6 methodology

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Research Methodology

The data of Apollo tyres Ltd. for the year 2007 to 2011 used in this study has been taken fromthe annual report of the company as well as the website. Editing, classification, tabulation of the

financial data which are collected from the above mentioned source have been done as per the

requirement of the study. For assessing the financial performance of the working capital positionof the study, the technique of ratio analysis has been used. The collected data have been analyzed

through different tools such as:

A- Ratio Analysis

B- Schedule of changes in Working Capital

A- Ratio Analysis:

Ratio Analysis means the calculation and comparison of ratios which are obtained from the

information in a companys financial statements. The following ratios indicate the short termsolvency of the firm and also indicate how efficiently the firm is managing its working capital.

1. Current Ratio:-Current ratio is a ratio between current assets and current liabilities of a firm for a particular

period. This ratio establishes a relationship between current assets and current liabilities. The

objective of computing this ratio is to measure the ability of the firm to meet its short termliability. It compares the current assets and current liabilities of the firm. This ratio is calculated

as under:

Current ratio = Current assets

Current liabilities

Current assets are those assets which can be converted into cash within a short period i.e. not

exceeding one year. It includes cash in hand, cash at bank, bills receivables, short term

investment, sundry debtors, stock, prepaid expenses.

Current liabilities are those liabilities which are expected to be paid within a year. It includesBills payables, Sundry creditors, bank overdraft, provision for tax, outstanding expenses.

2. Quick Ratio:-Quick ratio is also known as Acid test or Liquid ratio. It is another ratio to test the liability of the

concern. This ratio establishes a relationship between quick assets and current liabilities. This

ratio measures the ability of the firm to pay its current liabilities. The main purpose of this ratiois to measure the ability of the firm to pay its current liabilities. For the purpose of calculating

this ratio, stock and prepaid expenses are not taken into account as these may not be converted

into cash in a very short period. This ratio is calculated as under:


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Liquid Ratio= Liquid or Quick Asset

Current liabilities

Where, liquid assets = current assets(stock + prepaid expenses)

3. Net working Capital:-

Net working capital is nothing but the difference between current assets and current liabilities.

When current liabilities increase the working capital decreases. A high working capital is not

good for a company because it deficits the excessive blocking up of capital in inventories and

debtors.

Net Working capital= Current Assets - Current Liabilities

4. Inventory to working capital ratio:-

It is defined as a method to show what portion of a companys inventories is financed from its

available cash, is essential to business which hold inventory and survive on cash suppliers.

Inventory to working capital ratio = Inventory

Working Capital

5. Stock Turnover Ratio:-Stock turnover ratio is a ratio between cost of goods sold and the average stock or inventory.Every firm has to maintain a certain level of inventory of finished goods. But the level of

inventory should neither be too high nor too low. It evaluates the efficiency with which a firm is

able to manage its inventory. This ratio establishes relationship between cost of sold goods andaverage stock.

Stock turnover ratio = Cost of goods sold

Average Stock

Where, Cost of goods sold = Opening stock + Purchases + Direct expensesClosing stock

OR

Cost of goods sold = SalesGross Profit

Average stock = Opening stock + Closing stock

2


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Inventory or stock conversion period:-It may also be of interest to see average time taken for clearing the stocks. This can be possible

by calculating inventory conversion period. This period is calculated by dividing the number of

days by inventory turnover.

Inventory or Stock conversion period = 365

Stock turnover ratio

6. Debtors Turnover Ratio:-

This ratio establishes a relationship between net credit sales and average account receivables i.e.

average trade debtors and bill receivables. The objective of computing this ratio is to determinethe efficiency with which the trade debtors are managed. This ratio is also known as Ratio of Net

Sales to average receivables. It is calculates as under:

Debtors Turnover ratio = Net credit annual sales

Average debtors

In case, figure of net credit sale is not available then it is calculated as if sales are credit sales:

Average Debtors = Opening Debtors + Closing Debtors

2

Note: If opening debtors are not available then closing debtors and bills receivables are taken as

average debtors.

Debt collection period:This period refers to an average period for which the credit sales remain unpaid and measures the

quality of debtors. Quality of debtors means payment made by debtors within the permissiblecredit period. It indicates the rapidity at which the money is collected from debtors. This period

may be calculated as under:

Debt collection period = Average Trade Debtors

Average Net credit sales period

OR

Debt collection period = 12months/ 52 weeks/ 365daysDebtors turnover ratio

7. Creditors Turnover Ratio:It is a ratio between net credit purchases and average account payables (i.e. creditors and bill

payables). In the course of business operations, a firm has to make credit purchases. Thus a

supplier of goods will be interested in finding out how much time the firm is likely to take inrepaying the trade creditors. This ratio helps in finding out the exact time a firm is likely to take


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in repaying to its trade creditors. This ratio establishes a relationship between credit purchases

and average trade creditors and bill payables and is calculated as under:

Creditors turnover ratio = Net credit purchases

Average trade creditors and/ or average bill payables

Average creditors = Creditors in the beginning + creditors at the end2

Debt payment period:This period shows an average period for which the credit purchases remain unpaid or the average

credit period actually availed of:

Debt payment period = Average trade creditorsAverage Net credit purchases per day

OR

Debt payment period = 12months/ 52weeks/ 365daysCreditors Turnover Ratio

8. Working capital Turnover Ratio:Working capital of a concern is directly related to sales. The current assets like debtors, bill

receivables, cash, stock, etc. change with the increase or decrease in sales.

Working Capital = Current assetsCurrent liabilities

Working capital turnover ratio indicates the speed at which the working capital is utilized for

business operations. It is the velocity of working capital ratio that indicates the number of timesthe working capital is turned over in the course of a year. This ratio measures the efficiency at

which the working capital is being used by a firm. A higher ratio indicates efficient utilization of

working capital and a low ratio indicates the working capital is not properly utilized. This ratiocan be calculates as

Working capital Turnover ratio = Annualized Net SalesWorking Capital

Average Working Capital = Opening working capital + working capital at the end

2

If the figure of cost of sales is not given, then the figure of sales can be used. On the other hand if

opening working capital is not discussed then working capital at the yearend will be used

9. Sales to Current Assets ratio:-

A sale to current assets ratio is useful for determining whether there is a liquidity problem. If acompany is forced to use such financing technique as accounts receivable factoring to pay for its


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ongoing operations, then the amount of its current assets will be very low. Consequently, if the

ratio is extremely high, indicating the presence of few assets to support sales, a company is likely

to not only have trouble filling orders (since it has an adequate inventory), but it also may go outof business suddenly if it cannot cover its short term accounts payable.

The size of the ratio will vary considerably from industry to industry, so a better sign of

problems is a steady increase in the ratio over time, no matter what the exact ratio measurementmay be.

Sales to current assets ratio = Sales

Current Assets

10. Working capital to debt ratio:-Working capital to debt ratio is used to see if a company could pay off its debt by liquidating its

working capital. This measure is used only in cases where debt must paid off at once, since the

elimination of all working capital makes it impossible to run a business and will likely lead to itsdissolution.

Working capital to debt ratio = Cash + Account receivables + InventoryAccount payable

Debt

11. Fixed assets turnover ratio:-Fixed assets turnover ratio measures the ability of company management to generate sales

volume form the companys fixed asset base. This ratio indicates whether or not the company is

overinvesting in assets in order to generate sales, and the level of productivity of these assets.

Fixed assets turnover ratio = Net Sales

Fixed Assets

12. Cash turnover Ratio:-Cash turnover ratio compares companys sales to its cash and measures how effectively company

is using cash assets. However, this financial ratio now is a bit outworn and is not very

meaningful for most of the companies that use cash in their day-to-day operations when cash is apart of working capital.

Cash turnover ratio = Sales

Cash


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B- Schedule of changes in Working Capital:-

It is prepared in order to measure the increase/decrease in the working capital over a period of

time. It is necessary to prepare this schedule. This schedule is prepared with the help of only

current assets and current liabilities. Compare each current asset in previous year, with that incurrent year. Similarly, compare each current liability in the previous year, with that in thecurrent year. The difference is recorded for each individual current asset and current liability.

This process will be repeated till all accounts relating to all current assets and current liabilities

in two Balance Sheets are gone through and differences are properly recorded. The two columnsshowing the changes in current assets and current liabilities are balanced. The balancing figures

represent either an increase or decrease in working capital. It must remembered that schedule of

changes in working capital is prepared only from accounts appearing in the Balance Sheet.

Increase in Current Assets and Decrease in Current Liabilities:The acquisition of current assets and repayment of current liabilities will result in funds out flow.

The fund may be applied to finance an increase in stock, debtors, etc. or to reduce trade creditors,bank overdraft, bills payable etc.

Decrease in Current Assets and Increase in Current Liabilities:

The reduction in current assets e.g. stock or debtors balance will result in release of funds to beapplied elsewhere. Short term funds rose during the period by any increase in the current

liabilities like trade creditors, bank overdraft and tax dues, means that these sources have more at

the end of the year than at the beginning.

Source of Data/ Method of Data Collection

Primary and secondary data have been used for the study

In order to collect the primary data; discussions were conducted with finance manager and staffs

of various departments of the company.

The secondary data was collected from the company records, journals, annual reports and alsofrom various websites.

Period of Study

The study covers evaluation of working capital management of Apollo Tyres Ltd. from 1st

August, 2012 to 21st

August, 2012

6 methodology

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