Maximum Permissible Bank Finance - MPBF Method for Working Capital (Hindi) - YouTube

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Namashkar, my name is Mukul and welcome to Asset Yogi

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In this video, we'll understand the MPBF method for working capital requirement

The full form of MPBF is Maximum Permissible Bank Finance

Further, there are 2 methods in MPBF

It depends on how the bank does your risk assessment

If we talk about method 1, liberal working capital limit is assigned

If your working capital requirement is less then the bank can go with method 1

In method 2, requirements are a bit stringent

If your working capital limit is more then the bank can choose method 2

Apart from the MPBF method, bank may use the turnover method or the cash budget method for your working capital limit

We already discussed the turnover method in our previous video and we'll discuss cash budget method in the upcoming video

In this video, we'll understand the calculation of the MPBF method

If the bank is using the MPBF method then how the working capital limit will be calculated

Watch this video till the end. Let's switch to the blackboard

To assess the working capital requirement of any business, we already discussed 3 methods

Operating cycle method, Drawing power method, and Turnover method

In this, we'll see the MPBF method which is Maximum Permissible Bank Finance

So the full form of MPBF is Maximum Permissible Bank Finance

And in this, if a working capital limit is to be assigned to a a company by a bank

then first of all, the bank calculates its current assets

then the current liabilities are assessed

In current assets, we already discussed

it includes inventory, i.e raw materials, work in progress, and finished goods

Also, the accounts receivables are included

In current liabilities, creditors are there

if you take credit from your suppliers, then that is included

and generally, there are bank borrowings

This means if you took a loan from a short term bank or there is any working capital liability

So when we calculate MPBF, we dont have to see the total current liabilities

Instead, we have to see total current liabilities

in which you subtract the bank borrowings from the current liabilities

If you took short term loans from the banks for working capital, then you'll subtract that

Basically, we're calculating the total bank finance limit

After that, you'll calculate the working capital gap

How much will it come?

Subtract other current liabilities from the current assets

and your working capital gap will get calculated that how much working capital is required

There are 2 methods of calculating MPBF. Let's understand both one by one

In MPBF method 1, the formula is MPBF = WCG - Margin

Margin is 25% of working capital gap

So whatever working capital gap you'll calculate, you have to put 25% of it from your pocket

That means either those can be the long term funds and bank can finance the rest of it

So in MPBF, bank is assigning the working capital limit

So it is maximum permissible bank finance for working capital

So if we'll calculate it, you'll subtract 25% from the working capital gap

Then it comes 75% working capital

So whatever your working capital is, you can borrow a maximum of 75% of it from the bank

So this was method 1.

Now let's talk about method 2

In this, the formula is MPBF = WCG - Margin

If we focus, the margin is 25% of current assets

In method 1, it was 25% of the working capital gap

But here, the margin will be 25% of the current assets

The value of the currents asset is more than the working capital gap

So in method 2, this is method 2

In method 2, the margin increases and you have to put more money from your pocket

So if the margin will increase, the MPBF will decrease

And in method 1, the bank is more liberal

So the working capital limit is assigned more. Let me write here clearly

Method 1 is liberal and Method 2 is a bit stringent

When the bank finds risk there

and if according to its risk assessment the bank predicts that they'll not get the accounts receivables back easily

because the business is a bit risky

Then generally, they will apply method 2

And if the bank is giving a liberal limit to you because they have confidence in your business

and working capital requirement is also less than maybe they calculate according to method 1

So this was about the bank finance and how much the bank will finance your business

And the margin money about which we're discussing in both the cases

you have to arrange it from long term funds

Whether it's promoter/investor's equity

or you arrange it from the long term debt

A loan for a longer tenure is called long term debt

I have already made many videos on this

You can watch my business loans video in which I discussed all these in detail

Now let's understand one example to clear the concept

Let's say the current assets in your company are worth Rs 5 Cr

So I've written 500 lakhs here so that all the figures will be in lakhs

And let's say the total current liabilities are Rs 150 lakhs

The current assets I am writing here are the total

Basically, the whole stock of finished goods, raw material, or work in progress

and accounts receivables. The current assets are worth Rs 5 Cr adding all these

The total current liabilities are worth Rs 1.5 Cr

And let's say already there is a short term loan of Rs 50 lakhs

any bank advances or you already took Rs 50 lakhs from the cash credit limit

So for other current liabilities (OCL), subtract bank borrowings from the current liabilities

and it will come Rs 100 lakhs

After this, you'll calculate the working capital gap

For that, you'll subtract Rs 100 lakhs from Rs 500 lakhs

As we saw the formula just now. If you will subtract other current liabilities from the current assets

then the working capital gap comes Rs 400 lakhs

Now let's calculate MPBF from method 1

In this case, the margin will be 25% of the working capital gap

So it is 0.25 x 400

So this value came out Rs 100 lakhs, i.e Rs 1 Cr

So the MPBF in the first case is equal to

Working capital gap (400) - Margin (100)

So it is Rs 300 lakhs

So the working capital limit the bank will assign according to method 1

is Rs 300 lakhs

And how much it will be according to method 2?

If we'll calculate the margin in the 2nd case, it will be 25% of the current asset

which is equal to 0.25 x 500

So this value will be Rs 1.25 Cr

Now how much working capital limit will be assigned

You'll subtract the margin money from the working capital gap

So how much does it come?

Rs 275 lakhs

This much working capital limit will be assigned to you

So clearly, as we saw, the first method is liberal

So in this case, the working capital limit you're getting is Rs 3 Cr

and method 2 is a bit stringent

And in this case, you're getting the working capital limit of Rs 275 lakhs, i.e 2.75 Cr

Now let's see the current ratio also

How much will be the current ratio in both the cases

Current ratio = Current assets/current liabilities

So focus here

You'll not take current liabilities as 1.5 Cr here

Now the banking finance you took here and calculated MPBF,

you will calculate the maximum current liabilities according to MPBF

So you'll add the maximum bank finance in the other current liabilities

See, the maximum bank finance can be Rs 300 lakhs

and Rs 50 lakhs are already picked

So now we don't care about it.

We have to see how much maximum bank finance can the company get

So Rs 300 lakhs can be the maximum bank finance. So we'll write it and will add other current liabilities

Current assets will be as it is

So current assets in the numerator (500) divided by the other current liabilities (100) + MPBF (300)

So how much is this ratio? It is 500/400

So it is 1.25

Now let's check in the other case also

We'll do the same in this also. Current assets/Other current liabilities + MPBF in the second case

So the value here will be 500/100 + 275

It came out 1.33

In both cases, the bank is taking a more current ratio

That means the bank is stringent and

they want the ratio of the current assets to be more in comparison with the current liabilities

Hence, the bank wants to reduce its risk

In this case, the bank is liberal and they are ready to give more limit even at a less current ratio

In this way, MPBF is calculated and the working capital limit is assigned

Now it depends on the bank that which method it applies

like we saw the turnover method

So the bank can either use the turnover method or can calculate the working capital limit through MPBF method 1 or 2

In the next video, we'll see how the working capital limit is calculated through cash budget

So do watch the next video as well

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