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Funds Flow Statement
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Basic Terminologies (1/2)
Funds::According to Accounting Standard No.7, the term
Fund generally refers to cash and cash equivalents
Working Capital: There are two concepts of working capital :
Gross working capital
Net working capital
CurrentAssets: ex. Cash, accounts receivable, inventory,
advances recoverable, prepaid expenses etc.
CurrentLiabilities: ex. accounts payable, outstanding
expenses, bank overdrafts, short term loans, advance
payments received, current maturities of long-term loans etc.
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Basic Terminologies (2/2)
Non CurrentAssets: ex. goodwill, land, building, machinery,
furniture, debit balance in P & L account etc.
Non CurrentLiabilities: ex. share capital, long term loans,
debentures, share premium, credit balance in P & L account.
FlowofFunds: Flow of funds will not occur for transactions
involving only Non Current assets or liabilities or only Current
assets or liabilities. Cross transactions involving a fixed asset
or liability and a current asset or liability will result in a flow of
funds.
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Preparation of the Funds Flow
Statement (1/7)
Sources ofFunds
InternalSources: Following adjustments need to be made to the figure of
Net Profit to calculate the funds from operations:
(+)Addthe following items that do not involve funds outflow: Depreciation,
Preliminary expenses or goodwill etc. written off.,
Contribution to debenture redemption fund, transfer to general
reserve etc.,
Provision for taxation and proposed dividend,
Loss on sale of Fixed Asset
(-)Deductthe following as no funds inflow is involved :
Profit on sale of fixed Asset
Profit on revaluation of Fixed Assets
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Preparation of the Funds Flow
Statement (2/7)ExternalSources:
Funds from long term loans : e.g. debentures, borrowings from
financial institutions etc.
Sale of fixed assets : Sale of land, building, long-term investments
will result in generation of funds.
Funds from increase in share capital : Issue of shares for cash or any
other current asset results in increase in working capital and hence
there will be flow of funds.
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Preparation of the Funds Flow
Statement (3/7)
Application offunds:
Purchase of Fixed Assets
Payment of dividend Payment of fixed liabilities
e.g. redemption of debentures or redeemable preference shares.
Payment of tax liability
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Preparation of the Funds Flow
Statement (4/7)
Scheduleforchanges in Working Capital: Funds flow
statement depicts changes in working capital, hence it is
advisable to prepare a schedule for changes in working
capital, which can be done by comparing current assets and
current liabilities for two periods
Rules:
Increase in current assets results in increase in working
capital and vice versa
Increase in current liabilities results in decrease in
current liabilities and vice versa
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Preparation of the Funds Flow
Statement (5/7)Format for Schedule of changes in Working Capital
Item as on as on Change
--- --- Increase Decrease
Current Assets:
CashBank BalanceAccounts receivableStock in tradePrepaid expenses
Current Liabilities:
Bank OverdraftOutstanding ExpensesAccounts payable
Net Increase/ Decrease
in working capital
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Preparation of the Funds Flow
Statement (6/7)Funds FlowStatement
While preparing this statement, current assets and liabilities are to be ignored. Attention is to be given to
changes in fixed assets and fixed liabilities:
A. Sources of funds:
Issue of sharesIssue of debentures
Long term borrowings
Sale of fixed Assets
Operating Profit
B. Application of funds:
Redemption of redeemable preference sharesRedemption of debentures
Payment of other long term loans
Purchase of fixed Assets
Operating loss
Payment of dividends, tax etc.
Net Increase/ decrease in Working Capital ( A-B)
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Q-Comparative Balance sheet of Z Ltd. As on year2000 and 2001 were as follow
LiabilitiesLiabilities 20002000 20012001 AssetsAssets 20002000 20012001
Account payableAccount payable
Notes payableNotes payable
Loan onLoan onMortgageMortgage
CapitalCapital
Sinking fundSinking fund
RetainedRetainedEarningEarning
Provision for DDProvision for DD
AccumulatedAccumulatedDepreciationDepreciation--
BuildingBuilding
furniturefurniture
1500015000
1000010000
4000040000
5000050000
1600016000
1395013950
13501350
1200012000
32003200
161500161500
1800018000
7500075000
4000040000
4500045000
1200012000
1627516275
14251425
90009000
24002400
151600151600
CashCash
AccountAccount
receivablereceivableStockStock
Sinking fundSinking fundinvestmentinvestment
LandLand
BuildingBuilding
FurnitureFurniture
1120011200
21300213003500035000
1600016000
1000010000
600006000080008000
161500161500
85008500
23500235003060030600
1200012000
1000010000
600006000070007000
151600151600
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Additional Information
Net profit for the year 2001 amounted 6675.
Dividend amounted to Rs.5000 was paid during the
year.
Prepare a statement of sources and uses of fund.
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Schedule of Changes in Working Capital
ItemsItems
CURRENR ASSETS:CURRENR ASSETS:--
CashCash
Account receivableAccount receivable
StockStockTOTAL of CA (A)TOTAL of CA (A)
CUURENTCUURENTLIABILITIES:LIABILITIES:--
Account payableAccount payable
Note payableNote payableProvision for DProvision for D DD
TOTAL of CL (B)TOTAL of CL (B)
Difference b/w (ADifference b/w (A--B)B)
Decrease in W CDecrease in W C
20002000
AmountAmount
1120011200
2130021300
3500035000
6750067500
1500015000
100001000013501350
2635026350
4115041150
4115041150
20012001
AmountAmount
85008500
2350023500
30600306006260062600
1800018000
7500750014251425
2692526925
3567535675
54755475
4115041150
Change inChange in
IncreaseIncrease
22002200
25002500
54755475
1017510175
WorkingWorkingcapitalcapital
DecreaseDecrease
27002700
44004400
30003000
7575
1017510175
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Fund flow statement
Sources of fundSources of fund
Sale of sinkingSale of sinkingfund investmentfund investment
Fund fromFund fromoperationoperation
Decrease inDecrease inworking capitalworking capital
AmountAmount
40004000
525525
54755475
1000010000
Application ofApplication offundfund
Redemption ofRedemption ofshare capitalshare capital
Dividend paidDividend paid
AmountAmount
50005000
50005000
1000010000
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Treatment ofProvision for Taxation
ProvisionforTaxation : There are two options available:
Treated as a current liability:When provision for taxation is made,
it involves P & L appropriation account, which is a fixed liability and
Provision for taxation account, which is a current liability, resulting
in a decrease in working capital. On payment of tax, there will be
no change in working capital as it involves one current liability (
Provision for Tax) and one current asset ( Bank or cash ).
It may be taken only as an appropriation of profits: There will beno change in working capital when the provision is made as two
fixed liabilities are involved i.e P & L appropriation account and
Provision for taxation account. However, when taxes are paid, there
is an application of funds as it involves one fixed liability ( Provision
forTax ) and one current asset ( Bank or Cash ).
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Treatment ofProposed Dividends
Proposed Dividends:
May be treated as current liability : It will appear as one of theitems decreasing working capital in the schedule for changes in
working capital. It will not be shown as application of funds whendividend is paid later on.
May be treated as an appropriation of profits : In this case,proposed dividend for the current year will be added back tocurrent years profits in order to find out funds from operations, ifsuch amount of dividend has already been charged to profits.Payment of dividends will be shown as an application of funds.
In case no specific directions are given with regard to the treatment of
these two items, it is advised that assumptions are clearly stated.
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Funds Flow Vs. Income Statement
Fund Flow
Deals with financial resourcesrequired for running thebusiness. Explains how fundswere obtained & used.
Matches funds raised and fundsapplied during a particularperiod. The sources andapplications of funds may becapital or revenue in nature.
Sources of funds are many,besides operations such as sharecapital, debentures, sale of fixedassets etc.
Income Statement
Discloses the result of businessactivities i.e how much hasbeen earned and how it hasbeen spent..
Matches incomes of a periodwith the expenditure of thatperiod, both of which arerevenue in nature.
An income statement whichdiscloses the results ofoperations cannot evenaccurately tell about the fundsfrom operations alone becauseof non-fund items likedepreciation, being included
therein.
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Uses Of Funds Flow Statement
Explains the Financial consequences of business
operations: Helps the financial analyst in advising his employer /client regarding directing of funds to those channels which will be most
profitable for the business.
Acts as an instrument for allocation of resources: The fundsshould be managed in such a way that the business is in a position to
make payment of interest and loan installments as per the agreed
schedule.
It is a test as to the effective or otherwise use of capital:The adequacy or inadequacy of working capital will tell the financial
analyst about the possible steps that the management should take for
effective use of surplus working capital or make arrangements in case
of inadequacy of working capital.
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Cash Flow Statement
Cash flow statement is a statement of
inflows(sources) and outflows(uses) of cash
and cash equivalents in an enterprise during a
specified period of time.
A cash flow statement summarizes the causes
of changes in cash position of a business
enterprise between dates of two balance
sheets.
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Classification
As per Accounting Standard-3, the changes
resulting in cash inflows and cash outflows
arise on account of three types of activities-
1) Cash flow from Operating Activities
2) Cash flow from Operating Activities
3) Cash flow from Financing Activities
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Contd
Cash flow from Operating activities: Operating activitiesare the principal revenue activities of the enterprise. Hence,
these are the results of those transactions and events that
determines the net profit of loss.Examples-
Cash inflows-
Cash sales and cash received from debtors
Cash received from royalty, fees, commission, etcCash Outflows-
Cash purchases and payment to creditors
Payments of taxes, wages, salaries, rent, insurance, etc
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Contd
Cash flows from Investing activities: Investing activitiesinclude the acquisition and disposal of long term assets such
as plan, machinery, furniture, land building, etc.
Examples-Cash Inflows-
Sale of fixed assets
Sale of investments such as shares, debentures
Cash outflows-
Purchase of fixed assets
Purchase of shares, debentures, etc
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Contd
Cash flows from Financing activities: These are theactivities that result in the size and composition of the
owners capital and borrowing of the enterprise.
Examples-Cash Inflows-
Cash receipts from issue of shares, debentures, etc
Cash receipts from loan raised
Cash outflows-
Cash payment for redemption of preference shares and
debentures
Payment of interest and dividends
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Objectives & Uses
The primary objective of CFS is to provide information
regarding the cash receipts and payments of an
enterprise for an accounting period.
In, brief, the cash flow statement serves the following
purposes:Helpful in planning and co-ordination
Useful in Internal Financial management
Payment of dividends
Helpful in short term financial decisions
Explains reason for surplus or shortage of cash
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Difference Between Funds Flow and
Cash Flow
Fund flow statement Cash flow statement
Based on wider concept of fund
(working capital)
Based on narrower concept of
funds (cash)
Based on accrual basis of
accounting.
Based on cash basis of
accounting
Schedule of changes in
working capital is prepared
No such schedule is prepared
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Difference Between Funds Flow and
Cash Flow ( contd)
Fund flow statement Cash flow statement
It reveals the sources and
applications of funds. Netdifference between sources and
uses of funds represents net
increase or decrease in working
capital
It is prepared by classifying all
cash inflows and outflows.Net difference represents net
increase or decrease in cash and
cash equivalents
It is useful in planning
intermediate and long term
financing
It is useful for short term
analysis and cash planning of
the business.