Working Capital Loan And Cash Credit System

This is at variance with the cash loan system prevalent in various countries whereby the entire amount of loan limit is disbursed in one shot subject to renewal/review at regular intervals.
Besides, in India, credit is considered a scarce commodity and need-based financing is one of the major planks underlying the central bank’s credit policy even in the liberalized regime.
Systematic planning of credit and optimal utilization thereof are considered quite vital.

Working Capital Loan And Cash Credit System

The lending bank may try hard to arrive at a realistic estimate of the working capital requirement of a client company over a certain length of time in future
But the latter has hardly any stake in the accuracy of this exercise so long as the sanctioned limit is set at a sufficiently high level
The profitability of the lending bank may be adversely affected due to such indifference and inefficiency of its clientele.
This is a drawback of the cash credit system

Working Capital Loan And Cash Credit System

Therefore, a banker may be called upon to arrange for large amounts of funds at short or no notice at pre-determined rate of interest.
In such a situation, funds management and financial planning become relatively low priority issues for the borrowers
They can pass on the consequences of inadequate planning and inefficient management on their part to the banking system
The problem may manifest itself in the form of a serious strain on the bank’s cash management system.

Working Capital Loan And Cash Credit System

The borrower has
the option to draw at any point of time, without any prior notice, up to the extent of the limit
but no corresponding obligation either to compensate the banker for this option or to ensure an optimum utilization of the facility at all points of time

Working Capital Loan And Cash Credit System

Interest is payable based on the actual level of loan enjoyed on a daily product basis
Thus, a fixed limit is worked out for any loan account by assessing the customer’s peak requirement on the basis of its projected holding of current asset
Once this limit is set, the borrower becomes virtually entitled to draw, subject to sufficient current asset holding, any amount up to the limit.

Working Capital Loan And Cash Credit System

The drawing power is adjusted at regular intervals (normally once a month) by considering the level of current asset that has been paid for and deducting margin(s) therefrom at stipulated rate(s)
These margins are worked out in line with the lending norms of Tandon Committee.
The amount of loan outstanding can vary freely within the drawing power and at times the balance in the cash credit account can even be in credit

Working Capital Loan And Cash Credit System

Working capital lending still a major functional area for commercial banks
Conventionally, working capital financing in India is in the form of cash credit facility
Under the cash credit system, the lending bank sanctions a maximum loan limit to a customer
Utilisation is subject to availability of adequate assets pledged or hypothecated

Banking in India

Commercial banks in India as universal banks
Comprehensive financial services under one roof
Reserve Bank of India (RBI) regulates the fund-based activities
Securities and Exchange Board of India (SEBI) regulates the fee-based activities.

Process

The creation of a mortgage insurance institution can
accelerate the implementation of prerequisites

The new institution can become an effective agent of change

An incremental approach is required