Statement/Schedule of Changes in Working Capital, Relevance of Working Capital Change in Funds Flow

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Sources/inflow − Application/outflow = Change in Working Capital !!

 
 
There are a number of ways working capital can be interpreted. One of those interpretations in terms of Fund Assets and Fund Liabilities is Working Capital = Fund Liabilities − Fund Assets

⇒ Increase in Working Capital = Increase in Fund Liabilities − Increase in Fund Assets
= (Increase in Fund Liabilities or Decrease in Fund Assets)
      − (Increase in Fund Assets or Decrease in Fund Liabilities)

[Since Increase in Liabilities has the same effect as Decrease in Assets and vice versa]

= Sources/Inflow of Funds − Applications/Outflow of Funds

Where Sources/Inflows are greater than Applications/Outflows, there will be a Net increase in Working Capital

Similarly,
Decrease in Working Capital = Decrease in Fund Liabilities − Decrease in Fund Assets
= (Decrease in Fund Liabilities or Increase in Fund Assets)
      − (Decrease in Fund Assets or Increase in Fund Liabilities)

[Since Increase in Liabilities has the same effect as Decrease in Assets and vice versa]

= Applications/Outflow of Funds − Sources/Inflow of Funds
= − (Sources/Inflow of Funds − Applications/Outflow of Funds)

Where Applications/Outflows are greater than Sources/Inflows, there will be a Net decrease in Working Capital

Relevance of Working Capital in Funds Flow

 
 
The following indicate the relationship between Funds and Working Capital.
  • Net Working Capital = Fund Liabilities − Fund Assets
  • Change in Working Capital = Sources/inflow of Funds − Applications/Outflow of Funds
    • Sources/inflow > Applications/Outflow ⇒ Increase in Working Capital
    • Sources/inflow < Applications/Outflow ⇒ Decrease in Working Capital

Changes in Fund Assets and Fund Liabilities need not always bring about a Change in working capital.

• Working Capital Unaffected by Changes in Fund Assets/Liabilities

Where there is a transaction that involves change in a Fund Asset and a similar change in a Fund Liability, the net effect would be zero change in Working Capital. The change in Working Capital on account of a change in the Fund Asset would be set off by a change in the Fund Liability

» Eg: Acquiring a Fixed Asset issuing Shares as Purchase Consideration

Where Land valued at Rs. 25,00,000 is acquired by issuing equity shares in return, there would be an increase in Equity Share Capital (Fund Liability) to the extent of Rs. 25,00,000 and also an increase in the value of Land and Buildings to the extent of Rs. 25,00,000.

Asset Acquired Purchase Consideration paid Net Effect
Dr. Fixed Asset a/c
Cr. Vendor a/c
Dr. Vendor a/c
Cr. Equity Share Capital a/c
Dr. Fixed Asset a/c
Cr. Equity Share Capital a/c

This transaction has no effect on Working Capital.

• Funds Flow only when transactions effect a change in working capital

To emphasise the effect of funds flow on working capital, transactions that do not effect a working capital change are eliminated in analysing funds flow and preparation of Funds Flow Statement.

To bring about a change in the working capital, transactions should involve an account within the fund area and another account within the current area of the balance sheet. Such transactions are commonly identified as Cross transactions.

» Transactions effecting Funds Flow - Cross Transactions

Transactions involving
  1. Fund Asset & Current Asset
    [Purchase of Fixed Assets, Sale of Fixed Assets for Cash]
  2. Fund Asset & Current Liability
    [Purchase of Asset and accepting a Bills Payable for the amount due]
  3. Fund Liability & Current Liability
    [Issuing Debentures to clear the amounts due to Creditors]
  4. Fund Liability & Current Asset
    [Issue of Shares/Debentures for Cash or in exchange of any other Current Asset]

» Transactions not effecting Funds Flow

Transactions involving
  1. Fund Asset & Fund Liability
    [Issue of Shares/Debentures in exchange of Shares/Debentures]
  2. Current Asset & Current Liability
    [Payment made to Creditors]
  3. Fund Liability & Fund Liability
    [Issuing Debentures towards the Preference Shareholders dues]
  4. Fund Asset & Fund Asset
    [Purchasing an Asset by Exchanging an Old Asset]
  5. Current Asset & Current Asset
    [Payment received from Debtors]
  6. Current Liability & Current Liability
    [Bills Accepted by Creditors]

Schedule/Statement of Changes in Working Capital

 
 
The Funds Flow Statement reveals the Net Change in working capital over the period for which the flow is being measured. The information relating to the changes in working capital can also be derived using the information relating to the accounts/items within the Current Area of the Balance Sheet.

A statement presenting the information relating to the changes in the various items/accounts within the current area of the balance sheet is called a "Statement/Schedule of Changes in Working Capital"

• Preparing the Schedule of Changes in Working Capital

Balance Sheet » Hide/Show

Balance Sheet of M/s ___ as on 31st March 2007
LIABILITIES ASSETS
Amount
(Previous)
Particulars Amount Amount
(Current)
Amount
(Previous)
Particulars Amount Amount
(Current)
12,00,000

7,00,000

20,00,000

15,00,000

18,00,000

EQUITY SHARE CAPITAL

PREFERENCE SHARE CAPITAL

RESERVES

a) P/L Appropriation a/c
b) Share Premium
e) General Reserve

LONG TERM LIABILITIES

(1) Loans from Banks
(2) Debentures

CURRENT LIABILITIES/PROVISIONS

(1) Sundry Creditors
(2) Bills Payable
(3) Bank Overdraft
(4) Outstanding Expenses
(7) Provision for Taxation
(8) Provision for Dividends

8,00,000
6,00,000
9,00,000

8,00,000
8,00,000

11,00,000
4,00,000
2,50,000
1,00,000
3,00,000
2,50,000

15,00,000

9,00,000

23,00,000

16,00,000

24,00,000

37,00,000

28,00,000

7,00,000

FIXED ASSETS
(1) Goodwill at Cost
(2) Land and Buildings
(3) Plant and Machinery
(4) Furniture and Fittings
(7) Investments

CURRENT ASSETS

A. LIQUID ASSETS
(1) Cash Balance
(2) Bills Receivable
(3) Sundry debtors
Less: Bad Debt Reserve

B. OTHER CURRENT ASSETS

(1) Stocks/Inventories
(2) Prepaid Expenses

ACCUMULATED LOSSES

1) Miscellaneous Expenses

8,00,000
13,00,000
14,00,000
6,00,000
4,00,000

78,000
8,25,000
12,25,000
(12,000)

12,00,000
2,84,000

45,00,000

36,00,000

6,00,000

72,00,000   87,00,000 72,00,000   87,00,000

Schedule/Statement of Changes in Working Capital for the period from __ to __
Particulars/Account Previous Period Current Period Working Capital Change
Increase Decrease
CURRENT ASSETS
1)
2)
3)

TOTAL

CURRENT LIABILITIES/PROVISIONS
1)
2)
3)

TOTAL

28,00,000

18,00,000

36,00,000

24,00,000

8,00,000

6,00,000

Working Capital 10,00,000 12,00,000 2,00,000

Is Funds Flow analysis meant only for Company form of Organisation?

 
 
Funds flow analysis is meant for analysing the changes in the balance sheet over a period of time. Such an analysis is possible in relation to balance sheets relating to any form of business organisation. Because we come across the item Equity Share Capital in most of the problems and illustrations relating to Funds Flow analysis, it may drive us to the misconception that such an analysis is meant only for company form of organisations.

One major difference we find in analysing balance sheets relating to other forms of business organisation is the absence of Equity Share Capital and Preference Share Capital. Moreover, certain items which are specific to the company form of organisation may not be present in those balance sheets. But for these, there is no difference in analysing Funds Flow for a Corporate entity and a Non-Corporate entity.

Data present in the balance sheet pertaining to any organisation can be identified under the two areas - the Fund Area and the Current Area, which is the basis for the preparation of the Funds Flow Statement and the Statement/Schedule of Changes in Working Capital.

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