Professional Documents
Culture Documents
A Project Report
On
Financing Decision
At
Alembic Glass Industries
Ltd.
As a Partial Fulfillment
Of
Master of Business Administration Programme
Prepared By
Unnati Rawal
Submitted To
N.R. Institute of Business Management
Gujarat University
Ahmedabad
PREFACE
My heartily wishes are always with the company for its bright
future.
ACKNOWLEDGEMENT
Last but not the least I would even like to thank the staff of AGIL,
which was also much co-operative and helped me a lot during my training.
I would like to wish AGIL best wishes for the future to come.
EXECUTIVE SUMMARY
Apart from the sources of financing even the other ways of raising the
funds are evaluated. The firm can also raise the funds through the Mergers,
Acquisitions or even the Takeovers. Even which is the most useful way i.e. Merger to
deal out for the same is evaluated for AGIL and even the advantages of the same
within the firm and outside the firm is also known.
There are certain limitations even of the study, which are taken into
account and are incorporated in the report.
Largest range about 100 products of the company available, which is the highest in
India. Details of range of main products are as under: --
(a) Tumbler :-
In different designs, patterns and shapes, plain and decorating imorted stckers,
crystal, heavy bottom, tall, arrow ,cut, fluted, etc.
(b) Bottles with caps and without caps :-
Plain and decorated in different shape of round, square mouths with air tight
caps and without caps.
(c) Bowls and casseroles :-
Plain and decorated crystals, spiral, fancy, fluted bowls in different shape
of square, round, octagonal, etc. plain and decorated casseroles in different
sizes.
(d) Juicer/ beer mugs in different pattern and design of square, crystal, L
shaped, fancy, frosted, hexagonal, etc.
(e) Plain and decorated round plates
(f) Jugs (including pourers and without pourers) in plain and decorated in
different shapes and designs of oval.
In 1987, the company has entered into an agreement with Dharak Limited, Vadodara,
to transfer Vadodara unit of the company. This agreement was basically made for the
labour rationalisation, whereby it was thought prudent to reduce labour cost, improve
labour efficiency and to keep troublesome elements out of the company. The
agreement was expired on 1st October 2003.
The Company has taken pressed ware production facilities from the closed
pressed ware glass factroy near Bharuch on lease base for a period of 3 years to
The company is continuously introducing new products in all its category of product
as per taste, performance, choice and requirements of consumers and alteration in its
existing products according to the need and preference of consumers.
GENERAL INFORMATION
FINANCE MANAGEMENT
INTRODUCTION
Finance Management is the managerial activity, which is concerned with the planning
and controlling of the firm's financial resources. The subject of financial management
is of great interest to practicing managers and academicians.
We can say that it is growing and there are many new things that can be researched
and developed continuously.
Value Maximization
This is the prime objective of finance management, maximizing value of the firm and
centric goal of all other departments formulated around it. Here value of the firm
means shareholders wealth and that reflects through market price of share. This is
broad concept than other.
Profit Maximization
Other Objectives
Investment decision
Financing decision
Dividend decision
Liquidity decision
These four are the major decisions involved in finance management and taking these
decisions expediently is the task of finance manager. In this report I have been
assigned e aspects related to cost evaluation of capital restructuring and its financial
resources for the Company
Here in my study I have to evaluate different sources of financing for the proposed
investment. There are mainly two types of fund available viz. short term and long
Alembic Glass Industries Ltd.
Financing Decision
term depend upon the requirement and availability we have to select respective
sources.
There are following different sources available for long term finance out of which
one or more can be adopted depend upon the nature of capex and business
requirement for investment purpose. The following are the sources:
Equity Capital
Preference Capital
Debenture
Long Term Loan
Public Deposits
In this report I will be working on the project considering the following points for the
above sources of finance and evaluate these from the Company's point of view.
Definition
Criteria
Constrains
Procedure
Advantages/Disadvantages
Suitability to the company
All these points are evaluated with reference to each source of finance and after that
the short-term sources are evaluated and finally we will reach to the conclusion that
which source is more suitable for the company.
EQUITY CAPITAL
Equity shares are the ownership security i.e. Equity shareholders are the real owners
of the business. They enjoy the residual profits of the company after having paid off
preference shareholders and other creditors of the company and their liability is
limited to the amount of capital they contributed to the company. The prime
advantage of issuing equity share by the company is that without any fixed obligation
for payment of dividends, it offers permanent capital with limited liability for
repayment. The funds remain with in company throughout its lifetime and are only to
be repaid at the time of liquidation of the company.
The main purpose of collecting funds through equity capital is to use them for the
longer period of time. Equity capital is raised normally at the time when the company
is floated. The funds collected through equity capital are mainly utilized for the
purpose of incurring capital expenditure. Subsequently also during its lifetime the
company can issue equity shares upto the limit specified in capital clause of
Memorandum & Articles for which the company is authorized for meeting various
purpose viz. long-term working capital requirements, expansion, modernization etc.
Any company issuing equity shares is required to meet and satisfy the required
guidelines of related Sections, Clauses, Sub-Clauses, notifications, Circulars, press
Notes / releases of Companies Act, 1956, Security & Exchange Board of India, Stock
Exchange, The Registrar of Companies, Reserve Bank of India and to take approvals
as may be required from the concern authorities and Government Departments.
A Company can issue equity share in one of the following route:
1) Public issue
This is one of the most popular way of raising funds from public. Companies issue
equity securities to public in the primary market by making an initial public
offering and get them listed on the stock exchange(s). These securities are then
traded in the secondary market
Registrars
3. Filing of the Prospectus with SEBI
4. Filing of the Prospectus with ROC
5. Printing and dispatch of the prospectus with the issue form
6. Filing of initial listing application
7. Statutory Announcement
8. Collection and Processing of applications
9. Allotment of shares
10. Listing of issue
2) Right Issue
Under Sec.81 of the Companies Act, 1956 when a company issues additional equity
capital to the existing shareholders on pro-rata basis is called Right Issue.
The company sends "LETTER OF OFFER" to its existing shareholdersand they
can renounce their rights in favour of any other person(s) at market-determined
rate/premium. The cost of floating right issue will be comparatively less than that of
public offer since these shares are issued to existing shareholders, thereby eliminating
the marketing and other relevant public issue expenses.
3) Private Placement
The private placement method involves direct selling of equity shares or preference
shares or debentures securities to a limited number of institutional or high net worth
investors. This avoids the delay involved in going public and also reduces cost
related to public offer. Normally company appoints a merchant banker to network
with the institutional investors and negotiate the price of issue.
4) Preferential Allotment
The shareholders of the company must pass a necessary special resolution and the
Company must obtain government special approval under section 81(1A) before
company makes final allotment, if stipulated.
The price at which preferential allotment of share is made should not be lower
than the higher of the average of the weekly high and low of the closing price of
the share quoted on the stock exchange during the six months period before the
relevant date.
Securities issued to the promoter group by this method are subject to a lock in
period of three years and to other categories of investor's for a lock in period of
one year.
In this section cost has been calculated as a percentage of total issued capital and this
amount is to be considered as floating/floatation cost and is to be utilized in arriving
at the cost of equity capital.
Right Issue
Legal charges
Approval from Shareholders and BOD 3.00%
Advertisement Expenses
Printing and Postage Charges
Private Placement
Legal charges
Brokerage 4.00%
Merchant Banker Charges
Other Miscellaneous Charges
Preferential Allotment
All the cost is to be equity capital and must be spread over a period of 10 to 15 years
to decide effective cost of raising shares.
Where:
D = Dividend expected at the end of year one
P = Market price per share
f = floatation cost
g = Growth rate in dividend
For eg. The Company is expected to pay the dividend at 7%, the market price of the
shares is Rs. 150, the floatation for the issue of the share is 2% and the growth rate
of dividend is @12%.
Cost of Capital = Rf + β ( Rm - Rf )
Where:
Rf = Risk Free Rate of Return
Rm = Rate of Return on Market Portfolio
β = Beta of the Security
The example for the same i.e. CAPM method is stated in the later report on the page
LEGAL CONSIDERATION
The following are the binding constrains that suppose to be followed by companies at
the time of issuing the Equity Capital
1. A company cannot issue equity shares beyond its authorized capital, if it wants to
do so then first it has to increase its authorized capital. For that
Special Resolution is required to be passed
Form No.5 is required to be filed with the ROC along with required stamp duty
and Registration fees.
2. According to section 292 of the Companies Act 1956 only the Board of Directors
are authorized to issue shares. As per Sec.81 of the Companies Act fresh shares
should be first issued to existing shareholders unless shareholders pass special
resolution to offer those shares to the outsiders.
3. Within 2 months of the issue company has to issue share certificate.
4. Within 30 days of allotment, intimation to ROC in Form No.2 to be given.
5. In case of public issue apart from the company law, SEBI guidelines and other
stock market related formalities to be followed.
6. New share will be ranking pari-passu with the existing shares after allotment.
1. Cost of equity is usually highest. The rate of return required by the equity
shareholders is generally higher as compared to other debt instruments.
2. The company has to pay tax on the dividend payment that is extra burden on
company.
3. The initial issue cost of Equity capital is higher than other sources
4. There is dilution of control if the equity base is broader.
5. Risk associated with equity shares is more than other sources so investors are
reluctant to invest in this.
PREFERENCE CAPITAL
(b) With respect to capital, at the time of liquidation of the company, their
dues will be settled prior to those of equity shareholders.
Basically preference share represents hybrid form of financing. They have certain
features of Equity shares like: -
The main purpose of issuing preference shares is also to acquire long-term funds.
Funds collected through preference shares are normally utilized to finance long-term
fund requirements and to meet various other financial obligations. Sometimes
companies also issue preference shares to better their debt-equity ratio, which is one
of the crucial criteria, which banks and other financial institutions consider before
approving various loan requirements of the company.
The principal cost to the company as far as preference shares are concerned is
definitely the dividend expense. The initial expenditure of preference shares is very
less compared to the equity as preference shares are normally privately placed or
given to selected investors only.
COST OF CAPITAL n
P = ∑ D/(1+kp) t + F/(1+kp)n
t=1
kp in the above equation is approximately equal to : K = D + [(F-P) / N]
(F+P) / 2
Where,
K = Cost
D = Dividend Rate
F = Redemption Price
P = Issue Price
N = Maturity Period
The example for the same is given in the later report on the page
LEGAL CONSIDERATIONS
Following are the important points that are to be considered from legal point of view:
1 There is no legal obligation to pay dividend. A company does not face any
legal consequences if it skips preference dividend.
2 There is no dilution of control, as preference shares do not carry any voting
rights.
3 Preference Capital is regarded as a part of net worth. Therefore, it enhances
creditworthiness of the company.
4 Preference dividends are tax exempt in the hands of investors.
DEBENTURES
Debentures are the creditorship securities issued by the company for the purpose of
collecting long-term funds in form of debt. A debenture certificate is a document
through which a company acknowledges the debt that it owes to the person(s) in the
certificate and which will be repayable after certain period of time. Like equity
shareholders, debentureholders are not the owners of the company but are the
creditors of the company. The obligation of the company towards its
debentureholders is similar to that of a borrower who promises to pay interest and
principal amount at specified time. Therefore, it does not matter whether company
earns profit or not it has to pay interest to debentureholders.
Here also the main purpose is to obtain long-term funds for the purpose of financing
various long and short-term projects. This source is less costly when compared to
equity and preference issues as interest paid on debentures is usually fixed and is a
tax-deductible expense but the disadvantage is that a company has to regularly pay
interest irrespective of profit earning.
TYPES OF DEBENTURES
• Convertible Debentures
Convertible debentures on achieving maturity are converted to equity shares.
Convertible debentures can be further classified into following two types: -
reputation and stable market price, FCD's are very attractive to the investors
as their bonds are getting automatically converted to equity shares. Which
may at the time of conversion be quoted much higher in the market
compared to what the debentureholders paid at the time of FCD issue.
The cost of issuing the debenture which are incurred only once i.e. one time
expenditure related to issue of debenture are written in the year of issue itself and are
not spread over the life of debenture.
Nature of Expenditure
Note: Floatation cost to be built up and to be added on fixed interest rate for arriving
at the effective cost of preference capital.
LEGAL CONSIDERATIONS
Following are the important points that are to be considered from legal point of view:
TERM LOANS
Term Loans constitute one of the major sources of debt finance for a long-term
project. Historically, term loans given by banks, financial institutions viz., IDBI,
ICICI etc. and state financial corporations have been the primary source of long-term
debt for private firms and most public firms. Term loans represent a source of debt
finance, which is generally acquired to finance acquisition of fixed assets and
working capital margin. Here Term loans should not be confused with short-term
bank loans, which are acquired to finance short-term working capital need and whose
maturity period is normally less than a year. In this section term loans are discussed
in both of its forms viz. rupee term loans and foreign currency term loans
TERM LOANS
1 Term loans can be availed in both forms viz., rupee as well as foreign currency
2 The interest and principal repayment on term loans are definite obligations
that are payable irrespective of the financial situation of the company.
3 The interest rate on the term loan will be fixed after the financial institution
appraises the project and assesses the credit risk, which is subjected to certain
floor rate that differs from industry to industry.
4 Term loans are generally secured through mortgage or by way of deposit of
title deeds of immovable tangible or intangible properties or hypothecation of
movable properties.
5 Financial institutions apart from the security also place certain restrictive
covenants on the borrowing firm.
6 Financial Institutions also ask collateral securities to have a comfort level.
The main purpose of going for term loans is to get long-term funds for the purpose of
financing various fixed assets and other sources.
Nature of Expenditure
5 Charge Creation/Registration
6 Brokerage/Intermediary Expenses
7 Certification Charges
8 Other miscellaneous Expenses
Here for per annum cost calculation expenditure other than interest will be spread
over the loan period.
Floatation cost to be built up and to be added as fixed interest rate for arriving at the
effective cost.
TOTAL COST
In this source of finance the corporate obtain the term loan from the local bank but in
foreign currency. In the present scenario this is one of the cheapest source of finance
available to the companies provided they manage through effective hedging
instrument to minimize the cost of borrowing various exchange and other risks
associated with the source in an efficient manner. The funds through this source can
be utilized for various expansions and other projects.
The main cost here is the interest cost that the company pays to the lending bank or
financial institution.
The interest is paid in accordance with the agreed terms, which are mutually decided
by the company and the lending institution. Normally interest is paid on floating rate
basis, which is LIBOR plus agreed spread. The agreed spread here rests on the risk
associated with the project and creditworthiness of the company. For payment of
interest the company can enter into interest rate swap or currency rate swap
agreements and reduce the risk considerably.
The principal difference between External Commercial Borrowings and Foreign
Currency Term Loans is that in the later funds are borrowed from within the country
which is not so in case of External Commercial Borrowings.
To minimize the associated floating interest rate risk (LIBOR) and exchange rate
(INR/US DOLLAR), the company can take suitable hedging strategies such as Cross
Currency Swap (CCS) or Coupon Only Swap (COS) or Principal Only Swap(POS)
with or without options. The cost of Foreign Currency borrowing including hedging
cost is generally lower as compared to the term loan in INR.
RESTRICTIVE COVENANTS
1 Broad base its board of directors by way of Nominee Director(s) and finalize its
management set-up in consultation with and to the satisfaction of the financial
institutions.
2 Restrain from undertaking any new project and / or expansion or make any
investment without the prior approval of the financial institutions.
LEGAL CONSIDERATIONS
Following are the points that are to be considered from the legal point of view:-
DIAGRAM PRESENTATION:
Sales Brand
AGI BANK
Sales Proceeds/Loan with Rent/Lease
Resale on Maturity
ALEMBIC LTD.
Resale on Default
PUBLIC DEPOSIT
Deposits from the public are an important mode of finance from the corporate sector.
Companies prefer to raise finance by accepting deposits rather than borrowing from
banks and financial institutions, because these are in the nature of unsecured debts and
not backed by any security in the form of hypothecation, mortgage lien, etc. Further
deployment of funds raised through deposits is at the discretion of the company unlike
loans from banks and financial institutions.
The companies (Acceptance of Deposits) Rules, 1975 defines public deposits as any
deposit of money including any amount borrowed by the company but excludes:
As far as public deposits are concerned the principal cost that the company bears as is
the interest on deposits paid to the deposit holders.
The total net cost to the company with regard to public deposits is after tax payment
of interest.
LEGAL CONSIDERATIONS
Following are the important points that are to be considered from legal point of view:
1 The total amount of public deposits cannot exceed 25% of the aggregate of
paid-up capital and free reserves.
2 Company can accept deposits from its shareholders up to a maximum limit of
10% of the aggregate of paid-up capital and free reserves.
3 The minimum tenure for which public deposits can be accepted or renewed is
12 months. It is stipulated that the maximum maturity period for the deposits
cannot exceed 60 months.
4 If the company, for the purpose of meeting its short-term requirement of
funds, may accept or renew deposits for less than 3 months, but such deposits
should not exceed 10% of the aggregate of paid-up capital and free reserves.
5 The company shall maintain liquid assets to the extent of 15% of the deposits
maturing during the financial year ending 31st March next year.
1 The quantum of funds that can be raised by way of public deposits is limited.
2 The maturity period is relatively short.
3 Complex legal compliance is to be followed.
The banks or financial institutions and the promoters can finance the working capital
requirement. Mainly commercial banks finance working capital requirements of the
company. As the part of the funds are made available to the business through the
current liabilities, the bank will like to finance only that portion of assets which are
not financed by the creditors. Thus, the net working capital is the amount, which is
taken into consideration for the purpose of the sanction of various kinds of limits.
The amount of portion that is financed by the bank is known as the "bank
borrowings" in financial parlance. But the bank will not finance entire 100% i.e.
some amount of assets is put in by the company and rest of amount must be financed
by the bank. The banks may have their own norms for providing finance against the
net working capital requirement is also called "margin money for working
capital", which may vary from industry to industry and from bank to bank.
BANK FINANCE
The Central Bank had set up various committees for evolving suitable norms for this
purpose. The Tandon committee and Chore committee are two noteworthy
committees, which had made important and significant recommendations in this
regard. This prime importance of the margin money for the working capital is that
the amount to some extend should be brought in by the promoter. In the running
Company or the on going project, the margin money will be brought in by way of
internal cash accruals, bringing fresh capital, assets etc.
The company has to approach any commercial bank for getting finance for the
working capital requirement. The company is required to submit certain documents
and financial data i.e. past current and also future projections, to the bank. Various
informations's required by the bank to assess the working capital proposal is to be
provided.
Even profitability statement, balance sheet, fund flow statement, statement of
assessment of working capital requirement, statement of ratio analysis, Schedules for
repayment of loans, interest calculation, depreciation, working capital and break-up
of important items of balance sheet.
On the bases of above information, the bank assess the working capital requirement
of the company the bank would finance the amount after keeping some percent of
total Working Capital Requirement (WCR) to be poured by the Promoters.
Current liability management focuses on short term financing facilities for working
capital requirement. Short-term financing facilities are of two types:
• TRADE CREDIT:
Trade credit refers to credit that a customer gets from suppliers of goods in
normal course of business. In practice the buying firms do not have to pay
cash immediately for the purchase made. This deferral of payment is a short
term financing called trade credit. Generally everyone wants to delay
payments upto most favorable extend and want receivable as early as
possible. The firm's supplier of materials and outside service extends trade
credit, which appears as accounts payable on the balance sheet. Trade credit
payment terms may include a discount if payment is made within a specified
period, the discount is forgone and the full amount is due on specified date.
Normally the total period would not be less than 6 months. But some times it
can be upto 1 month also. The repayment will be in installments. According
to RBI, the interest rate would be the prime leading rate (PLR). But now the
banks and the borrower as per their requirements decide the interest, i.e. it
may be more or even less than PLR. In most cases, the interest and
installments are payable on the quarterly bases.
It may be generally divided into two parts: Bills payable/ bill discounting
means domestic bills discounting and Foreign bills payable/Foreign bills
discounting means export bills discounting.
• BANK BORROWINGS:
Short-term borrowings are loans with maturity of one year or less. The loan
may be secured or unsecured; Short-term loans are very important source of
financing for a company. The cost of using public debt is considerably higher
than bank debt as fixed cost associate with issuing public debt. It can be
availed in the forms of overdraft, cash credit, purchase/discount of bills and
loan.
Signaling through bank loans:
Company's supplier or customers receives signal regarding companies'
financial health through its ability to raise bank loans.
- Lines of credit:
A line of credit is non-contractual agreement between the company and its
bank, which permits the company to borrow upto a stated sum during the
course of year. The prime future and requirement of line of credit arrangement
is cleaning up. It is that must repay the line (Zero credit balance) sometimes
during a year.
Packing credit refers to credit that a customer gets from suppliers of goods
for the packaging of materials. In Indian market receivables are linked to the
prime-leading rate (PLR).
The company, which also exports its good to one or more foreign countries,
can also get this facility as export financing. It cannot be in the form of short-
term loan.
It is broadly divided into two parts: -
(c) Packing credit against pledge of goods: Export finance is made available
on certain terms and conditions where the exportable finished goods are
pledged to the banks with approved clearing agent who will ship the same
from time to time as required by the exporter. The possession of the goods
so pledged lies with the bank are kept under its lock and key.
(b) Advance against export bill sent for collection: Finance is provided
by banks to exporters by the way of advance against export bills forwarded
through them for collection, appropriate margin is kept taking into account
the creditworthiness of the party, nature of goods exported, etc.
(c) Advance against duty drawbacks, cash subsidy, etc.: To finance export
losses sustained by exporters, bank advance against duty drawbacks, cash
against export performance. Such advances are of clean nature.
Alembic Glass Industries Ltd.
Financing Decision
Hypothecation of Stocks:
Possession of goods remains with the borrower and floating charge over the
stocks is created in favor of the bank. Drawings are permitted on the bases of
stock statement submitted by the borrower subject to margin stipulated for
each type of stock.
Here, a floating charge over the receivables is created with subject to margin
stipulated for each type of debt.
For the purpose of delivery of the bank credit, loan credit, loan system was
introduced in April 1995. This system is made available to the cases; where
the maximum permissible bank finance (MPBF) exceed Rs. 10 crore.
Under this system, the total amount of bank finance would be identified into
two categories:
Now a day, the loan components can be minimum as 10 to 15 days also. The
borrowers are required to have a demand loan component of at least 25%. For
this purpose, the MPBF has been divided into two categories:
The accounts where the MPBF is ≥ Rs. 10 crore and Rs. 20 crore
The accounts where the MPBF is ≥ Rs. 20 crore.
Cash credit
components Rs. 4
to 8 crore
(40% of MPBF)
MPFB Rs.10 to
Rs.20 crore
Loan components
Rs.6 to 12 crore
(60% of MPBF)
Cash credit
components
(25% MPBF)
MPFB Rs. to
Rs.20 crore
Loan components
(Balance of
MPBF)
However, the borrower is free to have larger share of the “loan component” in its
MPBF.
• FACTORING OF RECEIVABLES:
1. Buyer of goods who has to pay for goods brought on credit terms.
2. Seller of goods who has realizes credit terms from buyer.
3. Factor who act as agent in realizing credit sales from buyer and passes on
the realized sum to seller after deducting his commission.
• LETTER OF CREDIT:-
1. Seller
The person to whom the guarantee is given to due fulfillment of the
contract by principal debtor. Principal creditors are also sometimes
referred to as beneficiary.
2. Issuing Bank
The bank that agrees requests of the applicant and issues its L/c. As per the
instruction of the applicant.
3. Advising bank
The bank usually in the beneficiary’s country (issuing banks own Branch
or correspondent bank) requested to advise the credit to the beneficiaries.
4. Conforming Bank
Sometimes, the Issuing Bank requests another bank (usually the advising
bank) to add conformation to the L/c. When the bank is requested to
confirm the credit, agrees and adds it’s to the credit. Then such a bank is
known as “Confirming Bank”.
5. Nominated Bank
This is the bank (usually the advising bank) that is nominated by the
Issuing Bank to pay to the seller or to accept the seller or to accept the
draft from him or to negotiate with him.
• BANK GUARANTEE:
Here, the bank commits on behalf of the borrower, to pay the
compensation to the creditor in case, the borrower makes the default in the
payment at maturity. This commitment is called 'Bank Guarantee'. Bank
provides guarantee facilities to its customers who may requires these
facilities for various purposes. It is used when the capital equipment is to
be sold or brought. The guarantee can be given to Government Department
for releasing disputed claims as excise refunds, custom duty refunds, sales
tax, etc. The bank asks the borrower to provide counter guarantee and
stipulated margin/ collateral security.
The guarantee may broadly be divided in three categories as under,
- Financial Guarantee:
The bank gives these kinds of guarantees to the creditor, purely to
discharge the monetary obligation of the customer in case of default.
- Performance Guarantee:
The guarantees are issued for the performance of a specific contract or
the obligation. In case of non-performance of the obligation, the bank
compensated the losses due to the non-fulfillment of the obligations.
Banks generally not provide working capital finance without adequate security
the following are method of security, which the banks may require.
COMMERCIAL PAPER
They are negotiable by endorsement and delivered like pro-noted and hence are
highly flexible instruments.
They are issued in multiples of Rs. 5 lakhs, but the amount should not be less
than Rs. 5 lakhs by any single investor.
The maturity varies between 15 days to a year.
They are purely unsecured, as any assets of the issuing company do not back
them.
They normally have a buy- back facility; the issuers or dealers can buy-back the
CPs if needed.
No prior approval of RBI is needed for CP issues and underwriting of the issue is
not mandatory.
REGULATIONS
It has a net worth of at least Rs.4 crore, MPBF of minimum Rs. 4 crore and are
listed on stock exchange can issue CP.
The company should be sanction working capital limit by banks or All India
financial institutions.
The face value of commercial paper issued by it does not exceed 75% of its
working capital limit.
Rating Certificate of quantum of CP is to obtain from specialised rating agency
like CARE, ICRA, and CRISIL etc. Rating must not be more than two months.
CPs can be issued by lower rated companies followed by guarantee of rated group
company say AGI can issue CPs followed by guarantee of Alembic Ltd.
A Commercial paper is sold at a discount from its face value and redeemed at its face
value. CPs is sold at present value of the face value. Hence, the effective cost of
commercial paper can be arrived as under:-
The discount cost is the principal cost associated with this source of finance but there
are certain other fees and charges that the company is required to pay which are
described in the proceeding part.
Rupees
Foreign Currency
For the cost purpose the following are the parameters that are taken into
consideration:
Amount
Interest
Margin
Security
Here also the main cost is the interest cost which the bank and the company, may
mutually agree upon, which is generally.
Banks also provide short-term loans for which interest calculation is based on
Mumbai Inter Bank Offering Rate (MIBOR) plus agreed spread. Such loans are
meant for working capital requirement or other short term needs of the company.
The fixation of MIBOR and spread depends on the credit worthiness of the company.
AGI may avail this route of financing followed by guarantee of Alembic Ltd., if it is
available.
COST OF CAPITAL
8% 8% 9%
7.69% 8.20% 8.70%
Here, the option of evaluating the preference share capital cost thus it is being issued
at par and redeemed at par with a floatation cost of 1%. Thus in order to arrive at the
appropriate cost the various rate of interest are taken and there present value
incorporated.
7.5 8 8.5
AT 7.5 AT 8 AT 8 AT 8.5 AT 8.5 AT 9
The cost of capital of the various rates is stated as above at the present value.
CASH FLOW 99
7 yrs
red at 5%pr 7.50% 8.00% 8.50%
ISSUED @ 0 -99 -99 -99
PAR 1 7.5 8 8.5
2 7.5 8 8.5
3 7.5 8 8.5
4 7.5 8 8.5
5 7.5 8 8.5
6 7.5 8 8.5
7 112.5 113 113.5
8% 9% 9%
8.26% 8.75% 9.25%
Here, is the different option of evaluating the source at different rates which is issued
at par value as well as redeemed at the 5% premium and the redemption takes place
after 7 years.
7.5 8 8.5
AT 7.5 AT 8.5 AT 8 AT 9 AT 8.5 AT 9.5
DEBENTURE
8% 9% 10%
7.62% 8.64% 9.66%
Here the premium will be paid in the last installment to the debenture holders
The remuneration will be paid at 0.05% p.a.
CASH
FLOW 97
7 8 9
AT 7 AT 8 AT 8 AT 9 AT 9 AT 10
ISSUE @ PAR
RED. @ 5% PREM.
7% 8% 9%
-99 -99 -99
7.05 8.05 9.05
7.05 8.05 9.05
7.05 8.05 9.05
7.05 8.05 9.05
7.00 7.05 8.00
8.05 9.05 9.00
AT 7 AT 8 37.05
AT 8 38.05AT 9 AT 9
39.05 AT 10
34.935 35.635 36.635
Alembic Glass Industries Ltd. 47.82 48.22 48.62
8% 9% 10%
7.77% 8.75% 9.77%
Financing Decision
COST OF EQUITY:
For the calculation of the cost of equity there are various methods for the same. But
from the AGIL'S point of view it is not possible to raise the funds by the way of the
equity. But while evaluating the various it is necessary to even know the cost of
equity though not used for the fund raising.
For the cost calculation, the dividend growth model will not be used, since AGIL
has not paid the dividend to the shareholders since a long time. Thus, to
determine the cost of the equity the alternative method such as capital asset
pricing method is to be used, through which appropriate cost can be derived.
An alternative model for calculating AGIL'S cost of equity is the capital asset pricing
model (CAPM). The use of CAPM requires the following information:
Risk Free Rate: The risk free rate is generally approximated by the highly liquid,
short-term Government Security. The yield on one year Government Bonds in India
is about 605%. This rate could be used as a proxy for the risk-free rate.
Market Premium: The difference between the expected market rate of return and
the risk free rate of return is the expected market premium. The average monthly
sensex return during the period April '02 to March '04. This implies an annual market
rate of return as 28.8%. This seems to be too sensitive and this is not reasonable for
the calculation and thus we have taken 14.4%.
So, if we assume that the investor expects to earn this rate of return, then the risk
premium is: 0.144 - 0.065 = 0.079%
= 5.3256 - 0.9944
2.8296 - 0.3268
= 4.3312 / 2.5028
= 1.731
COST OF EQUITY:
Ke = Rf - β (Rm - Rf)
Ke = Rf - β (Rm - Rf)
= 20.174
Once the component costs have been calculated, they are multiplied by the weights of
the various sources of capital to obtain a weighted average cost of capital (WACC).
The composite, or overall sources of capital are the weighted average of the costs of
various sources of funds, weights being proportion of each source of funds in the
capital structure. It should be remembered that it is the weighted average concept, not
the simple average, which is relevant in calculating the overall cost of capital. The
simple average cost of capital is not appropriate to use because firms hardly use
various sources of funds equally in the capital structure.
The following steps are involved to calculate the weighted average cost of capital:
• Calculate the cost of the specific sources of funds (i.e. cost of debt, cost of
equity, cost of preference capital etc.
• Multiply the cost of each source by its proportion in the capital structure.
• Add the weighted component costs to get the firm's weighted average cost
of capital.
Ko = kd (1-T) wd + kewe
Where, ko is the weighted average cost of capital, kd (1-T) and ke are respectively the
after-tax cost of debt and equity, D is the amount of equity.
Tax rate charged for the cost calculation is at 36% as per the corporate tax rate.
The weighted average cost of capital of the amount to be raised for the Capital
Restructuring:
1. Preference shares issued at par and redeem at par at 7.5%. Preference shares
worth Rs.8 crores are issued.
2. Debentures issued at par and redemption at par at 8%. Debentures amounting
to Rs. 10 crores issued.
3. Term Loan at 9.5% for 6 years, one year is the monotoring period. Interest is
paid semi-annually. Rs. 2 crores by term loan to be raised.
4. Cash credit to be raised at 12%. Rs. 50 lakhs to be raised by the way of cash
credit.
5. Commercial Paper with face value Rs. 100 maturing after 90 days subject to
roll over with discounting rate of 5%. Interest is payable quarterly.
Commercial Paper amounting to Rs. 2 crores are issued.
Reserve Bank of India has form time to time appointed committee to investigate into
the realistic needs of various types of manufacturing industries, to eliminate the evils
of the bank credit system and devise scientific methods for ascertaining their working
capital needs. But post liberalization, the lending policy of commercial banks has
under gone a change. The format proposed in CMA of RBI is being extensively used
by the commercial bank for the purpose of the assessment of WCR of a borrowing
unit. Earlier banks used to decide the amount of financing required for working
capital by the companies, by the methods of Tandon Committee Approach of MPBF-
Maximum Permissible Bank Finance.
The recommendations of the Tandon Committee are based on the operating plan,
production based financing, or partial bank financing. The following are the major
Recommendations;
The committee has rightly pointed out that the borrower should be allowed to
hold only a reasonable level of current assets, particularly inventory and
receivable. The norms for reasonable level of inventory and receivable are needed
to ensure rational allocation of resources and to avoid the undesirable holding and
financing of current assets.
The Tandon Committee suggested norms for 15 industries excluding heave
engineering and highly seasonal industries, like sugar. The norms where applied
to industrial borrowers, including small-scale industries, with aggregate limits
from the banking system in excess of 10 lakhs.
The committee admitted that the norms cannot be followed rigidly. It allowed
flexibility in the application of norms when a major change in the environment
justifies. The committee visualized the circumstances, such as power cuts, striks,
transport delays, etc. under which the deviation from norms could be permitted.
Lending Norms:
The committee felt that the main function of the banker as a lender was to
supplement the borrower's resources to carry an applicable level of current assets.
This implied
(a) The level of current assets must be reasonable and based on norms,
(b) A part of the fund requirements for carrying current assets must be financed
form ling term funds comprising owned funds and term borrowing including
other non-current liabilities.
The banker was required to finance only a part of working capital gap; the other
part to be finance by the borrower from the long term sources. Working capital
gap is defined as current assets minus current liabilities excluding bank
borrowings. Current assets will be taken at estimated value or as per the Tandon
Method-I:
Under this method, the bank will provide 75% of working capital gap i.e. (current
assets-current liabilities). Also sometimes called the net working capital. Under
this method the current ratio would work out to atleast 1:1 (it may be even more
than this).
Units engaged in the export activities, units engaged in the SSI/village and tiny
sector product trading/marketing. Sick unit and the units under rehabilitation use
method 1st for getting finance from the bank.
Method-II:
Under the 2nd method the borrower provides 25% of total current assets as
permanent funds of the borrower and current liabilities and bank borrowings etc
provide the balance. Under this method the minimum current ratio works out
1.33:1. Generally, the large corporate use 2nd method for getting finances.
Method-III:
As per this method the follower is required to finance the core assets of the
company. Generally, RBI suggested the limits to the extent of 25% of the total
assets. This is the level of the assets, which the borrower has to maintain
essentially in the project. The funds in the core assets remain permanently
blocked like the investments made in the fixed assets, such as building and plant
and machinery. Here, the required current ratio is 1.5:1. This is shown as under:
BALANCE Current
Liabilites
TOTAL
CURRENT Bank
ASSETS Borrowing
CURRENT
ASSETS
25% BORROWER'S
)
METHOD-I: 0.75% ( CURRENT ASSETS - CURRENT
LIABILITIES)
As per the current years' financial results the following figures are stated:
Only Method-I is applicable from the AGI point of view, the remaining tow
method is not applicable to AGI and it is not evaluated.
EQUITY SHARES:
But considering the Auditor's Remarks in last year's Report and Legal Opinion
taken thereon by the Company Board of Directors had made a reference BIFR
under provision of Sick Industrial Companies (Special Provision) Act, 1985.
There has been no further development except that the reference has only been
registered.
Considering this point we can evaluate that it is not possible for AGI to issue
equity shares, as the investors will be least interested in such a company that has
been registered under BIFR. Even for the same reason existing shareholders will
not be willing to invest further in AGI.
Even the existing shareholders are not interested for the same due to the reason
that AGI has not paid the dividend since long time.
The trading volume of AGI stock is quite low as compared to the other stocks
and thus even this will adversely affect the new issue of shares.
CONCLUSION:
Thus, considering the above mentioned consideration it is not possible for AGIL
to issue the equity shares, as it is not feasible. So, meeting the financial
requirement by the way of equity is not possible as the cost incurred will also be
quite high for the issue.
PREFERENCE SHARES:
Considering the AGI requirement it can raise the capital requirement from the
issue of preference shares by the way of two options. As even in this source it is
not possible to have more investors for the sake of convenience there will be
preferential allotment of preference shares privately placed, for the reason of
BIFR registration.
The amount to be raised by the way of the preference shares is 10 crores for
meeting the requirement. In order to raise the preference share capital the
company is required to amend in the Article of Association by passing the
resolution in the Extra Ordinary General Meeting with the consent of the of
shareholders & BOD and even prior permission from the Company Registrar.
Thus, by issuing the preference shares whichever is having the cost effectiveness
is to be incorporated in the capital structure for the payment of the liability. The
structure is stated below:
DEBENTURES:
As we, have already seen that there are certain limitations as well as problems
associated with the issue of the equity shares as well as with the preference
shares. So, in order to meet the financial requirement it is possible to issue
debentures by the way of private placement. Issuing the debentures by making it
attractive with higher interest payment or by issuing at discount we can raise the
funds.
By the way of debenture to meet the requirement we may raise 10 crores. For the
of debenture the land will be mortgaged. The following banks will be approached
for the trusteeship: ICICI BANK, IDBI, ING VYSYA. Even for doing so we
have two options.
Thus, the debenture having the least cost of capital by taking into consideration is
to be incorporated in the capital structure. The below stated are the various costs
with the different interest rates:
TERM LOAN:
For meeting the capital requirement the company can even raise capital by the
way of the Term Loan that is attainable easily as compared to the other
instruments and thus term loans will become a part of the capital structure.
The below stated criteria is to be taken into account for the raising of the funds:
So, in order to incorporate the term loan in the capital structure the most effective
rate is to be incorporated so that the overall cost of capital is reduced. The below
stated are the various rate of interest for getting the effective cost:
PUBLIC DEPOSITS:
The public deposits can also be raised for the financing the requirement. Even for
the public deposits the below stated considerations are to be taken into account:
By this source of financing the amount to be raised is also 10 crores.
in the public deposits the lenders have the option of carrying forward
the public deposit even after the maturity.
the interest is compounded semi-annually.
in order to arrive at the effective cost the different rates of interest is to
be considered i.e. 6.5%, 7%,7.5% p.a.
When the company is not planning to have capital restructuring as part of the
financing decision for the reason that the cost of the various sources of capital is
quite high to be incorporated in the structure. Now when the company thinks
beyond this it has the following alternatives:
While evaluating the various above stated alternatives from the AGIL'S point of
view lets refer the first option:
MERGER OR AMALGAMATION:
The merger is said to occur when two or more companies combine into one
company. One or more companies may merge with an existing company or they
may merge with an existing company or they may merge to form a new company
laws in India use the term amalgamation for merger.
Section 2(1A) of the I.T. Act, 1961, defines amalgamation as the merger of one
or more companies with another company or the merger of two or more
companies (called amalgamating company or companies) to form a new company
(called amalgamated company) in such a way that all assets and liabilities of the
amalgamating company or companies becomes assets and liabilities of the
amalgamated company and shareholders holding not less than ninth-tenth in
value of shares in the amalgamating company or companies become shareholders
of the amalgamated company.
There would be a merger when, under sanction of court, all or a portion of assets
or liabilities of a company are transferred to another company, the Transferor
Company usually losing its existence in the process by automatic dissolution.
The shareholders of the transferor company gets shares of the transferee against
the shares held by them in the transferor company.
ACQUISITIONS:
A fundamental characteristic of merger (either through absorption or
consolidation) is that the acquiring company (existing or new) takes over the
ownership of other companies and combines their operations with its own
operations.
An acquisition may be defined as an Act of acquiring effective control by one
company over assets or management of another company without any
combination of companies. Thus, in an acquisition two or more companies may
remain independent; separate legal entity, but there may be change in control of
companies.
TAKEOVER:
Another may define a takeover as obtaining of control over the management
of a company. An acquisition or take-over does not necessarily entail full, legal
control. A Company can have effective control over another company by holding
minority ownership.
Under Monopolies and Restrictive Trade Practices Act, takeover means
acquisition of not less than 25% of the voting power in a company. Section 372
of the Companies Act defines limit of a companies investment in the shares of
another company. If a company wants to invest in more than 10 per cent of the
Subscribed Capital of another company, it has to be approved in the shareholders
General Meeting and also by the Central Government.
The investment in shares of other companies in excess of 10 per cent of
subscribed capital can result into their takeovers.
While referring to the above stated options we can know that the alternative of
merger or Amalgamation is far more beneficial from the context. So the below
stated are the advantages of the Merger of AGIL with their owned management
companies as well as with other outside companies of the same industry.
• DIVERSIFICATION OF RISK:
Diversification implies growth through the combination of firms in unrelated
businesses. Such mergers are called conglomerate mergers. It is difficult to
justify conglomerate merger on the ground of economies, as it does not help to
strengthen horizontal or vertical linkages. It is argued that it can result into
reduction of total risk through substantial reduction of cyclicality of operations.
Total risk will be reduced if the operations of the combining firms are negatively
correlated.
In practice, investors can reduce non-systematic risk (the company related risk)
by diversifying their investment in shares of a large number of companies.
Systematic risk (the market related risk) is not diversifiable. Therefore, the
investors do not pay any premium for diversifying total risk via reduction in non-
systematic risk that they can do on their own, cheaply and quickly.
The reduction of the total risk, however, is advantageous from the combined
company's point of view, since the combination of management and other
systems strengthen the capacity of the combined firm to withstand the severity of
the unforeseen economic factors, which could otherwise endanger the survival of
individual companies. Conglomerate mergers can also prove to be beneficial in
the case of shareholders of unquoted companies since they do not have
opportunity for trading in their company's shares.
profitable firm, the combined company can utilize the carry forward loss and
save taxes. In India, a profitable company is allowed ot merge with a sick
company to set-off against its profits the accumulated loss and unutilized
depreciation of that company. A number of companies in India have merged to
take advantage of this provision.
When two companies merge through an exchange of shares are not taxable until
the shares are actually not sold. When the shares are sold, they are subject to
capital gains tax rate, which is much lower than the ordinary income tax rate.
A strong urge to reduce tax liability, particularly when the marginal tax rate is
high is a strong motivation for the combination of companies.
• NO DILUTION OF CONTROL:
As it is generally seen that the sick or loss making company if managed more
efficiently and effectively can prove to be far more better. So generally the sick
company merges with the owned management company so as that the control is
retained in the hands of the same company. This helps both the transferor as well
as transferee company.
• FINANCING COST:
Does the enhanced debt capacity of the merged firm reduce its cost of capital?
Since the probability of insolvency is reduced due to financial stability and
increased protection to lenders, the merged firm should be able to borrow at a
lower rate of interest. This advantage may, however, be taken off partially or
completely by increase in the shareholder' risk on account of providing better
protection to lenders.
Another aspect of the financing costs is issue costs. A merged firm is able to
realize economies of scale in floatation and transaction costs related to an issue of
capital. Issue costs are saved when the merged firm makes a larger security issue.
OPERATING STATEMENT
OPERATING STATEMENT
Break up of expenses:
31-3-02 31-3-03 31-3-04 31-3-05 31-3-06 31-3-07
Alembic Glass Industries Ltd.
Financing Decision
C. Other Income:
1. Dividends 26 0 0 0 0 0
2. Interest 1 11 32 60 96 100
3. Rent 0 0 0 0 0 0
4. Miscellaneous 29 35 39 42 46.5024 51.48746
5. Profit on sale of Assets 136 0 0 0 0 0
6. Others
D. Other Expenses:
1. Misc. expenditure w/o 55 55 55 0 0 0
TOTAL 55 55 55 0 0 0
BALANCE SHEET
LIABILITIES
31-3-02 31-3-03 31-3-04 31-3-05 31-3-06 31-3-07
SECURED LOANS:
Prop Loan- for ONGC Liab 0 0 0 0 0 0
Term Loan - IIBI 0 0 0 0 0 0
Term loan - PSBI 0 0 0 0 0 0
Term loan - 0 0 0 0 0 0
Proposed
Cash Credit 87 35 150 150 150 150
Book debt factoring 0 0 0 0 0 0
Interest Liabilities
UNSECURED LOANS:
Long Term cont.from allied 370 0 0 0 0 0
Long Term liabilities (Excise) 197 197 197 197 197 197
FD/Deposit from allied comp 0 0 0 0 0 0
Mould Deposit 27 24 24 24 24 24
Other unsecured loans 101 0 0 0 0 0
PROFIT AND LOSS ACCOUNT FOR THE YEAR ENDED ON 31ST MARCH, 2004
As at As at
SCHEDULE 31.03.200 31.03.200
4 3
(Rs. in Lacs) (Rs. in
Lacs)
INCOME:
Sales 5,681.96 5,548.60
Less: Excise Duty 317 329.92
Net Sales 5,364.96 5,218.68
Others L 187.63 155.02
TOTAL 5,552.59 5,373.70
EXPENDITURE:
Raw Materials consumed M 864.66 660.07
Stores,Spares Consumed 70.12 41.54
Packing Materials Consumed 1,008.63 719.06
Power & Fuel 1,432.59 1,204.74
Employees ' cost N 716.45 860.65
Interest and Bank charges O 15.81 62.65
Reimbursement of Expenses 451.52 860.65
Depreciation 222.85 233.01
Others P 813.74 556.04
5,596.37 5,198.41
Add/(Less):
(Increase)/Decrease in Stock of finished goods M -279.84 176.05
Finance as the core area, which is a vast field, covers many aspects, which is
not possible for us to cover. The knowledge, which we have, is quite limited
and thus it makes it difficult for us to deal as the practical and the theoretical
knowledge has a wide difference within.
The duration of the training was quite less to deal with the financial aspects
and thus it was difficult to make out each and every aspects of the finance
area.
It was very difficult to incorporate all the data in the report due to the
limitation from the organization and thus certain information is not
incorporated.
Even the time being departed by the executives was not much as even they has
certain busy schedules to be dealt with.
Finance as the core area, which is a vast field, covers many aspects, which is
not possible for us to cover. The knowledge, which we have, is quite limited
and thus it makes it difficult for us to deal as the practical and the theoretical
knowledge has a wide difference within.
The duration of the training was quite less to deal with the financial aspects
and thus it was difficult to make out each and every aspects of the finance
area.
It was very difficult to incorporate all the data in the report due to the
limitation from the organization and thus certain information is not
incorporated.
Even the time being departed by the executives was not much as even they has
certain busy schedules to be dealt with.
Finance as the core area, which is a vast field, covers many aspects, which is
not possible for us to cover. The knowledge, which we have, is quite limited
and thus it makes it difficult for us to deal as the practical and the theoretical
knowledge has a wide difference within.
The duration of the training was quite less to deal with the financial aspects
and thus it was difficult to make out each and every aspects of the finance
area.
It was very difficult to incorporate all the data in the report due to the
limitation from the organization and thus certain information is not
incorporated.
Even the time being departed by the executives was not much as even they has
certain busy schedules to be dealt with.
BIBILIOGRAPHY
COMPANY LAW:
Kapoor N.D.
Company Law, 27th Edition, S. Chand
Publications Ltd., New Delhi.
www.alembic.co.in
www.google.com