Kota Fibers,
Ltd.
Group 1:
Bhavananda Jha (14317)
Chanda Kiran Adhikari (14301)
Niraj Ghimire (14314)
Pragya Joshi (14318)
Prajwal Sagar Shrestha (14331)
Introduction
Kota fiber is nylon fiber producing company situated in Kota, India. The business has been
running smoothly with steady market share. But the company is facing serious liquidity crunch
and even in the heavy selling season, the business has to take more loans. The situation has
become worse as the company had overdrawn the bank account and could not pay the excise tax.
The company had taken loan from the bank with a contract to clean up on December 2001 but
the financial projection for 2001 shows inability of Kota Fiber to repay all its line of credit to
bank on the specified period. On the other hand, there are four different proposals from managers
of different departments, which may be beneficial for the company. The reassessment of the
financial forecast including the new proposals is needed to find out the actual debt position of the
company.
Issues
Some of the issues taken into consideration are:
1.
2.
3.
4.
5.
The bank must not continue to waive compliance with clean-up of the loan for Kota Fibers. As
the business is facing scarcity of cash, for certain years, the waiver may be continued so that
Kota Fiber would not have extra burden of mandatory clean up. But in long run, the waiver must
be ceased. On the other hand, after few years, if Kota fibers can turn the business as highly
profitable and if the loan given by the bank can be declared as secured loan, then the waiver of
clean up may be given continuity for long run.
Financial Ratios
Current ratio
Quick ratio
Gross profit margin
Total asset turnover ratio
Return on assets
Debt to asset ratio
Actual(2000)
Forecast(2001)
4684237/1,443,637
6,690,525/ 4,440,345
3.24
(4,684,237-1,249,185)/1,443,637
2
64,487,358/10,621,447
16.47%
64,487,358/13,295,604
4.85
2,550,837/ 13,295,604
19.18%
1,443,637/13,295,604
10.85%
1.5
(6,690,525-2,225,373)/ 4,440,345
1
77,265,092/10,271,712
13.29%
77,265,092/15,628,161
4.94
1,335,848 /15,628,161
8.57%
4,440,345/15,628,161
28.41%
The calculation of Cash Cycle based on the financial forecast done by Mehta.
S
Forecasted
N
1
Particulars
Average inventory
Actual 2000
1249185.00
53865911.0
2001
2225372.57
COGS
Inventory
66993379.60
turnover
3
4
5
ratio(2/1)
Inventory period(365/3)
Receivable
43.12
8.46
2672729.00
64487358.0
30.10
12.12
3715152.20
Sales
Receivables
77265092.00
7
8
9
turnover(6/5)
Receivable period(365/7)
Payables
24.13
15.13
759535.00
53865911.0
20.80
17.55
1157298.44
10
11
12
13
14
15
COGS
Payables turnover(10/9)
Payable period(365/11)
Operating cycle
Payable days
Cash cycle
0
70.92
5.15
23.59
5.15
18.45
66993379.60
57.89
6.31
29.67
6.31
23.37
The Cash Cycle prepared with the financial forecast shows that both operating cycle and cash
cycle will increase in 2001 from 23.59 days to 29.67 days and 5.15 days to 6.31 days
respectively because of which the company have to face crisis of cash flow in upcoming year
with this financial forecast.
Exhibits Analysis:
The sales forecast in Exhibit 1 shows that the overall operations of the company is expected to
increase by 19.8 % and reach to INR 90.9 million in the fiscal year that ended Dec 31,2001.
From Exhibit 2 we can observe that the gross profit margin was 16% in 1999, which declined to
14% in 2000 and is expected to decline to 11% in 2001. The gross profit margin might have
declined because of production inefficiencies, as the plant is operated at peak capacity for only
two months and at modest levels for the rest of the year. The journey were slow and dangerous
which made the truck to take 10 to 15 days to negotiate the trip between Calcutta and Kota.
Hence because of slow production and distribution system the gross profit margin of the firm has
been in declining trend and is expected to decline in the coming years unless certain actions are
taken in order to increase the production efficiency and distribution system.
Interest expense has also been in increasing trend because of the fact that the company is heavily
dependent on bank line of credit for day to day cash needs. As the level of outstanding debt
increases the interest expense has also increased. Interest expense is expected to increase by 48%
from 2000 to 2001.
As a result of increased interest expenses and decrease in gross profit margin, the net profit of the
firm is expected to decrease by 47.6% from 2.5 million in 2000 to around 1.3 million in 2001. So
despite expectation of increase in the sales of the company by 19.8%, the net profit is expected to
decrease by 47.8%. The main reason behind this is in efficiency in production, poor management
of working capital and higher outstanding debt for financing short term financing needs.
By analyzing the actual and forecasted balance sheet of the Kota fiber, we can say that the ending
cash balance has not changed that much and firm is expected to maintain a minimum cash
balance of 750,000 in all the months of the coming year. But for maintaining the cash balance the
firm is expected to take more line of credit from the bank. So the notes payable to bank is
expected to increase by 406% from 648102 in 2000 to 3463701 in 2001. The main reason behind
his huge increase in notes payable might be attributed to poor cash management of the firm. The
firm is not expected to generate enough cash collections to cover the cash disbursement in each
month of the coming fiscal year, as a result of which the outstanding debt is expected to increase
in order to maintain the minimum cash balance at the end of each month.
Analysis of proposals and their impact on the debt position of the company.
Exhibit 4: Memo from field Sales Manager
One of firms goals is to keep the credit terms to 45 days. Pondicherry textiles propose that Kota
fibers, ltd extend the credit terms to 80 days and they will make the Kota as its prime yarn
suppliers. From the calculation of debt outstanding after incorporating the proposal given by
Pondicherry Textile, we can see the debt position in December raised to 3897616 which is IRs.
433915 higher than the forecast done by Mr. Mehta.
Sales
Purchases (1)
Debt
Outstanding
1,696,07
4
684,102
July
Sales
Purchases
(1)
Debt
Outstandin
g
January
2,788,80
1
2,607,52
9
1,344,09
3
February
3,083,77
0
5,161,96
3
3,439,51
7
August
March
4,740,96
2
8,141,15
4
9,639,28
8
September
April
9,385,388
10,312,12
8
18,913,73
6
October
17,392,465
9,138,686
5,363,079
4,740,962
2,949,693
2,607,529
2,070,685
1,622,331
29,863,049
17,800,191
9,583,567
May
14,802,09
8
June
18,749,32
4
9,565,856
29,278,46
8
5,026,277
35,809,12
2
November
3,764,881
December
2,949,693
1,965,500
2,093,837
3,827,762
3,897,616
5,754,282
Although net profit will rise after accepting this proposal, it is still not acceptable. The company
is facing liquidity crisis at present. To decrease the cash cycle, company has to focus on
decreasing the account receivable turnover. Instead of this, if this proposal is accepted, more time
will lag between the sales and receipt of cash. This will require more debt financing which is not
favorable in present situation. So, this proposal should be rejected now.
decreased by 34.8%. This model has hence helped in increasing the quick ratio of the company
from 0.8622 in average to 1.01. There has also been increase in average account payable from
3403855 to 3522896 i.e. by 3.5%. This too plays role in improvising cash conversion cycle.
It can be seen that the proposal dont have significant effect in improvising the working capital
condition, however, something is better than nothing and company should adopt this policy along
with other policies to improvise its working capital condition.
Total
Total Note
Current
Assets
Inventories
Current
Payable-
Current
Quick
Liabilities
Bank (6)
Ratio
Ratio
1146269.05
2.17219673
1.31242873
5831484.03
Jan
5
9891667.05
2308135.035
2684602.15
7
2962622.64
9
1.44906286
3
0.59205878
Feb
8
17617985.0
5850125.058
6826251.167 9
8767030.69
3
1.14458819
9
0.37434939
Mar
6
28689052.7
11855841.06
15392422.43 4
17419379.4
8
1.09626326
3
0.42230790
Apr
3
38413382.0
17637315.33
26169856.88 2
26997556.9
4
0.53144639
May
7
39968408.8
19666227.07
35275721.32 9
32950665.3
1.08894675
1.08508964
7
0.69225766
Jun
14469651.83
36834199.82 7
27167192.8
6
1.13202496
1
0.90008295
July
33262875.7
21825158.8
6815272.098
29383517.74 1
15795793.1
9
1.01130965
Aug
1
12703996.0
3883970.01
17740549.36 9
8352899.26
1.23024143
1.34237087
2
1.03063127
Sept
6
8899885.90
2950256.658
9463849.618 8
5002010.51
1
1.57388727
5
1.24587136
Oct
1854836.904
5654716.21
5
3278055.00
8
1.75812638
5
1.36951834
Nov
Dec
7419141.86
6690524.77
1639892.46
2225372.569
4219913.831 1
4440346.362 3463701.86
7
1.50675740
3
1.00558646
231213562.
Total
153303176.
91156896.09
194085946.9 8
7
1.19129471
5
0.72162188
Forecasted
Particulars
Actual (2000)
Exhibit
model
5 option
2225372.56
Inventory
Accounts
1249185
9
1157298.43
1827609
Payable
Accounts
759535
1191195
2672729
684102
3715152.2
3463701.86
3715152
2957147
9090010
Sales
75867480
90900108
8
6699338
COGS
Inventory days
Receivable days
Payable days
Cash cycle
53865911 66993379.6
8.46
12.12
12.86
14.92
5.15
6.31
16.18
20.74
0
9.96
14.92
6.49
18.39
receivable
Debt outstanding
From the above table we can see that the inventory is expected to decline if the proposal from the
transportation manager is accepted. The inventory is expected to decrease because the purchase
will be required to be made for only one month now, compared to two months previously. As a
result of this the accounts payable is also expected to decrease. All of these will decrease the
level of outstanding debt at the end of 2001.
The proposal will have a good impact on Kotas short-term debt position as reduced amount of
inventory will reduce the net working capital requirement for the company and eventually the
debt outstanding in all the months from January to December is expected to decrease. Also the
cash cycle is expected to be shortened to 18 days after this proposal is accepted. So this proposal
will have a good impact on short term debt position of Kota fibers.
The decrease in borrowing requirement and debt outstanding makes sense as the proposal
reduces inventory requirements to half, which means that the amount of financing required for
current assets is lesser.
February
March
Debt Outstanding
1,353,298
2,017,987
5,754,537
Debt Outstanding
initially
1,146,269
2,962,623
8,767,031
July
Debt
Outstandin
g
Debt
Outstandin
g initially
August
September
April
May
June
12,043,36
1
17,419,37
9
19,390,52
8
26,997,55
7
24,728,08
9
32,950,66
5
October
November
December
21,067,369
12,403,927
5,990,806
2,980,827
1,646,578
1,844,640
27,167,193
15,795,793
8,352,899
5,002,011
3,278,055
3,463,702
(3)
Bank (6)
Ratio
Quick
Ratio
2.44473
Jan
Feb
4975358.765
7219122.884
1452009.765 2035130.44
3177580.884 4357241.09
1353297.856
2017987.213
7
1.731264
1.656811 0.927546
1.19121
Mar
12700823.76
6938679.761 10662059.87
5754536.944
7
1.12325
Apr
May
21578653.44
30312426.48
10526916.04 19210779.92
11565271.48 27271180.58
12043361.35
19390527.64
8
0.575288
1.111519 0.687435
1.10260
Jun
Jul
33365082.66
29283772.99
7866325.664 30260342.47
2836169.388 25373312.02
24728088.95
21067368.77
1
0.842646
1.154117 1.042339
1.27438
Aug
19302136.33
1360947.533 15146281.94
12403926.55
1
1.45224
1.184528
Sep
10711655.03
957915.6323 7375929.187
5990805.687
1.322374
0.540434
1.85071
Oct
7308058.487
263009.4868 3948771.776
2980826.654
7
2.26718
1.784111
Nov
5955715.801
176466.4009 2626923.044
1646577.928
3
1.89093
2.200007
Dec
5079974.454
614822.2544 2686484.25
1844640.455
1.66208
This gives that the average current ratio of the company is upgraded to 1.54 per month. On
January, November and December, the working capital is relatively higher than other months as
well as the overall current ratio is better than the base model. Similar goes with the quick ratio.
The quick ratio is 1.2 and is better than the scenario of improvised transportation model. Also the
interest expense on debt is dropped down drastically by 99.4%. The decrease in debt outstanding
on average is reduced by 28.44% monthly ranging from 21% to 49.8%.
Particulars
Inventory
Accounts Payable
Accounts
receivable
Debt outstanding
Sales
COGS
Inventory days
Receivable days
Payable days
Cash cycle
Actual (2000)
Base model Hibachi
1249185 2225372.569 614822.3
759535 1157298.438 1002041
2672729
684102
75867480
53865911
8.46
12.86
5.15
16.18
3715152.2 3715152
3463701.86 1844640
90900108 90900108
66993379.6 66993380
12.12
3.35
14.92
14.92
6.31
5.46
20.74
12.81
By accepting Hibachi proposal the inventory level is expected to decline drastically to only IRS
614822.3 from original expectation of IRS 2225372.569. The debt outstanding is also expected
to decline drastically to only IRS 1.8 million from original forecast of IRS 3.46 million. The
decrease in debt outstanding is as a result of decrease in net working capital requirement of the
firm after the implementation of JIT proposal. The decrease in net working capital requirement is
also indicated by decrease in current and quick ratio after implementing JIT proposal. If this
proposal is accepted, cash cycle is expected to decrease to 12.81 days from 20.74 days.
Therefore, it is better to include Hibachi proposal. It is better to go both with the proposal by the
transportation manager and Hibachi proposal simultaneously.
Pondicherry
Inventory
Debt Balance
Summary
Jan 01
1,200,185
June 01
25,435,575
Dec 01
2,957,147
Hibachi JIT
Debt Balance Summary
Jan 01
1,353,298
June 01
24,728,089
Dec 01
1,844,640
Recommendations
o The firm should move towards cutting down the cash cycle and increase its liquidity. One of
the way the firm can do this is moving towards receiving their supplies on a JIT basis. This
will tie up less cash in inventory that is sitting in the warehouse. They could also lower credit
terms to receive funds quicker from their buyers. This strategy will lower their cash cycle and
free up cash and have more liquidity on hand. From these plans, company does not have to
purchase more inventory in the first two months since it will use raw material on hand and
order accordingly.
o The company should also request that the note payable be repaid in December of the fiscal
year, not October. This allows Kota fibers time to collect its outstanding receivables from its
peak selling season.
o The company should not provide dividend to its shareholder till all outstanding debt are
settled.
o The company can ask shareholder to invest in the company.
Learnings from the case
o The firm with poor cash management generally has trouble in carrying out day to day
operating activities such as making payments to the tax inspector for the excise tax due
to lack of liquidity in their cash balance. As a result of which, the level of debt increases
to meet the liquidity needs.
o If the firm is unable to manage its working capital, especially cash, then the short term
debt of the firm is going to increase which will have negative impact on the profitability
of the company through increased interest expenses.
o In order to manage the cash effectively and efficiently, the firm should try either to
decrease its inventory days or accounts receivable days or increase its accounts payable
o