Financially Distressed State of the Company: Flow-Based Financial
Distress
Financial distress occurs when an organization is unable to pay its creditors and lenders. This
condition is more likely when a business is highly leveraged, its per-unit profit level is low, its
breakeven point is high, or its sales are sensitive to economic declines. To get out of the
situation, managers may be forced to sell assets on a rush basis, lend their own money to the
firm, and/or eliminate discretionary expenditures. Another problem is that employees will be
much more likely to look for work elsewhere, so there is a rapid decline in the level of
institutional knowledge within the business. Financial distress is common just before a business
declares bankruptcy. If the level of distress is high, the firm may be forced into immediate
liquidation, rather than attempting to work out a payment schedule with creditors and lenders.
The company is currently facing flow-based financial distress, which occurred due to the
insufficiency of operating cash flow to satisfy the current obligation.
Cash Flow Statement:
2015 2016 2017 2018
Cash received from customers 59,82,38,605 58,29,26,864 60,54,25,503 99,89,23,016
Cash received from financing income 95,07,470 1,07,57,075 1,11,74,830 1,14,97,138
Payment to suppliers, employees and others -64,95,40,187 -41,40,30,664 -90,72,03,353 -97,14,50,470
Cash generated from operation -4,17,94,112 17,96,53,275 -29,06,03,020 3,89,69,684
Financing Cost paid -3,50,35,103 -4,23,47,348 -4,39,22,447 -5,82,77,847
Income tax paid -3,86,20,692 -2,44,29,228 -5,99,21,657 -3,42,20,249
Net cash from operating activities -11,54,49,907 11,28,76,699 -39,44,47,124 -5,35,28,412
Acquisition of property, plant and equipment -2,06,07,200 -1,06,07,854 -2,42,64,518 -1,55,63,775
Net cash from/(used in) investing activities -2,06,07,200 -1,06,07,854 -2,42,64,518 -1,55,63,775
Increase/(Decrease) in Bank Overdraft 12,36,45,852 33,71,937 -20,91,931 2,60,21,401
Increase/(Decrease) in Short Term Borrowings 7,79,08,728 -15,28,38,790 49,78,66,979 5,68,13,772
Share money refund/deposit -80,000 -35,000 -5,000
Other finance-inter company -6,47,86,420 3,69,20,561 -5,41,28,484 -3,21,43,466
Net cash used in financing activities 13,66,88,160 -11,25,81,292 44,16,46,564 5,06,86,707
D. Net increase/(decrease) in cash (A+B+C) 6,31,053 -1,03,12,447 2,29,34,922 -1,84,05,480
E. Cash and cash equivalent at beginning of the year 2,07,66,016 2,13,97,069 1,10,84,622 3,41,99,542
F. Cash and cash equivalent at end of the year 2,13,97,069 1,10,84,622 3,40,19,544 1,57,94,062
Table 1: Cash Flow Statement, Source: Author
The analysis of the cash flow statement divulged that the company’s operating cash flow was
negative in all the years except for the year of 2016, which the company financed by borrowing
short-term loans, which affects some of the income statement and balance sheet items negatives.
Balance Sheet:
Particulars 2015 2016 2017 2018
Property, plant and equipment 46,45,00,897 47,51,08,751 49,93,73,269 51,49,37,045
Investments 6,64,506 6,05,439 7,16,928 7,16,928
Accumulated Depreciation -9,70,32,867 -11,73,85,989 -13,84,44,168 -16,05,11,475
Total Non-current assets 36,81,32,536 35,83,28,201 36,16,46,029 35,51,42,498
Inventories 19,85,17,329 19,19,07,574 11,75,96,205 14,35,22,703
Account Receivables 24,57,15,962 22,51,45,094 35,35,47,200 30,03,23,635
Inventories in transit 11,35,63,617 3,44,46,939 33,69,32,180 37,38,54,439
Inter company receivable 13,13,36,045 9,27,15,484 14,68,43,968 17,89,87,434
Advances, deposits and prepayments 6,65,39,266 7,79,75,122 9,29,97,781 16,98,92,545
Advance Income tax 12,00,36,180 12,91,69,165 18,90,90,822 22,33,11,071
Cash and cash equivalents 2,13,97,069 1,10,84,622 3,41,99,542 1,58,44,062
Total Current assets 89,71,05,468 76,24,44,000 1,27,12,07,698 1,40,57,35,889
Total assets 1,26,52,38,004 1,12,07,72,201 1,63,28,53,727 1,76,08,78,387
Stated capital 55,78,65,000 55,78,65,000 55,78,65,000 61,36,51,500
Retained Earnings 3,37,47,399 4,67,19,426 6,72,13,186 4,58,45,539
Equity attributable to owners of the company 59,16,12,399 60,45,84,426 62,50,78,186 65,94,97,039
Total equity 59,16,12,399 60,45,84,426 62,50,78,186 65,94,97,039
Defferred Tax Liabilities 6,20,69,079 7,73,26,638 7,23,86,073 7,07,97,650
Total Non-current liabilities 6,20,69,079 7,73,26,638 7,23,86,073 7,07,97,650
Short-term borrowings - secured 31,57,58,582 16,29,19,793 66,07,86,774 71,76,00,546
Other Payable 85,20,605 1,01,47,834 78,20,235 80,39,454
Bank overdrafts 21,33,57,184 21,67,29,121 21,46,37,190 24,06,58,591
Workers' Profit Participation Fund 17,32,064 13,67,730 10,29,447 21,88,695
Accounts and other payables 1,58,00,061 92,73,925 75,45,858 75,87,964
share money refundable 1,49,64,500 1,49,29,500 1,49,29,500 1,49,24,500
Inter company payable 17,00,000
Provision for Tax Liabilities/ Current Tax Liability 3,97,23,529 2,34,93,234 2,86,40,469 3,95,83,946
Total Current liabilities 61,15,56,525 43,88,61,137 93,53,89,473 1,03,05,83,696
Total equity and liabilities 1,26,52,38,003 1,12,07,72,201 1,63,28,53,732 1,76,08,78,385
Table 2: Balance Sheet of the company, Source: Author
The proportion of debt to the composition of the capital and financial structure has increased
steeply except for 2016, when the company paid some of its inter-company loan and short-term
borrowings. The increase in liabilities is attributed to meeting the cash requirement of the
company as its operating cash flows are negative. The company will have to continue its
investments, which will cause the cash flow from investment to be negative for the upcoming
years as the company’s accumulated depreciation is rising at a higher rate implying that the
company needs to invest in Property, Plant, and Equipment to meet the production needs.
Altman’s Z-score Model:
The Altman Z-score is a combination of five financial ratios weighted by coefficients that is used
to estimate the likelihood of financial distress. It was developed in 1968 by Edward I. Altman, an
Assistant Professor of Finance at New York University, as a quantitative balance-sheet method
of determining a company’s financial health. The coefficients were estimated by identifying a set
of firms which had declared bankruptcy and then collecting a matched sample of firms which
had survived, with matching by industry and approximate size (assets).
A Z-Score above 2.99 suggests that a company is in the Safe Zone based on the financial figures
only. A Z-Score between 1.8 and 2.99 is in the Grey Zone which suggests there is a good chance
of the company going bankrupt within the next two years of operations. Meanwhile, a Z-Score
below 1.80 is in the Distress Zone which indicates a high probability of distress within this time
period.
Figure 1: Zones of Z-score model, Source:(SCM Roundtable, 2019)
Distress Zone <1.81
Grey Zone >1.81<2.99
Safe Zone >1.81
The Altman Z-score of the company has been calculated using the historical data of the
Deshbandhu Polymer Limited and the components or coefficients of the model.
Particulars 2015 2016 2017 2018
EBIT 92.4 47.3 60.3 54.4
Networking Capital 285.5 323.6 335.8 375.1
Sales 614.6 562.4 733.8 945.7
Total Assets 1,265.2 1,120.7 1,632.8 1,760.7
Book Value of Debt 696.6 529.1 1,028.2 1,135.6
Market Value of Equity 613.652 658.281 1249.62 810.02
Accumulated Retained Earnings 33.7 46.7 67.2 45.8
Ratios:
EBIT/ Assets 0.07303 0.04216 0.03694 0.0309
NWC/ Total Assets 0.22566 0.28875 0.20566 0.21304
Sales/ TA 0.4858 0.50183 0.44942 0.53712
MV/BV 0.88092 1.24415 1.21534 0.7133
RE/TA 0.02664 0.04167 0.04116 0.02601
Alt-Man Z-Score 1.56343 1.79229 1.60494 1.35912
Zone
Table 3: Altman’s Z-score of Deshbandhu Polymer Limited, Source: Author
From the table, it is quite apparent that the company’s Z-score is consistently lies in the danger
or distress zone, which is very alarming for the company, and hence the company should
approach better strategies to deal with the financial distress the company is facing now.
References:
SCM Roundtable. (2019). Supplier Customer Diversity Sensitivity and Resilience. [online]
Available at: https://scmroundtable.com/2016/11/21/supplier-customer-diversity-sensitivity-and-
resilience/ [Accessed 25 Nov. 2019].
Ross, Stephen A., Westerfield, and Jaffe, (2017). Corporate Finance. McGraw. Hill, United
Kingdom: Pearson Education Canada. International Edition.
