Chapter 5, Lesson B - Funds Flow Statement

Introduction of the Host
Mrs.Geetha Dasaraty is a commerce graduate with a Masters in Business Administration specialising in finance. Her stint with a Coimbatore based company and later with a consulting firm in Chennai has provided her with a decade of experience in project finance and appraisals, accounting and tax laws. She is a freelance writer and money matters are her forte. She is currently pursuing her final course in Company Secretaryship and is doing a course on Vaishnavism. She has a passion for literature and Carnatic music. She is also a violinist. About the Class
We bring you an online class titled 'Elementary Finance'. This will have 12 lessons - one a month. Each lesson is further subdivided into 4 chapters. And we will give you one new chapter every week.

Chapter 5 Lesson B - Funds Flow Statement

In the previous lesson we dealt with cash flow statements. In this chapter we will get to know about Funds Flow Statements. A balance sheet depicts the financial position of a firm on a particular date. It does not however, show the changes in the balance sheets for two consecutive periods. This analysis is depicted in the Funds flow Statement .A Funds Flow Statement discloses the changes in financial data of balance sheets of two consecutive periods. It is also known as the Statement of Sources and Application of funds.

What is a Fund?

The term fund does not restrict itself to cash alone. It includes working capital as well. Working capital is the difference between current assets and current liabilities. It is a measure of liquidity. Funds flow implies the change in working capital. When a transaction increases the working capital, it is a source of funds and when the transaction reduces the working capital it is an application of funds.

Current Assets and Current Liabilities

Current assets are assets that are converted into cash in the ordinary course of business in the current accounting year. They are cash or near cash resources. Provisions for loss on current assets should be deducted from the asset for working capital purposes. Non -trade investments are current assets but trade investments are not Current Assets.

Non-Current Assets and Non-Current Liabilities
All assets other than current assets are non current assets and all liabilities other than current liabilities are non-current liabilities. Working capital will not be affected if only current assets or current liabilities are involved.

There will be a flow of funds where a transaction involves:
Current assets and non current liabilities
Current assets and non current assets
Current liabilities and non current assets
There will be no flow of funds where a transaction involves:
Non current assets and non current liabilities
Current assets and current liabilities

Objectives of Fund Flow
The main objective of Funds Flow Statement is to show where the funds came from and where they are used.

• Funds flow statement is a good analytical tool for the management to find out how funds are generated from recurring and non recurring assets.
• It is used as a tool to estimate how much funds have to be raised from outside.
• It indicates the increase or decrease in working capital and the reasons for such changes.
• It shows the sources of funds and where they are applied.
• It shows how expansions are financed.

Uses of Funds Flow Statements

• This statement shows the result of operations in cash and hence the profit depicted here is more reliable.
• These statements show the exact inflow of cash and aids proper allocation of resources.
• Based on these statements the concern can decide how much money can be pooled from inside and how much money has to be raised from outside.
• Lending institutions like banks,IDBI etc require the projected funds flow to have an idea of the concern's ability to repay.

Sources of Funds

• Funds from operations:
The main source of funds in a business is the sale of goods. Net profit is the profit after taxes.
To find out the funds from operation:
Take the profit shown in the profit and loss account
Add items that are mere book entries like depreciation, appropriation of profits, dividends or shares, loss on sale of fixed assets.
Deduct profits from transactions like sale of fixed assets like dividend received, profit on sale of fixed assets and appreciation in fixed assets.

• Long-term loans enhance inflow of funds and increase working capital.
• Increase in share capital generates funds, but bonus shares do not result in a generation of funds.
• Sale of fixed assets results in the generation of funds because the cash or accounts receivable is increased.
• Non trading receipts like dividends are also inflows.
• Where the application of funds is greater than the sources it results in a decrease in working capital.

Application or uses of funds.

• Those transactions which reduce working capital are the uses of funds.
• Loss from operations is an application of funds.
• Purchase of fixed assets reduces the current and hence is an application of funds.
• Repayment of long term liabilities like redemption of debentures reduces working capital and hence is an application of funds.
• Dividend payment is an application of funds.
• Redemption of redeemable preference shares reduces working capital and is an application of funds.
• Where the sources of funds are more than the uses of funds the difference is the increase in working capital, which again is an application of funds.

Preparation of Funds Flow Statements.

The first step is to prepare a schedule of changes in working capital has to be prepared.
Schedule of changes in working capital

• An increase in current assets, increases working capital.
• A decrease in current assets, decreases working capital.
• An increase in current liabilities, decreases working capital.
• A decrease in current liabilities, increases working capital.

Funds flow statement.

• A funds flow statement is prepared either in a 'T' form or statement form.
• In the 'T' form the sources of funds appear on the left-hand side and the application of funds appear on the right-hand side.
• When, in a statement form, the sources appear first and the application funds follows.
• The funds flow statement has two headings: Sources of Funds and Application of Funds.
• Find out the funds from operations as indicated above.
• Deduct the application of funds from the above.
• The difference between the two denotes the increase or decrease in working capital.

Questions on Chapter 5 Lesson A
1.What is a cash flow statement and what are its objectives.
2.When does a flow of cash arise?