies. In select units, it has been showing an increasing trend in APCL and PCMIL as against decreasing trend in DCL, NCL and SCL and fluctuating trend in BCL during the study period. On an average, it was 19 per cent in APCL, per cent in BCL, per cent in DCL, per cent in NCL, per cent in PCMIL and per cent in SCL. The mean values of DCL and NCL varied significantly from that of industry at 1 per cent level. Increasing trend in this ratio in APCL and PCMIL, in spite of increase in the size of fixed assets, only indicates their inefficiency in controlling the size of receivables. Low level of receivables in DCL, NCL and SCL is 151

8 due to increase in the size of fixed assets during the study period. Fluctuating trend in this ratio in BCL is the result of fluctuations in fixed assets of it. The ratio of receivables to current assets (7.4) reveals that the proportion of receivables in current assets has been showing decreasing trend in the industry. It decreased from per cent in to per cent in and on an average it was per cent during the study period. In select units, this ratio has been showing decreasing trend in BCL, DCL, NCL and SCL. In APCL and PCMIL it has showed increasing trend. The average ratio was per cent in APCL, per cent in BCL, per cent in DCL, per cent in NCL, per cent in PCMIL and per cent in SCL. The mean values of PCMIL at 1 per cent level and of DCL and NCL at 5 per cent level varied significantly from that of industry. Thus, in select units the proportion of receivables in current assets is considerable and effective measures are required in this regard to improve the receivables management. TABLE - 7.3: RATIO OF RECEIVABLES TO TOTAL ASSETS IN SELECT CEMENT COMPANIES (In percentage) Year APCL BCL DCL NCL PCMIL SCL Average C.V t * -4.63* 3.25** -1.5 *significant at 1 per cent level. **significant at 5 per cent level. Source: Annual Reports of select cement Companies. 152

9 TABLE - 7.4: RATIO OF RECEIVABLES TO CURRENT ASSETS IN SELECT CEMENT COMPANIES (In percentage) Year APCL BCL DCL NCL PCMIL SCL Average C.V t 3.15** ** -2.3** 6.11* 0.91 *significant at 1 per cent level. **significant at 5 per cent level. Source: Annual Reports of Select Cement Companies. The table 7.5 presents the ratio of receivables to sales in select cement companies. This ratio has been calculated to know whether the select units have utilized the investment in receivables efficiently or not. If this ratio is low and decreasing, it is a sign of effective utilization of investment in receivables and vice versa. The ratio has been showing increasing trend in the industry (from per cent in to per cent in ) and registered an average of 27 per cent during the study period. In select units, APCL, BCL and PCMIL have been showing an increasing trend as against decreasing trend in DCL, NCL and SCL during the study period. On an average, it was per cent in APCL, per cent in BCL, per cent in DCL, per cent in NCL, per cent in PCMIL and per cent in SCL. The mean values of DCL and PCMIL varied significantly from that of industry at 1 153

10 per cent level. This indicates better utilization of investment in receivables in DCL, NCL and SCL. It follows from the above observations that the size of receivables has been high in select units because of lack of proper receivables management. It is especially true in case of APCL, BCL and PCMIL. TABLE - 7.5: RATIO OF RECEIVABLES TO SALES IN SELECT CEMENT COMPANIES (In percentage) Year APCL BCL DCL NCL PCMIL SCL Average C.V t -3.53* 2.74** -3.59* -2.87** 3.75* -8.89* *significant at 1 per cent level. **significant at 5 per cent level. Source: Annual Reports of Select Cement Companies. COMPOSITION OF RECEIVABLS A vital tool for evaluating the management of receivables is study of their composition. It helps to reveal the point where receivables concentrated most. Receivables in any organization comprise the total of sundry debtors and loans and advances. It is desirable to keep minimum investment in loans and advances because 154

11 to that extent firm s funds are blocked up which would have been otherwise used profitably. In other words, investment in loans and advances has high opportunity cost. Investment in debtors, on the other hand, is inevitable in the competitive environment. Further, increasing investment in debtors may increase the sales which in turn may increase profit. The table 7.6 shows the composition of receivables in select cement companies which reveals that first two years of the study period i.e., and , the proportion of sundry debtors dominated the total receivables and later on loans and advances predominated the structure of receivables in the industry. On an average, the proportion of debtors was per cent and loans and advances was per cent in the industry. In select units, the proportion of loans and advances dominated the receivables structure in four units i.e., APCL, DCL, PCMIL and SCL and the proportion of sundry debtors dominated the receivables structure in remaining two units i.e., BCL and NCL. In APCL debtors dominated in first three years with an average of per cent and loans and advances dominated in seven years with an average of per cent. In BCL debtors dominated in eight years with an average of per cent and loans and advances dominated in two years with an average of per cent. In DCL it was the loans and advances which dominated receivables structure throughout the study period. 155

12 TABLE - 7.6: COMPOSITION OF RECEIVABLES IN SELECT CEMENT COMPANIES (In percentage) Year Component APCL BCL DCL NCL PCMIL SCL Average C.V Source: Annual Reports of Select Cement Companies. 156

13 The average of this component was as high as per cent in DCL. The average proportion of sundry debtors was just per cent in DCL. In NCL, it is quite opposite in this regard. The proportion of sundry debtors dominated the receivables structure entire study period with an average of per cent and the average proportion of loans and advances was per cent. In PCMIL, sundry debtors dominated in first two years only with an average of per cent and loans and advances dominated in remaining eight years with an average of per cent. In SCL, sundry debtors dominated in four years with an average of 43 per cent and loans and advances dominated in six years with an average of 57 per cent. The composition analysis revealed that the structure of receivables was dominated by loans and advances in select cement companies during the study period. It indicates huge tie up of funds in various forms of loans and advances in select units. Within the loans and advances, the proportion of advances given for the acquisition of fixed assets, for supply of raw material s and stores and spares (table 7.7) has been high in select units. The advances given to employees and prepaid expenses were another element of total loans and advances, which contributed a very small portion of total loans and advances in select units (table 7.8). Among the various deposits, the proportion of deposits with various Government Agencies like excise, sales tax, electricity and other agencies, has constituted a significant portion of loans and advances in select units (table 7.9). To sum up, the composition of analysis revealed that while the proportion of debtors dominated the receivables structure in BCL and NCL; the loans and advances dominated in APCL, DCL, PCMIL and SCL. 157

14 TABLE - 7.7: PROPORTION OF ADVANCES TO SUPPLIERS OF RAW MATERIAL, STORES AND SPARES AND FIXED ASSETS TO TOTAL LOANS AND ADVANCES IN SELECT CEMENT COMPANIES (In Percentage) Year APCL BCL DCL NCL PCMIL SCL NA NA NA NA NA NA NA NA NA NA NA NA NA NA NA NA NA NA NA NA NA NA NA NA NA Source: Annual Reports of Select Cement Companies. TABLE - 7.8: PROPORTION OF ADVANCES TO EMPLOYEES AND PREPAID EXPENSES IN SELECT CEMENT COMPANIES (In Percentage) Year APCL BCL DCL NCL PCMIL SCL NA NA NA NA NA NA NA NA NA NA NA NA NA NA NA NA NA NA NA NA NA NA NA NA NA NA NA NA NA NA NA NA NA NA NA NA NA Source: Annual Reports of Select Cement Companies. 158

15 TABLE - 7.9: PROPORTION OF DEPOSITS WITH VARIOUS GOVT. AGENCIES TO TOTAL LOANS AND ADVANCES IN SELECT CEMENT COMPANIES (In Percentage) Year APCL BCL DCL NCL PCMIL SCL NA NA NA NA NA NA NA NA NA NA NA NA NA NA NA NA NA NA NA NA NA NA NA NA NA NA NA NA NA NA NA NA Source: Annual Reports of Select Cement Companies. ANALYSIS OF THE EFFICIENCY OF GRANTING CREDIT AND COLLECTING PAST DUE ACCOUNTS The preceding analysis clearly revealed that the receivables constituted a large portion of current assets. It is the first major component of current assets. Hence, it is important to efficiently manage this component of current assets to improve both liquidity and profitability. As already observed loans and advances and sundry debtors are the two major components of receivables, the share of which has varied among the select units. The performance of a unit can be considered as efficient, if it is successful in bringing down the investment in loans and advances and the same time improve its debtors turnover. In this section, the efficiency of the select cement companies in the management of debtors has been analyzed by calculating debtors turnover ratio and average collection period. Further, the aging schedule of debtors has been prepared to know the proportion of the debtors outstanding over six months in select units. 159

16 The debtors turnover ratio indicates the velocity of debt collection of firm. In simple words, it indicates the number of times average debtors are turned over during the year 4. Generally, the higher the value of debtors turnover the more efficient is the management of debtors/sales or more liquid are the debtors. Similarly, low debtors turnover implies inefficient management of debtors/sales and less liquid debtors. But, a precaution is needed while interpreting a very high debtors turnover ratio because a very high ratio may imply a firm s inability due to lack of resources to sell on credit thereby losing sales and profits. A more definite test of the efficiency of the accounts receivables management is the ratio to have by dividing the number of days in the year with the turnover of receivables, i.e., average collection period 5. This gives the time period taken by the firms in collecting the debts from their customers and shows the speed with which they were collected. A high and increasing collection period indicates the inefficiency of accounts receivables management and vice versa. The table 7.10 shows the debtors turnover ratio in select cement companies during the study period. This reveals that the debtors turnover ratio has fluctuated between times and 8.31 times in the industry and on average it was times. In select units, the ratio has been showing fluctuating trend during study period. It fluctuated between 2.87 times and times in different units during the study period. The average debtors turnover ratio was times in APCL, 5.29 times in BCL, times in DCL, 8.61 times in NCL, times in PCMIL and times in SCL. The mean values of DCL and BCL varied significantly from that of industry at 5 per cent level and at 1 per cent level respectively. The turnover of debtors revealed that the efficiency of DCL was better than other units during the study period. The same is reflected in the average collection period (table 7.11). This table reveals that the average collection period in DCL was lower than other units during the study period. The aging schedule is another useful management control device for review of the condition of accounts receivables. Aging schedule is also helpful to determine the liquidity of a concern. This involves tabulation of accounts receivables outstanding according to the length of time they have been outstanding. It also gives more 160

17 information than the collection period and very clearly spots the slow paying accounts receivables 6. The aging schedule of select cement companies has been presented in the table This table reveals that the share of debt outstanding below six months has fluctuated between per cent and per cent in the industry and on average it was per cent during the study period. The efficiency of APCL, BCL, DCL, NCL and SCL except PCMIL was high in this aspect. In PCMIL the situation is quite opposite from that of other units. The share of debt outstanding below six months in PCMIL has fluctuated between per cent and per cent and on average it was per cent during the study period which reveals inefficiency in this aspect. From this analysis it can be concluded that the efficiency of DCL was better than other units in managing the accounts receivables during the study period. APCL, BCL, NCL and SCL were satisfactory in this aspect and PCMIL was inefficient in this regard. TABLE : DEBTORS TURNOVER RATIO IN SELECT CEMENT COMPANIES (In no. of times) Year APCL BCL DCL NCL PCMIL SCL Average C.V t -9.38* * 2.39** * -7.11* *significant at 1 per cent level. **significant at 5 per cent level. Source: Annual Reports of Select Cement Companies. 161

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19 TABLE : AVERAGE DEBT COLLECTION PERIOD IN SELECT CEMENT COMPANIES (In no. of days) Year APCL BCL DCL NCL PCMIL SCL Average C.V t -3.91* 4.73* * * *significant at 1 per cent level. Source: Annual Reports of Select Cement Companies. 163

20 TABLE : AGING SCHEDULE OF DEBTORS IN SELECT CEMENT COMPANIES (In percentage) Year Particulars APCL BCL DCL NCL PCMIL SCL Average bellow 6 months above 6 months bellow 6 months above 6 months bellow 6 months above 6 months bellow 6 months above 6 months bellow 6 months above 6 months bellow 6 months above 6 months bellow 6 months above 6 months bellow 6 months above 6 months bellow 6 months above 6 months bellow 6 months above 6 months bellow 6 months above 6 months Source: Annual Reports of Select Cement Companies. 164

21 RELATIONSHIP BETWEEN SALES AND RECEIVABLES Correlation and Regression Analysis: The correlation analysis has been undertaken to know the degree of relationship between sales and receivables in select cement companies. This is presented in the table This table reveals high degree of correlation between sales and receivables in the industry. In all select units, except DCL, also high degree of correlation existed between sales and receivables. In DCL, a low degree of correlation existed, which implies absence of clear cut credit policy. Based on the relationship between sales and receivables, a regression equation gas been calculated which can be used to forecast the size of receivables and thereby the future needs of funds for this component for a given volume of sales. The value of b was comparatively high in PCMIL, BCL, APCL and SCL which indicates high sensitivity of receivables to changes in sales. High value of a in DCL and NCL indicates their inability in reducing the size of receivables to that extent. Negative value of a in APCL and PCMIL indicates the extent to which these firms can reduce the size of receivables. TABLE : CORRELATION AND REGRESSION RESULTS FOR RECEIVABLES AND SALES Name of Regression equation r r 2 t values the unit Y = a + bx APCL Y = X BCL Y = X DCL Y = X NCL Y = X PCMIL Y = X SCL Y = X Average Y = X

22 Conclusions: The receivables constituted per cent of current assets, on an average, in the industry. The high ratio of receivables to sales in select units indicates that they have not succeeded in utilizing receivables as an effective tool for generating sales. It is especially true in case of APCL, BCL and PCMIL. Further, high proportion of loans and advances during the study period except first two years resulted in high opportunity cost as investment in this component will not directly contribute to sale or profitability. The efficiency of debtors management of select units, except DCL, was unfavorable. This was clearly reflected in their low debtors turnover ratio and the resultant high average collection period. However, one positive feature in the debtors management of select units, except PCMIL, is that their proportion of debts outstanding over six months was on lower side. 166

23 REFERENCES 1. M. Pandey, op.cit. p. 2. V.E. Ramamurthy Working Capital Management, Madras: institute of Financial Management and Research, 1976, p H.L. Verma, op. cit., pp B. Ramachandra Rao, op. cit., p. 167, 5. K V. Rao, op. cit., p P.K. Jain Management of Working Capital, Jaipur: PBSA Publishers, Jaipur, 1993, pp