Question

The board of Directors of Suvidha Appliances Ltd. was not able to comprehend why the bank overdraft of ₹5,00,000 has arisen inspite of continuous increase in profits over the last three years. Following information is obtained from the books of the company:

BALANCE SHEET as at 31st March, 2023
Particulars			Note No.	2023 (₹’000)	2022 (₹’000)
I.	Equity & Liabilities:
	(1)	Shareholder’s Funds
		Share Capital		2,500	2,500
		Reserves and Surplus		3,400	3,000
	(2)	Non-Current Liabilities
		Long-term Borrowings	1	400	-
	(3)	Current Liabilities
		Short-term Borrowings	2	500	-
		Trade Payables		1,120	980
		Short-term Provision	3	180	120
				8,100	6,600
II.	Assets:
	(1)	Non Current Assets
		(a) Property, Plant and Equipment and Intangible Assets
		(i) Property, Plant and Equipment	4	5,000	4,700
		(ii) Intangible Assets	5	160	200
	(2)	Current Assets
		Inventory		1,680	800
		Trade Receivables		1,200	500
		Cash Balance		52	390
		Other Current Assets	6	8	10
				8,100	6,600

Notes to Accounts:

		2023 (₹’000)	2022 (₹’000)
1.	Long-term Borrowings:
	Mortgage Loan	400	-
2.	Short-term Borrowings:
	Bank Overdraft	500	-
3.	Short-term Provision:
	Provision for Tax	180	120
4.	Property, Plant and Equipment:
	Plant & Machinery less depreciation	5,000	4,700
5.	Intangible Assets:
	Goodwill	160	200
6.	Other Current Assets:
	Repayment	8	10

Additional Information:

1. Plant & Machinery costing ₹5,00,000 was sold during the year at a loss of ₹2,30,000.
2. Depreciation charged on plant & machinery during the year was ₹4,20,000.
3. Tax paid during the year amounted to ₹1,40,000.
4. Mortgage loan was taken on 1^st July, 2022, @ 15% p.a. Up to date, interest has been paid on the loan.
5. Interim Dividend @ 8% on share capital was paid during the year.

     You are required to prepare a statement for the Board of Directors to show how the overdraft has arisen. Also, give your suggestions to extinguish the overdraft and provide funds for expansion.

Answer 1

Introduction of the Project:

      The project work is to ascertain how the company has an overdraft balance of ₹5,00,000 as at March 31, 2023, and a decrease in Cash balance from ₹3,90,000 on April 1, 2022, to only ₹52,000 on March 31, 2023.

     Necessary data in the form of Balance Sheets as of 31^st March, 2023 and 2022, is provided and used for the purpose of the project work.

     The project work is planned and executed by preparing a cash flow statement to find out the causes of the decrease in cash balance and the evolution of bank overdraft:

CASH FLOW STATEMENT
for the year ended 31st March, 2023
Particulars		Amount (₹’000)	Amount (₹’000)	Amount (₹’000)
A.	Cash flows from Operating Activities:
	Net Profit before Tax (Note 1)		800
	Adjustments For Non-Cash and Non-Operating Items:
	Add: Depreciation	420
	Add: Loss on Sale of Plant & Machinery	230
	Add: Interest on Mortgage Loan	45
	Add: Goodwill Written Off	40	735
	Operating Profit before Working Capital Changes		1,535
	Add: Decrease in Prepayments	2
	Add: Increase in Trade Payables	140	142
			1,677
	Less: Increase in Inventory	880
	Less: Increase in Trade Receivables	700	1,580
			97
	Payment of Tax		(140)
	Net cash used in operating activities		(43)	(43)
B.	Cash flows from Investing Activities:
	Sale of Plant & Machinery		270
	Purchase of Plant & Machinery(3)		(1,220)
	Net cash used in investing activities		(950)	(950)
C.	Cash flows from Financing Activities:
	Raising of Mortgage Loan		400
	Raising of Bank overdraft		500
	Interim Dividend		(200)
	Interest on Mortgage Loan		(45)
	Net cash from financing activities		655	655
Net decrease in cash equivalents				(338)
Add: Cash and cash equivalents at the beginning of the period				390
Add: Cash and cash equivalents at the end of the period				52

Note:
(1)

CALCULATION OF NET PROFIT BEFORE TAX
	Amount (₹’000)
Reserve and Surplus on 31st March, 2023	3,400
Less: Reserve and Surplus on 31st March, 2022	3,000
	400
Add: Provision for Tax(2)	200
Add: Interim Dividend	200
	800

(2)

PROVISION FOR TAX ACCOUNT
Particulars	Amount (₹’000)	Particulars	Amount (₹’000)
To Bank A/c	140	By Balance b/d	120
To Balance c/d	180	By Statement of P & L (Balancing figure, provision made during the year)	200
	320		320

(3)

PLANT & MACHINERY ACCOUNT
Particulars	Amount (₹’000)	Particulars	Amount (₹’000)
To Balance b/d	4,700	By Bank A/c	270
To Bank A/c (Balancing figure, being purchase)	1,220	By Loss on Sale of Plant & Machinery A/c	230
		By Depreciation A/c	420
		By Balance c/d	5,000
	5,920		5,920

PRESENTATION OF INFORMATION:

Causes of a decrease in cash and an increase in bank overdraft:

     Cash flow statement reveals that the leading causes of the decrease in cash balance and increase in bank overdraft are as follows:

1. Purchase of Plant & Machinery: Plant & Machinery has been purchased for ₹12,20,000. For this purpose ₹4,00,000 has been raised through mortgage loan and the balance has been paid from current sources.
2. Increase in Inventory: Inventory has increased by ₹8,80,000. It indicates that quite a lot of funds are blocked in inventory, causing a shortage of cash resources.
3. Increase in Trade Receivables: Trade Receivables have increased by ₹7,00,000. Excessive funds blocked in Trade Receivables cause a shortage of cash resources.

Suggestions:

1. The company should take immediate steps to reduce the inventory level.
2. The company should improve its credit collection service. The business should also look over its credit sales strategy. Before lending money to a customer, it’s important to make sure they can pay it back.
3. Since long-term debts comprise a very small amount of shareholders’ funds, the corporation may grow long-term borrowing to increase its cash reserves.