Master Drawing Power Calculation to Unlock More Working Capital

India’s entrepreneurial ecosystem is booming, but managing cash flow remains one of the biggest challenges for businesses, especially small and medium-sized enterprises (SMEs). 

Did you know that only 14% of India’s 64 million MSMEs have access to credit? Drawing power is a key concept to help bridge this gap and fuel business growth. Understanding and optimizing your drawing power can make a significant difference if your business relies on working capital or cash credit accounts.

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What is Drawing Power in Business Financing?

Drawing Power (DP) determines how much credit your business can access based on its current assets and liabilities. It's essential for managing cash flow, especially when companies rely on working capital or cash credit accounts.

Key Elements of Drawing Power:

• Inventory: Physical goods or products available for sale.
• Receivables: Amounts owed to the business by customers.
• Creditors: Amounts your business owes to suppliers or other creditors.
• Margin: A percentage applied by the lender to safeguard against asset fluctuations.

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How Does Drawing Power Affect Your Business?

DP shows how much credit you can access. Here’s what the different scenarios mean:

• DP > Loan Balance: You have room to borrow more.
• DP = Loan Balance: Your borrowing capacity is fully used.
• DP < Loan Balance: You risk a margin call, meaning the lender may ask for repayment or additional collateral.

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What is a Cash Credit Account and How is it Linked to DP?

A cash credit account is a short-term borrowing facility provided by banks, where businesses can withdraw funds up to a pre-approved limit based on their drawing power. Unlike term loans, cash credit accounts offer ongoing access to funds for operational expenses.

The cash credit limit is directly tied to your drawing power. If your drawing power is ₹10 lakh, the bank may approve a similar limit for your cash credit account.

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Step-by-Step Guide to Calculating Drawing Power

The formula for calculating drawing power is:

Example:

• Inventory: ₹120 lakhs
• Receivables: ₹75 lakhs
• Creditors: ₹45 lakhs
• Margin: 20% (as applied by banks)

Calculation:

Step-by-Step Breakdown:

1. Total Assets: ₹120 lakhs (inventory) + ₹75 lakhs (receivables) = ₹195 lakhs
2. Margin Calculation: 20% of ₹195 lakhs = ₹39 lakhs
3. Subtract Liabilities: ₹45 lakhs (creditors) + ₹39 lakhs (margin) = ₹84 lakhs
4. Final Drawing Power: ₹195 lakhs – ₹84 lakhs = ₹111 lakhs

This means your company can draw ₹111 lakhs from its sanctioned working capital limit.

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Real Example of Drawing Power Calculation

Here’s how you can calculate your drawing power using stock and debtors:

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Factors That Affect Drawing Power

Drawing power fluctuates primarily due to changes in inventory levels, receivables, and creditors. Here’s how to manage each element effectively:

• Inventory Management: Regularly review inventory turnover to ensure stock levels align with business demand.
• Receivables Optimization: Actively follow up on overdue invoices to accelerate cash inflows.
• Managing Creditors: Maintain strong supplier relationships to negotiate better credit terms.

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Benefits of Drawing Power

• Optimized Cash Flow: Tap into working capital without needing external funds, smoothing out operational expenses.
• Maximized Credit Utilization: Make the most of your available credit by accurately calculating and utilizing your drawing power.
• Lower Interest Costs: Using drawing power linked to stock and receivables reduces reliance on more expensive borrowing options.

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Conclusion

Drawing power is a critical financial tool for businesses. You can maintain healthy cash flow and secure necessary credit by understanding and optimizing your DP. Keep track of your assets and margins to strengthen your financial position.

If you're looking for flexible financing solutions, Recur Club offers structured debt solutions to help high-growth companies scale. 

Talk to us today to understand how we can help your business grow by providing the right financing options. Get started now.