Estimation of Working Capital 287(a) Cash Credit
It is a running account facility and is extended for a short period, usually not more than 18 months, and the
same is reviewed. It is a pre-sale finance against stock of inventory consisting of raw materials, semi-finished
goods and finished goods of a borrower. This also constitutes the primary security for the bank. The bank
fixes the drawable limit under the cash credit account after application of security margin over the value of
the stock declared in the monthly statement given by the borrower. The security margin is determined at the
time of assessment of working capital, taking into account the margin contribution expected of the borrower.
The borrower is at his liberty to draw funds under the drawable limit, subject to availability of stock and
maintenance of security margin. Withdrawals from the cash credit account are made by means of cheques
issued from the account. The borrower is also required to deposit its sale proceeds into the cash credit ac-
count. Therefore, in a cash credit account, there would be a number of transactions (both debits and credits)
in a single day and the balance outstanding would fluctuate on a day-to-day basis.
The principle advantages of a cash credit account are:
- It enables the borrower to operate the account within the stipulated limit, as and when required.
- It helps the borrower to reduce interest payment by reducing the debit balance in the account as and when
it is able to do so. - The lender can monitor by tracking the debits and credits in the account.
Working Capital Demand Loan (WCDL) Under the cash credit system, by allowing the borrower to draw
and replenish the cash credit account at will, the burden of the borrower’s cash management is thrust on the
bank. Also, on account of the nature of the facility, banks incur a carrying cost, as the funds have to be made
available, irrespective of the borrower utilizing the sanctioned limit or not.
In order to bring some financial discipline and free the banks from having to take care of the borrower’s cash
management, RBI modified the loan delivery system in 1995. Under the new delivery system, wherever the
working capital (fund-based) limits of Rs 10 crore or above were granted to borrowers, it was mandatory to
bifurcate the same into loan component and cash credit component in the ratio of 80:20. The loan component
was designated as ‘WCDL’ as it was repayable on demand, unlike a term loan, which gets paid at the fixed
scheduled points of time.
For fund-based limits below Rs 10 crore RBI did not fix the level of loan and cash credit components,
which may be settled between the bank and the borrower. Banks are also allowed to price cash credit and
demand loan components differentially.
In tune with the liberalization in the financial sector, RBI has since done away with the bifurcation of
working capital limits and has left the decision of loan delivery to individual bank’s discretion. However,
most banks continue to use the bifurcation system in their loan delivery system to borrowers.
Overdraft A form of credit akin to cash credit, it is also a running account facility where the borrower
could remit and draw funds freely, subject to the limit granted. The credit limit is normally granted against
lien/pledge of assets—like government securities, units of mutual funds, shares and debentures, bank’s fixed
deposits. Overdraft facility could be temporary or regular. It may be secured or unsecured. Interest is charged
in the overdraft account based on the debit outstanding at the end of each day, at regular (monthly, quarterly)
intervals. Borrowers are free to repay by means of deposits into the account. They can overdraw again, up to
the sanctioned limit.
Bills They are a means of payment used by companies to finance trade transactions. A bill is an instrument
in writing containing an unconditional order, signed by the maker, directing a certain person to pay a specified