Introduction to Funds Flow Statement
The main financial statements of business are Balance Sheet and Profit and Loss Account. These financial statements show the financial passions as on a particular date and the profit or loss of the particular period. But these statements do not provide the information about the availability of fund, the sources of fund and where the funds were utilized during the particular period. It is necessary to management to know about the availability of fund, sources of fund and uses of fund for the future planning and decision making. Therefore, a fund flow statement is prepared. Fund flow statement provides the information about availability, sources and uses of fund.
In India, the institute of Charted Accounts has issued Accounting Standard-3 for preparing the statement on the basis of working capital called ‘Statement of Change in Financial Position’. But in March, 1997, the institute of Charted Accounts has issued Accounting Standard-3 (Revised), which is on cash basis and discard the working capital definition of fund. Now, in India it is not compulsory to prepare fund flow statement by Indian companies.
Meaning of Fund
The concept of fund is used in different sense. In border sense the term fund refers to economic value expressed in money measurement. While in a narrow sense fund means only cash and is equivalent. But the most acceptable means of fund is taken net working capital.
Net working capital means difference between current assets and current liabilities. In other words, if current assets of company are more than current liability of business, it is called net working capital.
Meaning of Funds Flow Statement
Flow of fund means movement of fund. I take the example of air; we can feel its movement or flow of air. Same thing is happen with fund, due to the activity of business fund is transfer from one asset to another assets. If fixed assets are converted into current asset or fixed liability is converted into current liabilities, these are the flow of fund.
But if current assets are changed with current assets or current assets are changed into current liabilities, then, there is no flow of fund because there is no change working capital. Suppose, we get the money from debtor, this is not flow of fund because, working capital is not changed. Both items of current assets and when current assets change into current assets, there will not be change in working capital.
Definition of Fund Flow Statement
Thus fund flow statement is a statement which shows where funds come from and in what way they were used and the causes of changes in working capital. In other words it is a statement which shows the changes, inflow or outflow or the movement of fund.
Fund flow statements are known with different names
- Statement of source and uses of funds
- Summary of financial operations
- Movement of working capital statement
- Fund received and distributed statement
- Fund generated and expended statement
Objectives of Fund Flow Statement
Generally the fund flow statement provides the information about the different sources and application of fund during the particular period. The main objectives of fund flow statement are:
- The basic object of preparing the statement is to have a rich into the financial operations of the concern. It analyses how the funds were obtained and used in the past.
- One important object of the statement is that it evaluates the firm’ financing capacity. The analysis of sources of funds reveals how the firm’s financed its development projects in the past i.e., from internal sources or from external sources. It also reveals the rate of growth of the firm.
- To provide the information about the important items like fixed assets, long term loans, capital etc., relating to sources and applications of fund.
- To provide the information about the difference sources of fund, i.e., how much fund is being collected from the issuing shares or debenture, how much from long term or short term loans, how much from disposal of fixed assets and how much from operational activities?
- To help to understand the changes in assets and asset sources which are not readily evident in the income statement or financial statement.
- To inform as to how the loans to the business have been used.
- To point out the financial strengths and weaknesses of the business.
Sources of Fund
Sources of fund are indicated by increase in liability and decrease in assets. The main sources of funds are:
- Fund from operation activities
- Issue of shares capital
- Issue of debentures
- Raising of long term loans
- Receipts from partly paid shares , called up
- Amount received from sales of non current or fixed assets
- Non trading receipts such as dividend received
- Sale of investments ( Long term )
- Decrease in working capital (as per schedule of changes in working capital)
Applications or Uses of Funds
Applications of fund are indicated by decrease in liability and increase in assets. The main uses of funds are:
- Funds lost in operations ( Balance negative in second step )
- Redemption of preference share capital
- Redemption of debentures
- Repayment of long term loans
- Purchase of long term loans
- Purchase of long term investments
- Non trading payments
- Payment of tax
- Payment of dividends
- Increase in working capital (as per schedule of changes in working capital)
Difference Between Fund Flow Statement and Balance Sheet
- Fund Flow Statement shows the changes in working capital between two dates while Balance Sheet shows the financial position of a business on a particular date.
- Fund Flow Statement incorporates items casing change in working capital while Balance Sheet incorporates the balance of real and personal accounts.
- Fund Flow Statement is basically an analytical tool and therefore, it is very good for decision making while Balance Sheet is not an analytical tool and it is simply a summary of assets and liabilities on a particular date.
- Fund Flow Statement is prepared for the use of internal management; hence its publication is obligatory while Balance Sheet is prepared for the use of external parties of the business, hence its publication is mandatory.
Importance of Fund Flow Statement
The fund flow statement provides the information regarding changes in working capital of an organization for a particular period. Therefore, we say that the importances of fund flow are as follows:
- Funds flow statement reveals the net result of operations done by the company during the year.
- In addition to the balance sheet, it serves as an additional reference for many interested parties like creditors, suppliers, government etc. to look into financial position of the company.
- It shows how the funds were raised from various sources and also how those funds were put to use in the business, therefore it is a great tool for management when it wants to know about where and from funds were raised and also how those funds got utilized into the business.
- It reveals the causes for the changes in liabilities and assets between the two balance sheet dates therefore providing a detailed analysis of the balance sheet of the company.
- Funds flow statement helps the management in deciding its future course of plans and also it acts as a control tool for the management.
- Helps in the evaluation of alternative finance and investments plan;
- Investors are able to measure as to how the company has utilized the funds supplied by them and its financial strengths with the aid of funds statements.
- Helps the management of companies to forecast in advance the requirements of additional capital and plan its capital issue accordingly.
- Help in the planning process of a company
- Helps in analysis of financial operations.
- Helps in formulation of realistic dividend policy.
- Helps in proper allocation of resources.
- Helps in appraising the use of working capital.
- It helps knowing the overall creditworthiness of a firm.
Limitation of Fund Flow Statement
The funds flow statement has a number of uses, however it has certain limitations also which are as follows:
- It should be remembered that a funds flow statement is not a substitute of an income statement or a balance sheet. It provides only some additional information as regards changes in working capital.
- It can not reveal continuous changes.
- It is not an original statement but simply, arrangement of data given in the financial statements.
- It is essential historic in nature and projected funds flow statement cannot be prepared.
- Changes in cash are more important and relevant for financial management than the working capital.
- It does not include non-fund transitions.
- It does not disclose changes in management policy regarding investment in current assets and shorter financing.