Management Accounting Chapter 4: Fund Flow Statement (FFS) : o o o o o
Management Accounting Chapter 4: Fund Flow Statement (FFS) : o o o o o
Management Accounting Chapter 4: Fund Flow Statement (FFS) : o o o o o
Meaning of Funds
The term ‘funds’ has several meanings. In a narrow sense, ‘funds’ means cash and a funds flow statement is
prepared based upon this premise only. In a broader sense, ‘funds’ is considered to be equivalent to money. In a
popular sense, a fund means working capital. The term working capital is defined as the excess of current assets
over current liabilities.
Gross working capital refers to the total amount a firm invested in current assets,
Net working capital means excess of current assets over current liabilities (Current Assets – Current Liabilities)
Working Capital
We all know that the objects of preparing financial statement with the help of Income statement or, Profit and Loss
Account and Balance Sheet is to supply the financial information to the users of financial statements as far as
possible No doubt, in order to serve such basic objectives, the Income Statement and the Balance Sheet serve very
well.
The Balance Sheet exhibits the financial position at the end of the period through the assets (which show the
development of resources in various types of properties) and liabilities (which present how these resources were
taken).
The Income Statement, on the other hand, measures the results of the operation at the end of the period, i.e., the
change in the owner’s equity as a result of the productive and commercial activities for the period.
Thus, the above two statements are very useful although there are other significant relationship between the two
Balance Sheets (opening and closing accounting periods) on which the conventional above two statements cannot
throw any light further.
For this purpose, it becomes necessary to know what funds are available during the period and application of such
funds along with the profit that has been earned as a result of the business activities. So, in order to know such
changes in the financial position, it is necessary to prepare a statement known as Funds Flow Statement which will
exhibit such financial information to the users of financial statement.
I.C.W.A in Glossary of Management Accounting terms defines funds flow statement as “a statement prospective or
retrospective, setting out the sources and applications of the funds of an enterprise. The purpose of the statement
is to indicate clearly the requirement of funds and how they are proposed to be raised and the efficient utilization
and application of the same.”
Non-current assets. All assets other than current assets come within the category of non-current assets. Such
assets include goodwill, land, building, machinery, furniture, long-term investments, patent rights, trade marks,
debit balance of the profit and Loss Account, discount on issue of shares and debentures, preliminary expenses, etc
Non-current liabilities. All liabilities other than current liabilities come within the category of non-current
liabilities. Such liabilities include Equity share capital Preference share capital, Debentures, Long-term loans, Share
forfeited, Profit and Loss Account (profit), Capital reserve, and Capital redemption reserve
Funds flow statement is not competitive but complementary to financial statements. It provides additional
information regarding changes in working capital, derived from financial statements at two points of time. It is a
tool for management to do financial analysis which is important for decision making.
Difference between Funds Flow Statement and Income Statement are as follows:
1. Funds flow statement highlights the changes in the financial position of a business and indicates the
various means by which funds were obtained during particular period and the ways by which these funds
were employed whereas income statement does not reveal the inflows and outflows of funds but depicts
the items of expenses and income arrived at the figure of profit or loss.
2. Funds flow statement is complementary to income statement. It helps preparation of funds flow statement.
Income statement is not prepared from funds flow statement.
3. While preparing funds flow statement, both capital and revenue items are considered, but for the
preparation of income statement, only revenue items are taken into account.
4. There is no prescribed format for preparing a funds flow statement. But income statement is prepared in a
prescribed format.
The main difference between funds flow statement and balance Sheet are as follows:
1. Funds flow statement is a statement of changes in financial position and, hence, is dynamic in nature. But
Balance Sheet is a statement of financial position on a particular date hence is static in nature.
2. Funds flow statement shows the sources and the uses of funds in a particular period of time, whereas
Balance Sheet depicts the assets and liabilities at a particular point of time.
3. Funds flow statement is a tool of management for financial analysis, which helps making decisions, but
income statement is not of much help to management in decision-making.
4. Usually, a schedule of changes in working capital has to be prepared before preparing funds flow
statement. But no such schedule of changes is required for the preparation of Balance Sheet. Preparation of
balance sheet is preceded by preparation; Profit and Loss Account.
In other words, Fund Flow Statement is an analytical statement prepared for comparative purposes
between two consecutive years.
Management Accounting SGT College, Ballari | Page 4
Meaning of Funds Flow Statement :
Funds flow statement is a statement which discloses the analytical information about the different sources of a
fund and the application of the same in an accounting cycle. It deals with the transactions which change either the
amount of current assets and current liabilities (in the form of decrease or increase in working capital) or fixed
assets, long-term loans including ownership fund.
It gives a clear picture about the movement of funds between the opening and closing dates of the Balance Sheet.
It is also called the Statement of Sources and Applications of Funds, Movement of Funds Statement; Where Got-
Where Gone Statement; Inflow and Outflow of Fund Statement, etc. No doubt, Funds Flow Statement is an
important indicator of financial analysis and control. It is valuable and also helps to determine how the funds are
financed. The financial analyst can evaluate the future flows of a firm on the basis of past data.
This statement supplies an efficient method for the financial manager in order to assess the:
(a) Growth of the firm,
(b) Its resulting financial needs, and
(c) To determine the best way to finance those needs.
In particular, funds flow statements are very useful in planning intermediate and long-term financing.
1. The main purpose of preparing a Funds Flow Statement is that it reveals clearly the important items
relating to sources and applications of funds of fixed assets, long-term loans including capital. It also
informs how far the assets derived from normal activities of business are being utilized properly with
adequate consideration.
2. Secondly, it also reveals how much out of the total funds is being collected by disposing of fixed assets, how
much from issuing shares or debentures, how much from long-term or short-term loans, and how much
from normal operational activities of the business.
3. Thirdly, it also provides the information about the specific utilization of such funds, i.e. how much has been
applied for acquiring fixed assets, how much for repayment of long-term or short-term loans as well as for
payment of tax and dividend etc.
4. Lastly, it helps the management to prepare budgets and formulate the policies that will be adopted for
future operational activities
Since traditional reports (i.e. Income Statement/Profit and Loss Account, and Balance Sheet) are not very
informative, a financial analyst has to depend on some other report - Funds Flow Statement.
In other words, along with the traditional sources of information, some other sources of information are absolutely
required in order to take the challenge offered by modern business.
Funds Flow Statement, caters to the needs of management. This is because a Funds Flow Statement not only
presents the Balance Sheet values for consecutive two years, it also ascertains the changes of working capital -
which is a very important indicator.
It not only reveals the source from which additional working capital has been financed but also, at the same time,
the use of such funds. Moreover, from a projected funds flow statement the management can easily ascertain the
adequacy or inadequacy of working capital, i.e., it helps in decision-making in a number of ways.
1. In the Analysis of Financial Operations : The funds flow statement explains causes for changes and also
the effect of such changes on the liquidity position of the company. Suppose a company may be having
operating profit but still its cash position may be bad. The funds flow statement gives clear answers to this
situation.
2. It Helps to the Formation of a Good Dividend Policy : Sometimes a firm may not be able to distribute the
dividends to its equity shareholders for wanting of liquid cash despite the fact that the firm has made
sufficient profits. The funds flow statement helps the firm in such a circumstance.
3. It Helps in the Proper Allocation of Resources : A projected funds flow statement helps the firm for the
best deployment of the resources available with the firm.
4. It Acts as a Future Guide : A projected funds flow statement helps the company to identify the future
needs of the funds and thereby the company can take necessary initiatives to arrange the funds.
5. It Helps in Determining Working Capital : A funds flow statement helps in explaining how efficiently the
management has used its working capital and also suggests ways to improve the working capital position
of the firm.
6. Highlighting Answers to Various Perplexing Questions : Funds Flow Statement highlights answers of
the following questions:
(i) Causes of changes in Working Capital;
(ii) Whether the firm sells any Non-Current Asset; if sold, how were the proceeds utilized?
(iii) Why smaller amount of dividend is paid in spite of sufficient profit?
(iv) Where did the net profit go?
(v) Was it possible to pay more dividend than the present one?
(vi) Did the firm pay-off its scheduled debts? If so, how, and from what sources?
(vii) Sources of increased Working Capital, etc.
(a) Share-Holders :They are interested in knowing how much is available for the payment of dividend and the
position of their investment in the company.
(b) Short-Term Creditors (including bankers) :They are interested in having an idea of the risk which may be
involved in granting credit to the company.
(c) Management : Management is interested in knowing the trend of different forms of financing and their
utilization so that they can prepare budgets and estimates. They are also interested in knowing whether the
working capital has been properly utilized.
(d) Investors : They are interested in knowing whether any investment can be made in the company and if so,
what should be the expected rate of return.
1. Fund Flow Statement determines the financial consequences of business operations. It shows how the funds
were obtained and used in the past. Financial manager can take corrective actions.
2. The management can formulate its financial policies - dividend, reserve etc. on the basis of the statement.
3. It serves as a control device, when comparing with budgeted figures. The financial manager can take remedial
steps, if there is any deviation.
4. It points out the sound and weak financial position of the enterprise.
6. It enables the Bankers, Creditors or financial institutions in assessing the degree of risk involved in granting
credit to the business.
7. The management can rearrange the firm’s financing more effectively on the basis of the Statement.
8. Various uses of funds can be known and after comparing them with the uses of previous years, improvement or
downfall in the firm can be assessed.
9. The statement compared with the budget concerned will show to what extent the resources of the firm were
used according to plan and what extent the utilization was unplanned.
1. The Statement lacks originality because it is only rearrangement of data appearing in accounts books.
3. It indicates Fund Flow in a summary form and it does not show various changes which take place continuously.
4. When both the aspects of a transaction are current, they are not considered.
5. When both the aspects of a transaction are non-current, even then they are not included in this statement.
7. It is not an original statement but simply a rearrangement of data in the financial statements.
The statement tells about the working capital changes as well. This ensures the availability of working capital for
day-to-day operations of the business.
Helps in generating long-term financing for business : The Fund Flow Statement reveals the actual long-term
financing the business has already pursued. This gives the business an idea of the next long-term financing
prospects to be undertaken.
Easy identification of threat factor in business : The statement reveals all the major categories of funds sources
and application. This helps in easy identification of threats in business funding wherein taking corrective measures
becomes easy.
Helps in future forecasting : The Fund Flow Statement acts as a future guide for business as it depicts the fund
statement for the two consecutive years. Hence, it helps in making future forecasts about funds requirement and
gives an idea of the fund allocation.
Reveals about the exact creditworthiness of the business : This statement reveals the fund utilization of the
business and the availability of funds for paying off the obligations. This showcases the exact creditworthiness of
the business.
The following items do not bring about any change in Working Capital:
i. A shift from one current asset to another current asset by an equal amount or from one current liability
to another current liability by an equal amount
ii. An increase in current assets by a corresponding equal increase in current liabilities;
iii. A decrease in current assets by a corresponding equal decrease in current liabilities;
iv. An increase in non-current assets by a corresponding equal increase in non-current liability
v. A decrease in non-current liability by a corresponding equal increase in non- current liability.
In Simple :
Funds flow statement is a method by which we study changes in the financial position of a business enterprise
between beginning and ending financial statement dates.
Hence, the funds flow statement is prepared by comparing two Balance sheets and, with the help of such, other
information derived from the accounts, as may be needed. The preparation of a funds flow statement consists of
three steps :
1. Schedule of changes in working capital which shows whether there is increase in working capital or
decrease in working capital.
2. Funds from Business Operation or adjusted profit and loss account which exhibits funds from operation
3. Funds flow statement reveals the sources and uses of funds
The following interpretations have to be taken into consideration when schedule of changes in working capital is
prepared.
Note : The amounts which are put in the increase and decrease columns are hypothetical. The value of current
assets and current liabilities may increase or decrease compared to previous year. It is not necessary that items
shown in the increase and decrease columns should always give same effect.
* Treatment of Provision for Taxation : It can be treated as Current liability or as a Non-cash item (depending
upon the adjustments given in the problem)
Illustration 1
From the following details, prepare a schedule of changes in working capital
Rules :
1. Increase in current assets
2. Decrease in current liabilities will result in increase (+) in working capital.
Liabilities
2018 2019
Provision for Taxation Rs. 25000 Rs. 30000
Adjustment
During the year income tax paid is Rs. 8000
Solution :
Provision for taxation Account
To Cash (To be shown in the 8000 By Balance b/d 25000
Application side of FFS - AOS)
To Balance c/d 30000 By Adjusted P&L A/c (B/F) 13000
38000 38000
2. Where provision for taxation is given in the adjustment as tax created or made, or provided, the following
treatment should be given.
Balance Sheet
Liabilities
2018 2019
Provision for Taxation Rs. 20000 Rs. 12000
Adjustment
Provision for taxation was made during the year Rs. 10, 000
Solution :
Provision for taxation Account
To cash (B/F) (To be shown in the 18000 By Balance b/d 20000
Application side of FFS - AOS)
To Balance c/d 12000 By Adjusted P&L A/c 10000
30000 30000
B. Treatment of Depreciation