The EY report, titled All Tied up India — Working Capital Management report 2014, analyzes the latest published annual reports (for fiscal year 2012-13) for the top 500 Indian companies by revenue across all industries, including chemicals and fertilizers, food producers, information technology, oil and gas, steel, auto parts, pharmaceuticals and machinery manufacturers.
The report concludes that based on the individual management of the working capital cycle, the efficiency levels of the companies, they could have freed themselves between ?? 2.7 trillion and ?? 5.3 trillion in cash, or between 6% and 12% of their total sales. This could then have been used for capital expansion or even debt repayment, an issue that many companies are currently grappling with.
A working capital cycle can be defined as the period during which there is a flow of liquid resources (the majority of which is cash) in and out of a business. This period usually begins with the investment in raw materials, work in progress and finished goods, and is followed by the monetization of the assets created.
The longer this cycle, the lower the return on capital employed.
The report says that compared to their global counterparts, Indian companies appear to be worse off in managing the working capital cycle. Excluding oil, gas and metallurgical and mining companies, the cash-to-cash cycle (a measure of how long cash is tied up in the company’s working capital cycle, expressed in days sold) for companies India lasts 67 days, compared with 42 days in the United States, 41 in Europe, 57 in Japan and 39 days in the rest of Asia.
In addition to regional peculiarities of the business environment, elements such as supply chain infrastructure (logistics and distribution of goods) and ‘marked differences in the degree of management focus on species and related processes to efficiency ”are some of the reasons why the cash-to-cash cycle varied so much between regions. One of the reasons cash gets stuck longer in this cycle in India is evident from the World Bank’s ranking of the country in terms of logistics performance. While countries like the United States and Japan are in the top 10, India ranks 46th out of 155 countries.
“Failure to treat working capital as an operational problem, poor management of system data, insufficient focus on continuously adapting business policies and processes to a rapidly changing environment appear to be the main reason for the divergence of working capital trends between India and the United States and Europe, “the report says.
It is not only smaller and relatively less organized businesses that suffer from working capital management problems. Even larger entities like the engineering conglomerate Larsen and Toubro Ltée (L&T) have been suffering from a similar problem lately.
A Barclays Jan. 23 report indicates that L & T’s net working capital represented 21% of total sales in the third quarter of the current fiscal year, compared to 18% in the previous quarter, “due to fewer customer advances and ‘tighter supplier credit’. The report was released after L&T management met with analysts after reporting their October-December quarterly results.
“In the future, the execution part, cost reduction and working capital management will be our areas of intervention”, K. Venkataramanan, chief executive of L&T, told reporters at the press conference on the third quarter results. “However, we are still going to have a difficult time growing the economy.”
As a result of the long working capital cycle, profitability on capital employed by companies has also suffered. It stood at 10.8% at the end of fiscal 2013, the lowest in five years.
Certainly, the working capital performance of Indian companies improved slightly in 2012-13 compared to 2011-12, with the cash-to-cash cycle being 2% shorter. But the report argues that this marginal improvement is barely enough to offset the deterioration in the working capital management capabilities of Indian companies from fiscal year 2009 to fiscal year 2013, during which the cash-to-cash cycle took hold. is lengthened by 21%.
Ankur Bhandari, partner (working capital consultancy) at EY India, says that other factors such as ill-defined contracts, inadequate customer credit due diligence and a more adversarial than collaborative relationship with suppliers are also some factors that lead to a longer duration between debts and receivables.
“In an age when banks are grappling with high levels of NPAs (non-performing assets) and their financing capacity is limited, businesses are sitting on a huge potential resource of liquidity in their backyards, which they cannot are not able to use. “, says Bhandari.
Subba Rao Amarthaluru, chief financial officer of RPG Enterprises, says that what Indian businesses need in a situation like this is a strong government that “will revive investments leading to increased GDP (gross domestic product), a higher purchasing power and higher demand ”.
“Indian businesses can and certainly will come out of this current challenge. Until the macroeconomic situation changes, companies need to keep costs low and continue to invest in processes and talent to face the good times when they return soon, ”he said.
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