Untitled-29

(^410) Financial Management
Diversion of Short-term Credit to Acquisition of Long-term Assets
A study of 255 companies over the period from 1961-62 to 1966-67 showed a deterioration
in their current ratio and the increase in short-term liabilities was utilised for financing
the gap between long-term assets and long-term liabilities. One-fifth of the gross-fixed
assets of these companies was financed by expansion in short-term liabilities including
the bank loans.
The tendency on the part of a number of industrial units to utilise short-term bank credit
and other current liabilities for acquisition of non-current assets was, in the Group, due
to (a) generally sluggish condition in the capital market since 1962 (b) the limited nature
of the appraisal of applications for short term loans as compared to medium term loans
and (c) stipulation of repayment schedules for medium loans.
Lending System
The Group considered that the lending system, as was prevalent in Indian banking,
would have appear greatly assisted prevalent in Indian banking, would have appear
greatly assisted certain units in industry on increased reliance on short-term debt to
finance their non-current investment. The working capital advances of banks were
granted by way of cash credit limits which were only technically repayable on demand.
The system was found convenient in view of the emphasis placed by banks on the
security aspect. These short-term advances though secured by current assets were not
necessarily utilised for short-term purposes. The result was that cash credit advances
had no longer remained a short-term or self-liquidating in as much as although cash
accruals arising from sales were adjusted in a cash credit account from time to time.
The Group found that on a large number no credit balance emerged or debt balances
fully wiped out over a period of years as the withdrawals were in excess of receipts.
The possibility of heavy reliance on bank credit by industry arose mainly out of the way
in which the system of cash creditówhich accounted for about 70% of total bank
credit had been operated.
Suggestions
The Group was of the opinion that unless measures were taken to check the tendency
for diversion of bank credit for acquiring long term assets, it might assume wider
dimensions. The Group made following suggestions for a change in the lending system.
Method of Appraisal of Credit Applications
The appraisal of credit applications should be made with reference to the total financial
situation, existing and projected, as shown by cash flow analysis and forecasts submitted
by borrowers. This would help a diagnosis of the extent to which current liabilities of
industrial units had been put to non-current use and the manner in which liabilities and
assets of borrowers were likely to move over a period of time. Initially, advances of,