Capital Structure Theories^307
forced to reschedule repayments of its debt by the year 2003 instead of 1995. Nalco's debt-
equity ratio has increased from 1 : 1 to 2.7 : 1.The reasons for Nalco's plight is its decision to
go for the production of aluminium which consumes heavy electricity in addition to alumina.
The problem of power shortage led to the setting up of power plant which is proving very
costly to the company. The overcapacity of aluminium production world wide and highly
competitive prices have added to Nalco's woes. Nalco is trying to get out of its problems by
attempting to diversify into value-added products.Nalco's fate can change if the domestic
demand for aluminium picks up and international prices rise. The mounting debt of the
company poses a question: Should you use heavy dose of debt (since it is available from
certain sources) to finance investments in a business like aluminium which has worldwide over
capacity, fluctuating international prices and expensive and short supply of electricity∑ in the
country in which it is set up? Debt would accentuate the financial crises when a company has
built-in operating uncertaintiesSource: Based on an article by Sudipt Dutta, NALCO: undeR a Debt Mountain, Business India, August
17-30, 1992, pp. 77-78.
Components of Cash Flows
The cash flows should be analysed over a long period of time, which can cover the
various adverse phases, for determining the firm's debt policy.' The cash flow analysis
can be carried out by preparing profoma cash flow statements to show the firm's
financial conditions under adverse conditions such as a recession. The expected cash
flows can be categorised into three groups.
l Operating cash flows
l Non-operating cash flows
l Financial flows.
Operating cash flows relate to the operations of the firm and can be determined from
the projected profit and loss statements The behaviour of sales volume, output price
and input price over the period of analysis should be examined and predicted.
Non-operating cash flows generally include capital expenditures and working capital
changes. During a recessionary period, the firm may have to specially spend for the
promotion of the product. Such expenditures should be included in the non-operating
cash flows. Certain types of capital expenditure cannot be avoided even during most
adverse conditions. They are riecessary to maintain the minimum operating efficiency.
Such irreduciable, minimum capital expenditure should be, clearly identified.
Financial flows include interest, dividends, lease nentals, repayment of debt etc. They
are further divided into: contractual obligations and policy obligations. Contractual
obligations include those financial obligations, like interest, lease rentals and principal