How banks decide how much Cash Credit / Overdraft finance a business genuinely needs. This guide covers the formula, the operating cycle, every assessment method used in India (Turnover Method, MPBF I & II, Cash Budget, Projected Balance Sheet), a free calculator with graph — explained simply for laymen, students and bankers alike.
📅 Updated: September 2026 • 10 min read
👀 Explain this article to me as a:
1 What is Working Capital?
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Definition
Working capital is the money a business needs to fund its day-to-day operations — buying raw material, holding stock, paying wages and giving credit to customers — well before that money comes back in as sales collections. Working Capital Assessment is the process banks follow to scientifically estimate how much of this gap they should finance.
For a Layman
Think of a small grocery shop. Before selling a single packet, the owner must first buy stock and pay a helper — out of his own pocket or borrowed money. Only later, once goods are sold, does cash return. That "waiting-period money" is working capital, and a bank's job is to work out exactly how much of it the shop genuinely needs to borrow.
For a Student
Gross Working Capital = Total Current Assets. Net Working Capital (NWC) = Current Assets − Current Liabilities. Working Capital Assessment is the credit-appraisal exercise that converts these balance-sheet figures into a sanctioned Cash Credit/Overdraft limit.
For a Banker
Since RBI withdrew the mandatory Tandon Committee prescription in 1997, banks assess working capital under their own Board-approved Loan Policy — typically the Turnover Method for MSME exposures and MPBF/cash-budget/projected-balance-sheet methods for larger accounts — forming a core part of the Credit Appraisal Memorandum (CAM).
A business can be profitable on paper and still fail if it runs out of cash to pay creditors, wages and short-term dues on time — which is exactly why banks treat working capital finance as a distinct, carefully-sized product from term loans.
Why it matters: Fund the gap too little, and the business struggles to operate. Fund it too generously, and idle funds may get diverted — which is why an objective assessment method is essential.
2 Working Capital Formula
At its simplest, working capital is expressed as:
Net Working Capital =
Current Assets− Current Liabilities
A positive NWC means the business funds part of its current assets from long-term sources — exactly the cushion banks look for.
Related: The ratio of these two — Current Assets ÷ Current Liabilities — is the Current Ratio (CR), banking's primary liquidity benchmark, covered in a dedicated companion guide.
3 The Operating Cycle
Working capital exists because of the gap in a business's operating cycle — the time between spending cash and receiving it back:
Cash out (buy raw material) → Production/holding (stock, WIP) → Sale on credit (debtors) → Cash in (collection). The longer this cycle, the more working capital finance a business needs.
For a Layman
It's the time between "spending money to make the thing" and "getting money back from selling it." A tailor who buys cloth, stitches for two weeks, then waits another month to be paid has a much longer cash gap than a shopkeeper who sells for cash on the spot.
For a Student
Operating Cycle (days) = Raw Material holding period + WIP period + Finished Goods holding period + Debtor collection period − Creditor payment period. A longer cycle raises the working-capital requirement for a given turnover.
For a Banker
Operating-cycle length directly drives the "holding levels" (in months) assumed for stock and receivables in a CMA data projection — a key sensitivity a credit officer must sanity-check against the industry norm before accepting a borrower's projections.
4 Methods Banks Use to Assess Working Capital
Indian banks primarily use five approaches, chosen based on the borrower's size and the nature of its business:
Turnover Method
MPBF – Method I
MPBF – Method II
Cash Budget
Proj. Balance Sheet
Nayak Committee (1992) — used for MSME/small borrowers, based purely on projected annual turnover, with no need for elaborate current asset/liability data.
Working Capital Requirement = 25% of Turnover | Borrower's Margin = 5% | MPBF = 20% of Turnover
Banker's Note
Applies to MSME borrowers requiring fund-based working-capital limits up to the bank's prescribed threshold (commonly ₹5 crore) — implies a minimum Current Ratio of ~1.25:1.
Tandon Committee (1975) — Method I. Bank finances 75% of the Working Capital Gap; borrower funds the remaining 25% from long-term sources.
WC Gap = TCA − Other CL | Min. NWC = 25% of Gap | MPBF = 75% of Gap
Tandon Committee — Method II. Stricter: borrower must fund 25% of Total Current Assets itself (not just of the gap) — this fixes the well-known 1.33:1 Current Ratio benchmark.
Min. NWC = 25% of TCA | WC Gap = TCA − Other CL | MPBF = Gap − Min. NWC
Used for seasonal businesses (sugar, tea, construction, contractors) where cash flow is highly uneven through the year rather than steady.
For a Layman
Instead of one fixed yearly number, the bank looks month-by-month at when the business needs more cash (e.g. buying sugarcane at harvest) and when it has surplus — financing only the actual monthly shortfall.
For a Student
A month-wise cash budget (receipts & payments) is prepared for the operating cycle. The peak monthly cash deficit sets the sanctioned limit.
For a Banker
RBI-recommended for seasonal industries and EPC/construction contracts; requires close month-on-month monitoring of projected versus actual cash flow, often with a stepped/seasonal drawing schedule.
Used for large corporates — the bank studies the entire projected Balance Sheet, P&L and Fund Flow rather than current assets/liabilities in isolation.
For a Layman
The bank looks at the company's complete future financial picture — a full health check-up rather than one reading — before deciding how much to lend.
For a Student
Projected statements for 3–5 years are analysed for reasonableness, leverage, liquidity (CR, DSCR) and repayment capacity.
For a Banker
Typically used for large/complex, consortium or multiple-banking accounts, cross-checked against CMA data and rating-agency inputs.
5 Working Capital Calculator (with graph)
Enter your total current assets and current liabilities. The calculator computes Net Working Capital and the Current Ratio instantly, and plots them on the chart below.
Enter figures (₹ in lakh)
Net Working Capital = Current Assets − Current Liabilities. Current Ratio = Current Assets ÷ Current Liabilities.
Your Working Capital
₹50 L
Meets bank benchmark (CR 1.33)
Current Assets—
Current Liabilities—
Net Working Capital—
Current Ratio—
For guidance only. Banks classify current items per their credit policy, which may differ from your books.
Visual Breakdown
How current assets compare with current liabilities, and where your resulting Current Ratio sits on the lending scale.
For MSME borrowers — enter projected annual turnover to instantly estimate Bank Finance under the Nayak Committee formula.
Working Capital Requirement (25%)—
Borrower's Margin (5%)—
Bank Finance / MPBF (20%)—
6 Worked Example
Suppose a trading firm's balance sheet shows the following (₹ in lakh):
Inventory = ₹90, Debtors = ₹70, Cash & bank = ₹40 → Total Current Assets = ₹200
Creditors = ₹80, Cash-credit limit = ₹60, TL instalment due = ₹10 → Total Current Liabilities = ₹150
Net Working Capital = 200 − 150 = ₹50 lakh
Current Ratio = 200 ÷ 150 = 1.33
Under MPBF Method II, with Other Current Liabilities (excluding bank borrowing) of ₹90 lakh: Minimum NWC = 25% × ₹200L = ₹50L; Working Capital Gap = ₹200L − ₹90L = ₹110L; MPBF = ₹110L − ₹50L = ₹60 lakh — matching the firm's actual cash-credit limit in this example.
7 Comparing the Methods
Method
Best Suited For
Data Needed
Turnover Method
MSME / small borrowers
Only projected annual turnover
MPBF Method I
Medium enterprises
Total Current Assets, Other Current Liabilities
MPBF Method II
Medium/large, stricter norm
Total Current Assets, Other Current Liabilities
Cash Budget Method
Seasonal industries, contractors
Month-wise cash receipts & payments
Projected Balance Sheet
Large corporates, consortium lending
Full projected financial statements
Note: RBI withdrew mandatory MPBF prescription in 1997 — banks may sanction the higher, lower, or an internally-validated blend of these methods per their own Loan Policy.
8 Why It Matters for Loans
🛡️ Right-sizes the limit
Ensures the business isn't starved of cash, while protecting the bank from over-financing.
📐 Basis for Drawing Power
The sanctioned limit sets the ceiling; monthly Drawing Power is calculated within it from actual stock & debtor statements.
🔎 Detects fund diversion
A shrinking working-capital margin over time is an early red flag for short-term funds being diverted into fixed assets.
⚖️ Loan covenant
Borrowers are typically required to maintain minimum NWC/Current Ratio levels throughout the currency of the advance.
✓ Key Takeaways
Working Capital Assessment sizes the Cash Credit/OD limit a business genuinely needs to bridge its operating-cycle cash gap.
Turnover Method (MSMEs) needs only projected turnover; MPBF methods (Tandon Committee) use Current Assets & Liabilities.
Disclaimer: This article is for educational purposes only and does not constitute financial or lending advice. Working-capital assessment norms vary by bank, sector and loan type; always refer to your lender's credit policy and current RBI guidelines.