What is Funds Flow Statement & How to Prepare: Meaning, Objectives, & Examples

What is Funds Flow Statement & How to Prepare: Meaning, Objectives, & Examples

What Is Funds Flow Statement?

A funds flow statement analyzes the factors contributing to changes in a company's financial standing between two account balances. It displays the sources and uses of money for a given period or the influx and outflow of cash. To put it another way, a funds flow statement is created to describe changes to a firm's working capital position. There are two categories of financial inflows:

  • Long-Term Funds raised by the sale of fixed assets, the issuance of bonds, or debentures
  • Money coming in from Operations

Only long-term funding sources can satisfy a company's long-term financial needs. In that situation, a rise in working capital will reflect the total capital generated by operations. However, working capital will shrink if cash flows are insufficient to make up for a shortfall in long-term financial requirements.

Objectives Of The Fund Flow Statement

Why create a fund flow statement when a balance sheet and profit and loss report are already created is a reasonable question. The need arises because the profit and loss statement or the balance sheet cannot sufficiently describe a shift in the financial position.

The balance sheet and the profit and loss account will provide information for the current and previous years or 2 years. It will not, however, explain why the move occurred, for example, the amount to which short-term funds were used for both long-term and short-term needs. Here are the reasons a fund flow statement is generated.

In general, a fund flow statement will provide us with the following two details:

  • Sources of funding - Where the money came from
  • Use of funding - How and where the money has been put to use

Components Of A Fund Flow Statement

A fund flow statement comprises the following:

  • Funding sources: It discusses the amount of money accessed.
  • Owners
  • Outsiders
  • Use of funds: It describes how the available funds have been used.
  • Investments made in Fixed Assets
  • Investments made in current assets

Benefits of Funds Flow Statement

  • Aids in Financial Operations Assessment

Financial Statements (Balance Sheet and Profit and Loss Account) issued for an accounting period reflect the net effect of various business activities on an organization's operational and financial state. The "Balance Sheet" shows the situation regarding a corporate firm's various financial applications and resources as of a specific date. 

In addition to outlining the causes of such changes, the "Funds Flow Statement" study also highlights how those changes have affected the organization's liquidity position. The causes of changes in an organization's assets and liabilities between two periods in time are not highlighted by this, though. The causes of the variations in an organization's assets and liabilities between two periods in time, however, are not highlighted by this.

  • Assists in Developing a Reasonable Dividend Policy

A company may have sufficient income available for dividend distribution in some circumstances, but due to liquidity issues, it may not be a great idea to do so. Analyzing the "Funds Flow Statement" in these situations makes it simpler to formulate an acceptable dividend policy.

  • Assists in the Allocation Of resources Correctly

Any organization's resources are typically limited, so it is up to the organization to make the best and most appropriate use of them. The "Funds Flow Statement" aids management in making smart decisions regarding using or distributing limited resources. 

  • Aids in Enhancing the Use of Capital Assets

The management's effectiveness in utilizing existing "Working Capital" is shown by the Funds Flow Statement. Additionally, it provides recommendations for actions that should be made to enhance the firm's working capital management practices.

  • Aids in Understanding a Company's Overall Credit ratings

One of the most crucial pieces of documentation required by financial institutions and banks (such as Banking Institutions, State Economic Development Corporate entities before giving a loan is a Funds Flow Statement for several years.

It aids them in evaluating the company enterprise's creditworthiness or repayment capacity. Thus, creating a funds flow statement is required of these financial organizations.

Limitations Of The Fund Flow Statement

Fund flow statements have the following primary drawbacks:

  1. Does not serve as a substitute for a balance sheet or income statement. They do not replace both financial statements and accounting records. Extensive data on changes in working capital can be obtained in fund flow statements.
  2. Cannot explain the goal of raising or repaying the money. A money flow statement displays outflows and inflows of cash but offers no information about the reasons for these transactions.
  3. An outcome of an accounting statement. A fund flow statement is only a restructured financial information statement.
  4. Using data from the past. Because fund flow statements are the result of previous financial data and not existing fiscal data, they have a historical character.
  5. It Might be misleading. Fund flow statements can occasionally be misleading when an analyst is unaware of the accuracy and reliability of the data used to calculate them.

Funds Flow Statement vs. Cash Flow Statement Difference

  • Both the fund's flow statement and the cash flow statement are utilized in the examination of individual business transactions. However, as shown below, there are some distinctions between the two: The Accrual System of Accounting underlies the Funds Flow Statement. However, only transactions that impact Cash or Cash alternatives are considered while preparing the Cash Flow Statement.
  • The company's working capital will be affected by the net rise or fall in long-term funds, which are analyzed in the fund's flow statement together with their sources and applications. When computing the Cash Flow of Funds from Operations, the Cash Flow Statement considers changes in current liabilities or assets.
  • For long-term financial planning, a funds flow Statement is more advantageous. An analysis of cash flow is more useful for locating and solving the company's liquidity problems. The Funds Flow Statement totals the money collected from various sources and the many things it is used for. The Cash Flow Statement starts with the Statement Of the financial position of cash and ends with the Closing Balance of Cash.

Bottom Line

In conclusion, a fund flow statement displays how money has been raised and spent across a certain period in a business. Such a statement, therefore, represents a business's cash inflows and outflows.

You can now understand everything there is to know about funds flow statements owing to this article.