Funds Flow and Cash Flow Statements

Funds flow and cash flow statements

The two financial statements so far discussed constitute the traditional format by which information is conveyed about the financial performance and the financial status of the enterprise. The income statement contains details of the financial performance resulting in a figure of net income; the balance sheet provides details of the financial status of the enterprise in the form of a listing of assets and liabilities as at the close of the accounting period.

The purpose of the funds flow statement and the cash flow statement is to provide additional information of interest to users of financial reports. In this respect, the funds flow statement provides a reconciliation between the opening and the closing balance sheets relating to the accounting period by explaining the changes which have occurred and the means by which these changes have been effected. It provides an analysis of the sources of funds available to the enterprise during the accounting period, and an analysis of the manner in which they have been utilized. The funds flow statement integrates the additional funds generated by the enterprise through its income-generating operations as well as external funds supplied during the war. In effect, the funds flow statement explains how changes in the dimensions of the financial status of the enterprise have occurred. By contrast, the cash flow statement has the stricter purpose of explaining the changes in the cash situation of the enterprise during the accounting period.

In this respect, the cash flow statement is more closely associated with the problem of liquidity, and the cash available to the enterprise. For this reason, the cash flow statement is particularly meaningful to users of financial information.

The funds flow statement

According to Jaedicke and Sprouse ( 2014), accounting flows may be classified into three distinct types-income flows, funds flows and cash flows. There are different interpretations given to the term 'funds', which range from a narrow definition identifying 'funds' with 'cash' to an enlarged definition which links funds' to the 'working capital' of the enterprise. The definition of 'funds' adopted in this text is that based on working capital.

The funds flow statement is concerned with the problems of financial management. It is used as a supplementary statement to the income statement and the balance sheet to explain what the firm has done with the additional funds which it has obtained from all sources during the accounting year. he funds flow statement will show, for example, if the firm has applied its income to increasing its holdings of cash or reducing its liabilities, or a mixture of both.

The main sources of funds are as follows:

(1) new capital introduced by the owner

(2) loans to the business

(3) operating income, after adjustment for non-cash expenses -

(4) sale of assets or investments.

The main applications of funds are as follows:

(1) withdrawals by the owner

(2) repayments of loans

I! (3) operating losses, should they occur

(4) purchase of assets or investments

(5) taxation.

In considering funds flow statements, care must be taken to avoid confusion between two fundamental ways in which changes may be measured( One method is based on identifying the flows of the variables involved, and the second on the inventory of those variables.)-The mathematical principle is simply that a change may be quantified either by identifying the sum total of all increases and decreases in funds, or by measuring the difference between the two total-inventories connected by this change. The area it represents the change in the inventory of working capital in the time period covered by the funds flow statement. It may be explained either by: (i) the excess of sources of funds over the uses of funds; or (ii) itemizing the component changes in current assets - current liabilities (CA - CL).

It may be noted that the tax liability existing at 31 December 19X0 was paid during the year ended 31 December 19X1, and that the taxation provision of £10,000 existing at 31 December 19X1 was created out of income. The income for the year amounting to £30,000 represents, therefore, income after provision for taxation.


Interested in the Application of Funds?

Read on: Reporting Recorded Assets Summary

It is necessary to understand the logic and methodology which underlie the recorded values of assets and liabilities in order to appreciate the nature of financial accounting information. A number of conventions surround the problem of valuation of assets and liabilities shown on income statements and balance sheets.

This webpage examines the accounting approach to the valuation of fixed and current assets, and considers the effects of inflation in modifying the historical cost convention for fixed asset valuation. This webpage also illustrates the effects of traditional accounting practices... see: Reporting Recorded Assets Summary