A SUMMER TRAINING REPORT ON ANALYSIS OF WORKING CAPITAL MANAGEMENT CONDUCTED AT CEASE FIRE INDUSTRY LTD IN PARTIAL FULFILMENT FOR THE DEGREE OF BACHELOR OF BUSINESS ADMINISTRATION (B.B.A.) (SESSION 2006-2009) SUBMITTED TO: SUBMITTED BY: Controller of Examination Rahul Singhal Maharishi Dayanand BBA IVth Sem. University, Rohtak Regn. No.
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ASUMMER TRAINING
REPORT
ONANALYSIS OF WORKING CAPITAL MANAGEMENT
CONDUCTED ATCEASE FIRE INDUSTRY LTD
IN PARTIAL FULFILMENT FOR THE DEGREE OFBACHELOR OF BUSINESS ADMINISTRATION (B.B.A.)
(SESSION 2006-2009)
SUBMITTED TO: SUBMITTED BY: Controller of Examination Rahul Singhal Maharishi Dayanand BBA IVth Sem. University, Rohtak Regn. No.
KLP College RewariAffiliated to MDU Rohtak
BRIEF HISTORYBRIEF HISTORY
Company Profile
ACKNOWLEDGEMENTS
I would like to take this opportunity to thank all the people who helped me in completion of my management training and in the compilation of this report.
I would sincere thanks to Mr. (Manager- Finance and Accounts Department) for providing me guidance at each and every step of the training. I would always be obliged to him because he shared his real-life experiences with me.
I am thankful to the other members of the finance department who explained me finance work, solving queries and being there to help me whenever required.
Table of Contents
i. Abstractii. Introduction
1. Working Capital Management 1.1 Introduction 1.2 The operating Cycle and Working Capital Needs 1.3 Operating Cycle of CEASE FIRE 1.4 Factors Affecting Working Capital Requirement 1.5 Liquidity Vs. Profitability- A Risk Return Trade Off 1.6 Working Capital Policy
2. Receivables Management 2.1 Need of Receivables 2.2 Objective of Receivable Management 2.3 Cost of Receivables 2.4 Trade off on Receivables 2.5 Determinants of Receivables 2.5.1 Credit Policy 2.5.2 Credit Control 2.6 Channel Financing
3. Payable Management 3.1 Discounting of Bills
4. Inventory Management 4.1 Types of Inventory 4.2 Need for Inventory 4.3 Objectives of Inventory Management 4.4 Cost of holding Inventory 4.5 Techniques for Inventory Management 4.5.1 Perpetual Inventory Verification 4.5.2 ABC Analysis 4.5.3 Economic Order Quantity 4.5.4 Reorder Point 4.5.5 Safety Stock 4.5.6 Lean manufacturing
a. Just In Time (JIT)b. Kanban Systemc. Kaizend. Single Piece Flow Systeme. Gemba Walkingf. Virtual Storage
5. Cash management 5.1 Need of Cash 5.2 Objectives of Cash management 5.3 Cost of Holding Cash 5.5 Benefits of Cash management 5.6 Cash Budget 5.7 Techniques of managing Cash in CEASE FIRE
6. Conclusion
7. Refrences
ABSTRACT
The project titled ‘Analysis Of Woking Capital Management’ aims at understanding
and analyzing the Working Capital Structure of the plant, Faridabad Switchgear
Works (FSW), a manufacturing unit of Cease fire industry ltd. Working capital
management comprises of four major parts – Inventory management, Receivables
management, Payable Management and Cash management. There are a number of tools
available for a proper working capital management. Most of them are studied as a part of
the project.
As a part of inventory management, various inventory management techniques are
studied. Most of these are being implemented in the plant (like PIV, ABC Analysis, JIT,
Single Piece Flow System etc). Even those tools, which are not practically implemented
(like Reorder Point, Safety Stock etc) are studied. These methods, along with their
working and importance, are studied in detail.
As far as receivables management is concerned, Credit Terms, Credit Policy, and
Collection Policy and Procedure are understood, giving special focus on how they are
being implemented practically. Also, there is an innovative technique being used by
CEASE FIRE for managing its receivables efficiently. This technique, known as
Channel Financing makes sure that the receivables are collected almost instantly. Just
like any other firm, even CEASE FIRE is trying to minimize its debtors, as far as
possible. Collections are tried to be made as fast as they can, and all these tools are very
much focused and effective in doing so.
Apart from this, I did Discounting of Bills as a part of Payable management technique.
It’s an easy way to check the savings a firm can make by paying its suppliers early.
Another prominent tool being implemented at CEASE FIRE is Sweeping Facility for
Cash Management . It makes sure that the cash is not lying idle, and is being used
efficiently, and moreover, is invested wisely, in case opportunities are there.
INTRODUCTION
PURPOSE:
The purpose of the report, ‘Analysis of Working Capital Management’, is to
understand and analyze the working capital structure of the manufacturing unit of
CEASE FIRE Limited, that is, in Faridabad .
The objective was also to check the the real life situations in an industry as differing from
theories. The project will throw a light on how to link theory with the business world.
Working Capital Management is a part of Corporate Finance, and to understand it, one
has to get involved with it. Working with professionals gives us a feeling of how our
future life would be, and how we are supposed to behave in the business world.
LIMITATIONS:
The report covers the practices followed at one plant of the company, so the study that is
being carried, may be useful for just one factory, and not for others, as there may be
difference in the business module from one factory to another. Therefore, a generalization
of this report, to judge the efficiency of CEASE FIRE Limited as a whole, cannot be
done.
In addition, the project -span of 9-weeks, was insufficient for understanding, and
analyzing the working capital structure of a plant completely. Apart from this, the
suggestions being made in this report may or may not be practically applicable in the all
types of industries.
SCOPE:
The report comprises of various suggestions, regarding the proper management of the
working capital, at each and every step of the processes that are taking place at the FSW
factory. Suggestions for improving the overall efficiency of the plant, by improving the
working capital structure of the plant, have been provided. This is be done by suggesting
ideas to improve inventory management, receivables management and cash management
processes; separately, as well as collectively.
METHODS OF COLLECTING DATA AND THEIR SOURCES:
In most of the cases, the data is collected on the spot from the persons involved in the
different processes. As far as possible, I have tried to collect data by myself. I also tried
to get involved with people from various departments, right from Accounts & Finance
Department to Planning & Purchase Department, Stores Department, Marketing
Department, Fabrication Department and Personnel Department.
Apart from self-experimenting and observing, I constantly interacted with various
employees of the Company and gathered useful information on related matters, which
were used in the report as well as for my personal knowledge.
Various books and internet sites, including that of CEASE FIRE itself, have also helped
me a lot in collecting data and understanding concepts.
Working Capital Management
Every business needs investment to procure fixed assets, which remain in use for a longer
period. Money invested in these assets is called ‘Long term Funds’ or ‘Fixed Capital’.
Business also needs funds for short-term purposes to finance current operations.
Investment in short term assets like cash, inventories, debtors etc., is called ‘Short-term
Funds’ or ‘Working Capital’. The ‘Working Capital’ can be categorized, as funds
needed for carrying out day-to-day operations of the business smoothly. The
management of the working capital is equally important as the management of long-term
financial investment.
Every running business needs working capital. Even a business which is fully equipped
with all types of fixed assets required is likely to collapse, if it does not have;
a) Adequate supply of raw materials for processing;
b) Cash to pay for wages, power and other costs;
c) Creating a stock of finished goods to feed the market demand regularly; and,
d) The ability to grant credit to its customers.
Working capital is thus like the lifeblood of a business. The business will not be able
to carry on day-to-day activities without the availability of adequate working capital.
Working Capital management is concerned with the problems that arise in attempting to
manage the current assets, the current liabilities and the relationship that exists between
them.
The current assets refers to those assets which in the ordinary course of business can be,
or will be converted into cash within one year without undergoing diminution in the value
and without disrupting the operations of firm. The major current assets are:-
Cash
Marketable Securities
Accounts Receivables
Inventory
The Current Liabilities are those liabilities which are intended, at their inception, to be
paid in the ordinary course of business, within a year, out of current assets or earnings of
the concern. The basic current liabilities are:-
Accounts Payable
Bills Payable
Bank Overdraft
Outstanding Expenses
The term Working Capital may be used in two different ways.
Gross Working Capital (or total Working Capital): The gross working capital
refers to the firm’s investment in all the current assets taken together. For
example, if a firm has a cash balance of Rs. 50000, debtors of Rs. 70000 and
inventory of raw material and finished goods has been assessed at Rs. 100000,
then the gross working capital of the firm is Rs. 220000.
Net Working Capital: The term net working capital may be defined as the
excess of total current assets over total current liabilities. The extent, to which
these current liabilities are delayed, the firm gets availability of funds for that
period.
Gross Working Capital= Sum Total of Current Assets
= RM + WIP + FG + Debtors + Cash and Bank Balance
Net Working Capital= Difference between current assets and current
Liabilities
RM + WIP + FG + Debtors + Cash and Bank Balance
- Creditors – Direct wages - Overheads
The Operating Cycle and Working Capital Needs
The working Capital requirement of firm depends, to a great extent upon the operating
cycle of the firm. The operating cycle may be defined as the time duration starting
from the procurement of goods or raw materials and ending with the sales
realization. The length and nature of the operating cycle may differ from one firm to
another depending upon the size and nature of the firm.
In case of manufacturing concern, this series starts from procurement of raw materials
and ending with the sales realization of finished goods. There is a time gap between
happening of the first event and happening of the last event. This time gap is called the
operating cycle.
Thus, the operating cycle of a firm consists of the time required for the completion of the
chronological sequence of some or all of the following:
i. Procurement of raw materials and services.
ii. Conversion of raw materials into work-in-progress.
iii. Conversion of work-in-progress into finished goods.
iv. Sale of finished goods (cash or credit).
v. Conversion of receivables into cash.
Figure:1 – Working capital Cycle
Explanation of diagram
Working capital cycle involves conversions and rotation of various
constituents/components of the working capital. Initially ‘cash’ is converted into raw
materials. Subsequently, with the usage of fixed assets resulting in value additions, the
raw materials get converted into work in process and then into finished goods. When sold
on credit, the finished goods assume the form of debtors who give the business cash on
due date. Thus ‘cash’ assumes its original form again at the end of one such working
capital cycle but in the course it passes through various other forms of current assets too.
This is how various components of current assets keep on changing their forms due to
value addition. As a result, they rotate and business operations continue. Thus, the
working capital cycle involves rotation of various constituents of the working capital.
Finished Goods
Debtors Raw material
Cash
Working Expenses
Creditors
Value Addition
Value Addition
Work in Process
CEASE FIRE ’s Operating Cycle
The operating cycle of CEASE FIRE is as follows:-
Procurement of raw material
The operating cycle for a company primarily begins with the purchase of raw materials,
which are paid for after a delay representing the creditor's payable period. CEASE FIRE
is a capital goods manufacturer. Some raw materials are procured from outside, some
manufactured by its own.
Sometimes it may happen that company needs product in the form of raw material
manufactured by its own SBU’s. In this case stock is transferred within the company but
it won’t be considered as actual sale and no sale tax levied but it is liable to pay excise
duty since excise duty is paid on production and it is the liability of manufacturer.
Conversion of Raw material into finished goods
These purchased raw materials are then converted by the production unit into finished
goods and then sold. The time lag between the purchase of raw materials and the sale
of finished goods is known as the inventory period.
Labor
Labor is vital for conversion of inputs into finished goods.
There are three types of labour here
Skilled Labor
Here a lob our hour rate is fixed and the number of hours required to perform that
work is determined and on the basis of this labor expenses are determined. This is
treated as fixed overheads.
Casual labor
This is not permanent labor. They are paid on daily basis to perform work of a
non-recurrent nature. They are sourced from the Contractors of the Company.
Vendoring
When there is a capacity constraint then a part of the work is done by vendors and
the parts manufactured by these vendors are assembled. This is also called job
work
Conversion of Work-in-progress into finished goods
Sale of Finished Goods
Goods are sold either on cash basis or credit basis. Upon sale of finished goods on
credit terms, there exists a time lag between the sale of finished goods and the
collection of cash on sale. This period is known as the accounts receivables period
Conversion of Receivables into Cash
There are basically two ways available to vendors to pay their dues to CEASE
FIRE . These are:-
Cash Payment method
In this a vendor is supposed to clear his dues within a limited amount of time and
mode of payment must be highly liquid. The vendors can pay by demand drafts,
pay orders, or cheques of party which are subject to realization.
Channel Financing
Channel financing is used to receive fast money from debtors. Most of the firms
generally sells goods or services on credit and it takes a little time to realize.
Hence, receivables form an important part of working capital management.
Liquidity versus Profitability- A Risk-Return Trade off
Net Working Capital has bearing on Profitability as well as risk. The term
Profitability used in this context is measured by profits after expenses. The term Risk
is defined as the probability that a firm will become technically insolvent so that it
will not be able to meet its obligations when they become due for payment.
It is said that greater the amount of working capital the less risk prone the firm is
The decision on how much working capital be maintained involves a trade-off because
having a large working capital may reduce the liquidity risk faced by the firm, but it can
have a negative effect on the cash flows. Therefore, the net effect on the value of the firm
should be used to determine the optimal amount of working capital.
The goal of Working Capital Management is to manage current assets and liabilities
in such a way that a satisfactory level of working Capital is maintained.
The assessment of the working capital should be accurate even in the case
of small and micro enterprises where business operation is not very large. We know that
working capital has a very close relationship with day-to-day operations of a business.
Negligence in proper assessment of the working capital, therefore, can affect the
day-to-day operations severely. It may lead to cash crisis and ultimately to
liquidation. An inaccurate assessment of the working capital may cause either
under-assessment or over-assessment of the working capital and both of them are
dangerous.
CONSEQUENCES OF UNDER ASSESSMENT OF WORKING
CAPITAL
Growth may be stunted. It may become difficult for the enterprise to undertake
profitable projects due to non-availability of working Capital.
Implementation of operating plans may become difficult and consequently the
profit goals may not be achieved.
Cash crisis may emerge due to paucity of working funds.
Optimum capacity utilisation of fixed assets may not be achieved due to non-
availability of the working capital.
The business may fail to honour its commitment in time, thereby adversely
affecting its credibility. This situation may lead to business closure.
The business may be compelled to buy raw materials on credit and sell finished
goods on cash. In the process it may end up with increasing cost of purchases and
reducing selling prices by offering discounts. Both these situations would affect
profitability adversely.
Non-availability of stocks due to non-availability of funds may result in
production stoppage.
While underassessment of working capital has disastrous implications on business,
over assessment of working capital also has its own dangers.
CONSEQUENCES OF OVER ASSESSMENT OF WORKING
CAPITAL
Excess of working capital may result in unnecessary accumulation of
inventories.
It may lead to offer too liberal credit terms to buyers and very poor
recovery system and cash management.
It may make management complacent leading to its inefficiency.
Over-investment in working capital makes capital less productive and
may reduce return on investment.
Working Capital: Policy
There is an inevitable relationship, between the sales and current assets. The actual and
forecasted sales have major impact on the amount of current assets which the firm must
maintain. So, depending upon the sales forecast, the financial manager should also
estimate the requirement of current assets.
There are three types of working capital policies which a firm may adopt i.e. moderate
working capital policy, conservative working capital policy, and aggressive working
capital policy. These policies describe the relationship between sales level and the level
of current assets.
Figure 2 : Different types of working Capital
Policies
In case of moderate working capital policy, the increase in sales level will be
coupled with proportionate increase in level of current assets also e.g. if the
sales increase or expected to increase by 10%, then the level of current assets will
also be increased by 10%.
In case of conservative working capital policy, the firm does not like to take risk.
For every increase in sales, the level of current assets will be increased more
than proportionately. Such a policy tends to
reduce the risk of shortage of working capital by increasing the safety component
of current assets. The conservative working capital policy also reduces the risk of
non payment to liabilities.
In case of aggressive working capital policy the increase in sales does not result
in proportionate increase in current asset. For example, for 10% increase in
sales the level of current asset is increased by 7% only.
This aggressive policy has many implications-
The risk of insolvency of the firm increases as the firm maintains low liquidity.
Current assets
Sales level
Conservative
Moderate
Aggresive
The firm is exposed to greater risk as it may not be able to face unexpected
change, in the market
Reduced investment in current assets will result in increase in profitability of the
firm
CEASE FIRE and its Working Capital policy
CEASE FIRE follows conservative working capital policy i.e. for every
increase in sales level the level of current assets will be increased more than
proportionately. Such a policy tends to reduce the risk of shortage of working
capital by increasing the safety component of current assets. This policy also
reduces the risk of non payment of liabilities.
RECEIVABLES MANAGEMENT
The term Receivables is defined as debt owed to the firm by customers arising from the
sale of goods and services in the ordinary course of business. Receivables are a type of
loan extended by the seller to the buyer to facilitate purchase process. When companies
sell their products they sometimes demand cash on delivery, but in most cases they sell
goods on credit and allow a delay in payment. The customers’ promise to pay for their
purchases constitutes valuable assets; therefore accountants enter these promises in their
balance sheet as accounts receivables. Most of the businesses today sell goods and
services on credit and it takes times for the receivables to realize. Hence Receivables
management forms an important part of working capital management.
Need of Receivables
The sale of goods on credit is an essential part of working capital management. Credit
sale are treated as marketing tool to aid sale of goods. As a marketing tool, they are
intended to promote sales and increase profits. Hence Receivables management assumes
significance in the context of overall working capital management.
Objective of Receivables management
In a competitive environment, sometimes the firms are compelled and sometimes the
firms desire to adopt liberal credit policies for pushing up the sales. Higher credit sales at
more liberal terms will no doubt increase the profits of the firm, but simultaneously also
increases the risk of bad debts as well as result in more and more funds blocking in the
receivables. Thus, the objective of receivables management is matching the cost of
increasing sales with the benefits arising out of increases sales with the objective of
maximizing the return on investments of the firm.
Cost of Receivables
i) Cost of Financing: The credit sales delays the time of sales realization and therefore
the time gap between incurring the cost and the sales realization is extended. The firm on
the other hand, has to arrange funds to meet its own obligation towards payment to
supplier, employees, etc. these funds are to be procured at some explicit or implicit cost.
This is known as the cost of financing the receivables.
ii) Administrative Cost: A firm will be required to incur various costs in order to
maintain the record of credit customers before the credit sales as well as after the credit
sales.
iii) Delinquency Cost: This is the cost incurred if there is any delay in payment by a
customer.
iv) Cost of default by Customers: If there is default by customers and the receivables
becomes, partly or wholly unrealizable, then this amount, known as bad debt also
becomes a cost to the firms.
Trade off on receivables
The trade off on receivables can be applied to find out whether to liberalize credit
terms or not. More liberal credit terms may be expected to generate higher sales revenue
and higher profits; but they increases the potential costs also as the chances of bad debts
increases and there will be decrease in liquidity of firms. On the other hand a stringent
credit policy reduces the profitability but may increase the liquidity of the firms. Thus, a
firm should try to frame its credit policy in such a way as to attain the best possible
combination of profitability and liquidity.
Costs
Administrative Costs
Delinquency costs
Default cost
Total cost of receivables
Cost of financing
Credit period (days)
Normal (20 days) Default (40 days)
Figure 4 : Credit Policy, Profitability and Liquidity of a firm
Determinants of Receivables
In any firm the quantum of receivables is determined by several factors.
1. The percentage of credit sales to total sales. Higher the sales higher will be the
receivables. But this is not under the control of financial manager.
2. The terms of sale i.e. the credit and collection policies. These also determine the
quantum of receivables. These are under the control of financial manager.
So, the receivable management must be attempted by adopting a systematic
approach and considering the following aspects of receivables management:
The Credit Policy
The Credit Control
Credit Policy
A firm makes significant investment by extending credit to its customers and thus
requires a suitable and effective credit policy to control the level of total investment in
the receivables. The basic decision to be made regarding receivables is to decide how
much credit be extended to a customer and on what terms. This is what is known as credit
policy. The credit policy may be defined as set of parameters and principles that govern
the extension of credit to its customers. This requires the determination of
i) Credit standard
ii) Credit terms
The Credit Standards: when a firm sells on credit, it takes a risk about the paying
capacity of the customers. Therefore to be on safer side, it must set credit standards
which should be applied in selecting customers for credit sales. The following points
should be noted while setting the credit standard for a firm:
Effect of particular standard on sales volume.
Effect of a particular standard on the total bad debts of the firm
Effect of a particular standard on the total collection cost.
Credit Terms: It refers to set of stipulations under which the credit is extended to the
customers. The credit terms specify how the credit will be offered, including the
length of the period for which the credit will be offered, the interest rate on the credit
and the cost of default.
Credit period: It refers to the length of time over which the customers are allowed to
delay payments.
Lengthening the credit period increases the sales by attracting more and more customers,
whereas squeezing the credit period has the distracting effect. The firm must consider the
cost involved in increasing the credit period which will result in increase in the
investment in receivables.
Discount terms: The customers are generally offered cash discount to induce them to
make prompt payments. Different discount rates may be offered for different periods e.g.
3% discount if payment made within 10 days; 2% discount if payment made within 20
days. Both the discount rate and the period within which it is available are reflected in the
credit terms e.g.
3/10, 2/10, net 30 means
that a 3% cash discount if payment made within 10 days ; 2% discount if payment made
within 20 days; otherwise full payment by the end of 30 days from the date of sale.
Practical Implementation
CREDIT TERMS:
Credit Period- The credit period at CEASE FIRE is not constant. For some vendors, it is
30
days, for others, it may be 45 days or 60 days. This depends entirely on company’s
policies. It can be different for different vendors.
Cash discount- The cash discount offered by CEASE FIRE is 2% to 1.75%, depending
upon
cash discount period.
Cash discount period- The cash discount period allowed by CEASE FIRE is 1 to 3 days.
This can be summarized as follows:
Credit Discount Period
(days)
Credit Discount
(%)
1 2
3 1.75
30/45/60 0
There are basically two ways available to vendors to pay their dues to CEASE FIRE .
These
are:
Cash:
In cash payment method, a vendor is supposed to clear his dues within a limited
amount of time. And the mode of payment must be highly liquid (Cheque or Demand
Draft).
There are three options available with the vendors:
i) Blank Cheque Arrangement: In Blank Cheque arrangement, the vendors provide
CEASE FIRE blank Cheques drawn on the name of CEASE FIRE . As soon as the
material is received and invoice is generated, CEASE FIRE is allowed to fill the relevant
amount pertaining to the transaction that took place between CEASE FIRE and its
vendor. This Cheque can be
cleared on the same day the invoice is generated.
ii) Cheque Arrangement: In simple Cheque arrangement, on
generation of invoice, a cheque is issued by the vendor drawn on
the name of CEASE FIRE .
iii) Demand Draft (D.D.): Here, a demand draft is drawn on the name
of CEASE FIRE , by the vendor, as soon as invoice is generated.
Control of Receivables
Once the credit has been extended to a customer as per credit policy, the next important
step in the management of receivables is the control of receivables. The things to be taken
into consideration are:-
1. The collection Procedure: The firm should have a built in system under which
customer may be reminded a few days in advance about the bill becoming due.
The collection procedure of the firm should neither be too lenient nor too strict. A strict
collection policy can affect the goodwill and damage the growth prospects of the sales. If
the firm has a lenient credit policy, the customers with a natural tendency towards slow
payment may become even slower to settle his accounts. Thus, the objective of collection
procedure and policies should be to speed up the slow paying customers and reduce the
incidents of bad debts.
2. Monitoring of Receivables:-
The financial mangers should keep a watch on the credit worthiness of all the individual
customers as well as the total credit policy of the firm.
A common method to monitor receivables is the collection Period or number of
day’s outstanding receivables.
Average collection period= Average Receivables
Credit sales per day
Another technique for monitoring the Receivables is known as aging schedule. The
quality of the receivables of a firm can be measured by looking at the age of receivables.
The older the receivables, the lower is the quality and greater the likelihood of a default.
In the aging schedule, the total outstanding receivables on particular days are classified
into different age groups together with percentage of total receivables that fall in each age
group.
For example, the receivables of a firm, having a normal credit period of 30 days may be
classified as follows:
Age Group %of total outstanding
(Number of Days) Receivables
Less than 30 days 60%
31-45 days 20%
46-60 days 10%
61 and above 10%
Here the firm has a credit period of 30 days and 60% of the total receivables are less than
30 days old. 20% of the receivables are over due by 15 days, 10% of the receivables are
overdue but 30 days and 10% are over due by more than 30 days.
This type of aging schedule can provide a kind of an early warning suggesting
i) Deterioration of receivables quality
ii) Where to emphasize the appropriate corrective actions
3. Lines of Credit: It is the maximum amount a particular customer may have as due to
the firm at any time. Different lines of credit may be allowed to different customers. As
long as the customer’s unpaid balance remains within this maximum limit, the account
may be routinely handled. However if new order is going to increase the indebtedness of
a customer beyond his line of credit, then the case must be taken for an approval for a
temporary increase in the line of credit.
4.Accounting Ratios: Two accounting ratios may be calculated in particular may be
calculated to find out the changing pattern of receivables. These are
i) Receivables Turnover Ratio
ii) Average collection Period
Both the ratio should be calculated on a continuous basis to monitor the receivables. The
ratios so calculated for the firm must then be compared with the standard for that industry
or with past ratios of the same firm.
Channel Financing
Channel financing is different from the conventional lending since, in conventional
lending, the financing banks are generally not concerned as to how the suppliers of the
firm and dealers of the products of firm, are financing their activity. The weak financials
of the supplier (leading to delay in supply and non-availability of market credit) or the
dealers of the products (delay in receipt in payment leading to higher book debts) could
adversely impact the top-line(sales) as well as bottom-line(profits) of the financed firm.
In the channel financing the financing bank may have to find ways and means as to how
the suppliers and buyers (dealers of the product) can be financed through various
instruments/facilities. Hence, the channel financing adds value to the transaction for all
the parties concerned, be it the manufacturer/trader, the supplier of the inputs or the
dealer/buyer or the financing bank.
Through channel financing, the business firms can out-source a major part of their
working capital needs thereby reducing their dependence on bank finance. For
instance, it need not avail of credit from its bank to pay off the supplier if the supplier
gets the finance in his own name from the bank for the raw materials supplied on credit in
the form of say, drawee bills financing. The bank can also allow loan to the dealer for the
credit term that has been fixed between the firm and the dealer in the form of receivable
finance or finance against book debts or factoring of the receivables. This enables the
manufacturing firm to get cash immediately for the finished goods supplied. . Thereafter,
the bank makes a due diligence assessment of the suppliers’/dealers’ standing and
credit worthiness and decides to provide finance on merit.
A simplified channel finance solution is as follows:-
Figure:-5
Step1: Supply of goods from Corporate to Channel Partner.
Step2: Advice to ABN AMRO to make payment for the purchase.
Step3: Payment by ABN AMRO for goods purchased by Channel Partner.
Step4: Repayment by Channel Partner to ABN AMRO Bank as per facility term.
Channel Finance Benefits to Corporate:
Assured availability of finance to their Channel Partner's at lower than current
cost.
Corporate can use this as a Marketing tool and strengthen their relationship /
reward loyalty of the Channel Partners
Release of funds from the balance sheet resulting in improvement in financial
ratios.
Conversion of balance sheet item to an off balance sheet liability.
Greater efficiencies in the Corporate's receivable management and cash
management process.
Ability to introduce payment discipline with their Channel Partners
Channel Finance Benefits to Channel Partners:
Steady and cheaper source of working capital financing.
Channel Partners can increase sales through higher purchasing power.
Simplicity of documentation and approval procedures.
High service and delivery standards compared to current neighborhood banker.
Channel Partners may be able to increase profitability by availing of Cash
discounts from Corporate.
Channel finance benefits to banks:
Increased customer base
Since, the risk is diversified through finance to supplier, manufacturer and the
dealers, the credit exposure norms are better observe
Practical Implementation
The practice of channel financing is followed in CEASE FIRE to a great extent and
the company is benefiting a lot through this system of collection of debtors.
The banks which provide Channel Financing facility to CEASE FIRE are:-
ICICI bank
Deustche bank
Payable Management
As the firm sells goods on credit it may also procure/purchase raw material and finished
goods on credit basis. The payment for these purchases may be postponed for the period
of credit allowed by suppliers. So, the supplier of the firm in fact provides working
capital to the firm for the credit period.
For example, a firm makes a credit purchase of Rs. 60000 per month and the credit
allowed by supplier is two month, then the working capital supplied by creditors is Rs.
120000 (i.e. Rs. 60000*2months). It means the firm would be getting the supplies
without however, making the payment for two months. The postponement of payment to
the creditors makes the firm to utilize this money elsewhere or help the firm to sell on
credit without blocking its own funds.
Since, Working Capital is the difference between current assets and current
liabilities and creditors form an important part of current liabilities. So, a firm can
save a considerable amount if these creditors are managed. The extent, to which the
payment to these current liabilities is delayed, the firm gets the availability of funds for
that period. So, a part of the funds required to maintain current assets is provided by
current liabilities and the firm will be required to invest the funds in only those current
assets which are not financed by current liabilities. So, the aim of the firms is to realize
its debtors as fast as possible but too pay its creditors as late as possible.
Creditors can be managed by discounting of bills.
Bill Discounting is a relatively new concept in India. When a firm buys goods on credit
the supplier will state a final payment date . To encourage firm to pay before final
payment date , the supplier will offer a cash discount for prompt settlement. Now it’s the
decision of firm whether to avail or not that discount facility provided by supplier. For
that they should see whether it is profitable for them or not.
By using discounting of bills technique huge sums of money can be saved, by just paying
the discounted amount in time. Big firms, ( like CEASE FIRE ), which have huge cash
reserves, generally, get into a contract with financial institutuions or banks( like ICICI
bank or CEASE FIRE finance Ltd.). These financial institutions pay the suppliers the
requisite amount on behalf of these firms and they charge some interest on the amount
paid by them to the suppliers from these firms.
Benefits of Discounting of Bills
Discounting of Bills make it easy to decide whether the discount being allowed by
the supplier is worth taking or not.
Also, it make possible to calculate savings being received on account of availing
discount, in monetary terms
It also helps in improving relationship between vendors/suppliers.
It’s an indirect cash inflow , because the company is going to pay less than what it
was supposed to pay initially
The cash thus saved can be invested elsewhere.
It’s a win-win situation for both-the company as well as suppliers as the suppliers
will be getting money much before the stipulated time and the company is able to
enjoy the benefits of discount offered by the suppliers.
Inventory Management
The Dictionary meaning of Inventory is 'a list of goods'. In a wider sense, inventory can be defined as an idle resource which has an economic value. It is however, commonly used to indicate various items of stores kept in stock in order to meet future demands.
Inventory is assets to the firm and requires investment and hence involves the
commitment of firm’s resources. The inventories need not be viewed as an idle asset
rather these are an integral part of firm’s operations.
Inventory refers to stockpile of products that a firm is offering for sale and the
component that makes up the product. We can also say that inventory is composed of
assets that will be sold in the future in the normal course of business. But the question
arises how much inventory be maintained? If the inventories are too big, they become
strain on the resources; however, if they are too small, the firm may loose sales.
In any organization, there may be following four types of inventory:
(a) Raw materials & parts-- These may include all raw materials,
components and assemblies used in the manufacture of a product;
(b) Consumables & Spares -- These may include materials required
for maintenance and day-to-day operation;
(c) Work in progress -- These are items under various stages of
production not yet converted as finished goods;
(d) Finished Products -- Finished goods not yet sold or put into use.
Need For Inventory
Every organization needs to maintain a minimum amount of inventory so as to fulfill its
customer’s demands. Also, the organizations foresee future demand and they plan their
inventory levels accordingly. These reasons can be classified as:
Transactionary motive: to meet the day to day requirements of sales, production
process, customer demand etc.
Precautionary motive: A firm should keep some inventory for unforeseen circumstances
also.
Speculative Motive: The firm keep some inventory in order to capitalize opportunity to
make profit.
Objectives of Inventory management
a. To ensure a continuous supply of raw materials to facilitate uninterrupted
production.
b. To maintain sufficient stock of raw materials in periods of short supply and
anticipate price changes.
c. To control inventory investment by maintaining optimum Inventory.
d. To minimize investment in inventory and to ensure maximum turnover of
inventory in an accounting period.
e. To ensure stocking of relevant materials in adequate quantities and to ensure that
unwanted or slow- moving items and/or non-moving items do not pile up.
f. To minimize inventory carrying costs in business- both ordering cost and carrying
cost.
g. To eliminate waste and delays in the process of manufacturing at all stages so as
to reduce inventory pile up.
h. To ensure adequate and timely supply of finished goods to the market through
proper distribution.
Cost of holding Inventory
Every firm maintains some stock of raw materials, work-in-progress and finished goods
depending upon the requirement and other features of the firm. It is benefited, by holding
inventory but there is cost involved with it. had these cost not there, there would not have
been any problem of inventory management and every firm would have maintained
higher and higher level of inventories. The cost of holding inventory includes the
following:-
Ordering Cost- The cost associated with the acquisition or ordering of inventory
is known as ordering cost. Firms have to place order with suppliers to replenish
inventory of raw materials. Such expenses involved are referred to as ordering
cost. The ordering cost may have fixed component which is not affected by the
order size; and a variable component which changes with the order size. It
includes:
o Carriage Inward
o Insurance Inward
o Communication cost
o Stationary Cost
o Demurrage Charges
Ordering Cost= (A*O)/Q
where, A= Annual Requirement of a particular material in units or numbers
or kgs.
O= Ordering cost per order
Q= Lot size, in units
Carrying Cost:
The very fact that the items are required to be kept in stock means additional expenditure
to the organization. The different elements of costs involved in holding inventory are as
follows:
(a) Interest on capital / cost of capital / opportunity costs
(b) Obsolescence and depreciation
(c) The cost of storage, handling and stock verification
(d) Insurance Costs
The average inventory carrying costs can, therefore, be as follows:
Interest/costs of capital/opportunity cost 15 to 25%
Obsolescence and depreciation cost 2 to 5%
Storage, handling etc. 3 to 5%
Insurance costs 1 to 2%
Total 21 to 37%
Carrying Cost is calculated by:
Carrying Cost= ( C*O)/Q
where, C is carrying cost
Stock-out Cost (A Hidden Cost):
A stock out is a situation when the firm is not having units of an item in store but there is
demand for that either from the customers or production department. There is always a
cost of stock out in the sense that the firm faces a situation of lost sales or back orders.
Some examples are:
o Non availability/ small amount available with vendors
o Non availability of substitutes
o Quality desired not matching with the supplied ones
o Updated or improved product not available.
Total Cost
The total cost associated with inventory is the sum of ordering and carrying cost i.e.
Total cost= Carrying Cost+ Ordering Cost
= C*O/Q + A*O/Q
One Underlying principle should be kept in time that ordering cost and carrying cost are
inversely related to each other. Suppose the ordering cost increases because more number
of times the order is repeated, a direct consequence would be reduction in inventory held
and hence carrying cost would be less. Conversely, if the number of order is less, this
means that average value of inventory held is higher with the consequence of higher
inventory carrying cost.
Techniques used for inventory management
The finance department of every organization aims at maintaining an optimum level of
inventory on the basis of the trade-off between cost and benefit to maximize the owners
wealth. There are various tools for effective inventory management. The tool depends
upon the type of inventory, namely materials, work-in-progress or finished goods. some
of these tools have an impact not only on inventory but on whole structure of the
organization. They help in reducing cost and improving the efficiency of organization as
a whole.
Perpetual Inventory Verification
This is done to check out actual inventory level and is done on a continuous basis. In
PIV method, the amount of inventory is checked both in documents as well as stores.
Here, some items are checked randomly and while checking those items issues and
receipt of those items is stopped we can say that these items are brought to freezing state.
The database which, ideally, should be refreshed simultaneously whenever there is a
change in inventory and it should match with physical inventory level. Practically, these
two numbers rarely match. This happens because of various reasons, which may or may
not be under the control of management.
Some of the reasons for mismatch are:
Delay in entering data
Technical Errors (intranet or SAP not working)
Documentation Error (document not submitted)
Posting Error
Material issued but document not processed
Document processed but material not issued
Material send for job work but not received effectively
Pilferage
Material waiting for quality check
Benefits Of Perpetual Inventory Verification
a. The exact amount of inventory present in the plant can be checked.
b. Checking it against the database of the stores can give us a fair idea about
how efficiently the system is working
c. Any faults in the system, regarding the errors associated with updating of
database of stores department can be traced.
Recommendations
PIV should be done as frequently as possible.
It should be made sure that data is updated from time to time that is as soon as
material is issued or received, corresponding data should be updated on the plant
database.
Unless or until data is entered no material should be issued or received.
ABC Analysis
This is done to solve classification problem. The most important thing in inventory
control management is classification of different types of inventories to determine the
type and control required for each. The ABC analysis is based on the assumption that
same degree of control should not be exercised on all items of inventory. The ABC
analysis classifies various inventory items into three sets of groups of priority and
allocates managerial efforts in proportion of the priority. The most important items are
classified as class ‘A’ , those of intermediate importance are classified as class ‘B’ and
the remaining items are classified as class ‘C’.
The financial Manager should monitor different items belonging to different groups in
that order of priority. Utmost attention is required for class ‘A’ items, followed by
items in class ‘B’ and then items in class ‘C’.
This is done based on the experience
That 10% of items in the inventory accounts for 70% of consumption in value so they are
classified as ‘A’ class items
20% of items in the inventory account for 20% of consumption in value so they are
classified as ‘B” class items
70% of the items in the inventory accounts for 10% of consumption in value so they are
classified as ‘C’ class items.
Table :- ABC Analysis Benefits Of ABC analysis
It serves as a tool for classification for inventory.
Each item can be given appropriate attention as per classification.
Limitations of ABC analysis
This system suffers from major drawback. An item of inventory may not be very
expensive, but may be very critical to production process and/ or may not be easily
available; still it will be classified under group ‘C’. It would require serious attention but
due to this classification, it will receive less attention. Similarly a not very important
component may receive extra attention then it deserves . In either case it is detrimental to
the growth of the company. This is a serious limitation of ABC analysis.
Practical Implementation
ABC analysis is strictly followed in CEASE FIRE . It keeps an eye ion those items which
are more crucial for production process than others, such items are given due attention so
that there is neither an excess nor deficit of such materials. On the other hand there is not
much to worry about class B and class C items. There are around 7000 items which are
categorized as A, B, and C items.
Class No Of
Items (%)
Inventory
Value (%)
A 10 70
B 20 20
C 70 10
Total 100 100
Economic Order Quantity Model:
This is to solve order quantity problem.
After ABC analysis we get to know which item deserves how much attention. The next
Problem is to determine the lot size in which a particular item of inventory will be
required. The importance of effective inventory management is directly related to size of
the inventory. A firm should neither place too large or too small orders. The inventory
management basically focuses on maintaining an optimum level of inventory in order to
minimize the cost attached with different inventory levels.
The optimum level of inventory is known as Economic Order Quantity (EOQ) or
Economic lot size. This refers to that quantity per order, which ensures that total of
carrying and ordering cost is minimum.
The approach to determine EOQ is based on the following assumptions:-
The total usage of particular item for a given period (usually a year) is known
with certainty and the usage rate is even throughout the year.
There is no time gap between placing an order and getting its supply
The cost per order of an item is constant and the cost of carrying inventory is also
fixed and is given as a percentage of average value of inventory.
There are only two costs associated with the inventory, and these are the cost of
ordering and the cost of carrying the inventory.
EOQ is generally used to determine the order quantities of class ‘C’ items and
sometimes for class ‘B’ items also. This method is rarely used for class ‘A’ items because
class ‘A’ items are ordered only when requirement arises, there is no need to keep
inventory of class ‘A’ items.
The formula for estimating EOQ is:
EOQ= √ (2A*O)/C
Where, A = annual requirement of a particular material in units or numbers
Or Kgs
O = Ordering cost per order
C = carrying cost per unit
Figure 7 :- Graphical Presentation Of EOQ Model
Explanation
The figure shows that the total ordering cost for any particular item is decreasing as the
size per order is increasing. This will happen because with the increase in the size of
order, the total number of order for a particular item will decrease resulting in decrease in
the order cost. The total annual carrying cost is increasing with the increase in order size.
This will happen because the firm would be keeping more and more items in the stores.
However, the total cost of inventory (i.e. the total carrying cost + the total ordering cost)
initially reduces with the increase in size of order. The trade-off of these two costs is
attained at the level at which the total amount of cost is least. At this particular level the
order size is designated as the economic order quantity. If the firm places the orders for
that item of this economic order quantity, then the total annual cost of inventory of that
item will be minimized.
Benefits of EOQ
It makes sure that there is neither an excess nor deficit of inventory.
It saves cost as it saves carrying and ordering cost.
It also results in strong relationship with vendors.
It results in saving of time.
Practical Implication
EOQ is a relatively old technique for assessing the lot size of the order. Moreover, it
suffers from the disadvantage that the order cost is assumed to be uniform during a
particular period. The main point of problem in calculating EOQ is regarding the
estimation of ordering and carrying costs. Because there are no set rules to find exact
storage cost, maintenance cost etc. Since the production unit of CEASE FIRE is involved
in manufacturing of tailor-made products, assessment of EOQ is not very relevant for this
kind of business line. However, the general usage items like nuts, bolts, crimps, wires,
batons, nails, lubricants, gaskets etc. are common for all types of items. Hence, it may
have restricted application in the FSW plant.
EOQ is estimated on the basis of prior experience and future requirements. This happens
so because it is very difficult to classify to calculate storage and maintenance costs. They
have to be estimated because there are no provisions available to calculate them. To
prove the usefulness of this method, some arbitrary costs (ordering cost and carrying
cost) are assumed. Accordingly, EOQ is calculated to show how this model works and
how it can be useful in maintaining proper inventory levels.
I
ITEM EOQ
SL98354BOOOS 219
CS94314KOOOS 237
SL97299OMOOS 327
SH97609OOKOS 245
SH97608OOMOS 258
Table – Economic Order Quantity
RECOMMENDATIONS:
Provisions to calculate EOQ must be made because a guess work may
prove to be wrong.
At first, the total cost involved in ordering, transporting, procurement,
storage and maintenance must be calculated. Than, a part of this
(say 20%) should be taken as carrying cost and rest as ordering cost.
Reorder point (under certainty conditions): To solve order point
problem:
Reorder point is that level of inventory at which an order should be placed for
replenishing the current stock of inventory. It may be defined as level of inventory
when fresh order should be placed for procuring additional inventory equal to the
economic order quantity. It is the inventory level which is equal to consumption during
the lead time.
Reorder point is calculated as:
Rρс = L*U
Where, L = Lead time (in days)
U = Average daily usage of inventory
Benefits of reorder point
It makes sure that plant does not run out of stock in any given day.
It makes it easier to keep track of inventory and to know when exactly next lot of
material is needed.
PRACTICAL IMPLEMENTATION:
Practically, reorder point is not calculated at CEASE FIRE . Trends of requirements of
various items are observed and accordingly order point is estimated for different items.
Here the problem is in estimating exact lead times and average daily usage of inventory.
The difficulty in estimating lead time is that it is never fixed and also, it depends not only
on the material, but also on the supplies and his geographical location. A material which
can be ordered from different suppliers may have different lead times. As far as average
daily usage of inventory is concerned, the fact is that CEASE FIRE follows engineered-
to-order business, i.e. it manufactures according to immediate demands. So, it becomes
difficult to estimate average daily usage of inventory. The demands keep fluctuating day-
by-day.
To emphasize on the importance of reorder point, a calculation based on assumed lead
times and average daily usage of inventory is done. This can prove to be helpful in
implementing reorder point at CEASE FIRE .
ITEM Rc
SL98354BOOOS 100
CS94314KOOOS 180
SL97299OMOOS 150
SH97609OOKOS 144
SH97608OOMOS 120
RECOMMENDATIONS:
Reorder point is a useful tool and hence, should be implemented. It will make sure
that the plant does not run short of inventory for even a single day.
Lead times should be estimated based on both – the type of material and the
supplier.
Safety stock: To overcome unexpected situations
The EOQ and the reorder point have some assumptions, which are not possible
practically. For instance, the demand for inventory is like to fluctuate from time to time.
The demand may exceed the anticipated level.
Similarly, the receipt of inventory from the suppliers may be delayed beyond the
expected lead time. The delay may be due to strikes, floods, transportation, and other
bottlenecks. To avoid such undesirable situations safety stock is maintained.
Safety Stock may be defined as the minimum additional inventory to serve as a
safety margin or buffer or cushion to meet an unexpected increase in usage resulting
from an unusually high demand and/or an uncontrollable late receipt of incoming
inventory.
Benefits of Safety Stock
It is useful as it makes sure that even after reorder point is passed, the plant is able
to maintain its immediate demand.
It acts as a buffer.
It is an effective tool to minimize shortage cost.
PRACTICAL IMPLEMENTATION:
The determination of the optimum safety stock involves dealing with uncertain demand.
The first step, therefore, is to estimate the probability of being out of stock as well as the
size of stock-out in terms of the shortage of inventory at different levels of safety stock.
To give an overview of the whole process, I calculated safety stock of a few items based
on certain assumptions regarding the stock-out acceptance factor, average number of
units per order, average daily usage of inventory and lead time.
ITEM Ss
SL98354BOOOS 156
CS94314KOOOS 256
SL97299OMOOS 213
SH97609OOKOS 187
SH97608OOMOS 209
Table – Safety Stock
Lean Manufacturing
There are many hidden wastes in any organisation . To get rid of these hidden wastes we
need to first unhide them. The best way to do this is to have a VISUAL FACTORY
where there is nothing hidden . Lean Manufacturing is a tool to enable us to achieve this
objective
Fundamentals of Lean Manufacturing :
1. Smooth flow of Material & Information to meet on demand service to customers
but without having to hold high inventories .
2. Elimination of hidden wastes .These wastes fall into seven basic categories :
a. Over Production
b. Defects/Rework
c. Motion
d. Transportation
e. High Inventory
f. Over processing &
g. Waiting
3. To achieve waste elimination , workplace organization using the 5 S System is
necessary:
a. Sort ... Remove unneeded items
b. Set –in – order... A place for everything and everything in its place (PEEP)
c. Shine ... Clean enough to inspect and expose any defect .
d. Standardize.. Create instructions and Standard Operating procedures
e. Sustain... Maintain the above through support and encouragement
4. Reducing Lead Time at every stage of every process through
a. Visual Controls using Kanban cards
b. Receiving material just in time (JIT).
c. Line Balancing to avoid up piling up of material at any stage.
d. Studying the flow of material or Value Stream Mapping.
e. Total Productive Maintenance to improve overall operation of the
equipment.
f. Set up time reduction using SMED (single minute exchange of dies ).
Lean manufacturing is a management philosophy focuses on reduction of the seven
wastes to improve overall customer value. Lean management (also known as Big JIT)
is a philosophy of operations management that seeks to eliminate waste in all aspects of
aspects of firm’s production activities: human relations, vendor relations, technology and
management of materials and inventory.
BY eliminating waste quality is improved, and automatically, production time and cost
are reduced. To solve the problem of waste lean manufacturing has several tools at its
disposal. All of these tools aim at reducing wastes, of one of several types, as far as
possible.
Some of the tools of lean manufacturing which helps in inventory management and
control are:-
Just In time ( right amount in the right place at right time)
Kaizen ( continuous improvement process)
Kanban (pull production)
Single Piece Flow System
Gemba Walking
Virtual Storage
Lean Manufacturing can be achieved by implementing following tools:
Just in Time Concept:
The basic philosophy behind JIT is that the firm should keep minimum level of inventory
on hand relying on suppliers to furnish ‘stock’ ‘just in time’ as and when required. This is
in direct contrast to the traditional inventory philosophy which emphasizes keeping
sufficient levels of safety stocks to ensure that production will not be interrupted.
Thus JIT system benefits in two ways:-
By reducing the ordering cost. This is attempted by locating inventories supplies in
convenient locations.
By reducing the safety stock . This is attempted by developing a strong relationship
with suppliers and setting up restocking strategies that cut time.
Practical Implementation
Just-in-time is implemented, nearly, at each and every stage of manufacturing/production
in the plant. Stores Department and Fabrication Departments are the main users of this
technique.
While manufacturing switchboards, earlier, for an order of say 1000 items in three
months period, one part of the whole manufacturing was done and than other steps took
place. So, inventory of material used to pile up. Also, the different parts used to lie
scattered here and there.
After implementation of JIT, the process is done such that all the steps are taken
simultaneously. So, material keeps moving. Moreover, provisions are made so that all the
parts of a product are kept together.
Procurement of packing cases is another good example of implementation of JIT
concept in CEASE FIRE . All the finished goods need to be packed in wooden packing
cases (also known as crate packing cases).
There are certain issues related to wooden packing cases:
They are bulky and over-sized.
They have storing constraints.
Dryness of wood up to a specific point is allowed (if the wood gets drier, it
becomes very difficult to pierce nails in it).
So, in order to avoid all these problems, what best can be done is – as soon as the
material is about to complete, the Final Assembly Department informs it to Packing and
Purchase Department. Now, packing and Purchase Department gets ready with their
wooden packing materials, just-in-time as the finished goods are received by them.
RECOMMENDATIONS:
All the workers, especially those who are working in Fabrication
Department, Stores Department and Purchase Department, must be
given proper training regarding the practical implementation of JIT.
Any sort of delay between any two processes should be minimized as far as
possible. Any kind of idle time should not be allowed.
Another point that must be kept in mind is that, right amount of material should
pass from one stage to the other. There is no need to pile-up materials, which are
not going to be used immediately.
Kanban System
The Japanese refer to Kanban as a simple parts-movement system that depends on cards
and boxes/containers to take parts from one work station to another on a production line.
Kanban stands for Kan- card, Ban- signal. The essence of the Kanban concept is that a
supplier or the warehouse should only deliver components to the production line as and
when they are needed, so that there is no storage in the production area. Within this
system, workstations located along production lines only produce/deliver desired
components when they receive a card and an empty container, indicating that more parts
will be needed in production. In case of line interruptions, each work-station will only
produce enough components to fill the container and then stop. In addition, Kanban limits
the amount of inventory in the process by acting as an authorization to produce more
inventory. Since Kanban is a chain process in which orders flow from one process to
another, the production or delivery of components are pulled to the production line. In
contrast to the traditional forecast oriented method where parts are pushed to the line.
The Kanban method described here appears to be very simple. However, this is a "visual
record" procedure.
Figure 8 :- Kanban System
Advantages of Kanban Process
A simple and understandable process
Provides quick and precise information
Low costs associated with the transfer of information
Provides quick response to changes
Limit of over-capacity in processes
Avoids overproduction
Is minimizing waste
Control can be maintained
Delegates responsibility to line workers
"Kanban represents an efficient tool to continuously rationalize the production process
and find the source of problems". Since the circulation of Kanban will stop if there is a
production problem on line, it is easy to both spot and correct the problem
instantaneously.
PRACTICAL IMPLEMENTATION:
Kanban is implemented in Stores Department at CEASE FIRE Faridabad. For this, a
Kanban card is attached with each and every item present in the Stores Department. Each
Kanban carries all the relevant information about the item, which is useful in estimating
its requirements. A typical Kanban card bears following information: