What are Funds From Operations?

All the nominal accounts representing the incomes and expenses relating to the operations of the business are closes at the end of the accounting period by transfer to the profit and loss account. Profit and loss account has a credit balance when there are profits and is closed by transfer to the capital account.

The transfer of profit to the capital account would result in the capital account being credited and thereby increasing the existing credit balance in that account which indicates an increase in capital.

Thus, we say that operations result in profits which increase capital.

The opposing idea that operations result in losses which decreases capital is equivalently true.

There are many transactions taking place in the day to day business operations, which in most cases affects nominal accounts.

Transactions involving nominal accounts can be considered to be cross transactions when they are related to expenses and incomes. All transactions involving expenses and incomes being cross transactions would bring about a change in working capital (fund).

Since, assessing the impact of each and every such transaction on working capital, would involve a laborious work and would not be of much use in analysing working capital changes or funds flow we consider the consolidated view of all such transactions.

Funds from operations represent the change in working capital (fund) brought about by the business operations or transactions involving nominal accounts which represent expenses and incomes.

Where there are no transactions representing appropriations, adjustments, losses, gains in the transactions involving nominal accounts, funds from operations would be nothing but the Net Profit as revealed by the profit and loss account.

Though this is theoretically possible, it would not be so in most cases as we find losses like depreciation in most cases.

By Net Profit we mean the net balance as revealed by the profit and loss account which may be a profit/loss.