THEROTICAL FRAMEWORK

Meaning and Definition of Financial Statement Analysis

The in-depth study and interpretation of the data provided in the Financial Statements’
is known as Financial Analysis. With the help of various items provided in the ‘Profit and Loss
Account’, ‘Balance Sheet’ and other operative data and other strategic relationship, it is
possible to ascertain the financial strength and weaknesses of a company, through the process
of 'Financial Analysis’.
According to Myers, "Financial statements analysis is largely a study of relationship
among the various financial factors in a business as disclosed by single set of and study of the
trend of these factors as shown in a series of statement”.
According to Hampton, "Analysis of financial statement is the process of determining
the significant operating and financial characteristics of a firm from accounting data”.
Therefore, it may be concludes that the Financial Analysis is a systematic in-depth study
of the relationship between a fact revealed through one component and the otter facts
revealed through other components of the Financial Statements, th a view to measuring
Profitability, Operational Efficiency, Solvency, Growth Potentials, etc. of a business organization.
Tools and Techniques of Financial statements analysis
Various tools and techniques are used to analyze the financial statement. Some of the popularly
used tools are as shown:
1. Ratio Analysis
2. Common size statements
3. Comparative statements
4. Trend analysis
5. Cash Flow Analysis/Statement
6. Funds Flow Analysis/Statement

Funds Flow Analysis/Statement:

"Funds Flow Statement' is a statement, which depicts the sources and applications of
funds for a specific time-period. Through the Fund Flow Statement' an analysis with regard to
the changes in the financial position of an organization from the beginning of a time-period to
its end, is undertaken.
Concepts of Funds
In the normal terminology, the meaning of 'Fund' is considered Cash' or ‘Wealth’.
However, in the present context, it is 'Cash’ in short term perspective and ‘Working capital’ in
long term perspective.
The fundamental idea of ‘Funds' constitutes the following components
1) Literal Cash
2) Short-term Monetary Assets
3) Net Monetary Assets
4) Working Capital, and
5) Financial Resources

Meaning and Definition of Funds Flow Statement

According to Foulke, "A statement of sources and application of funds is a technical device
designed to analyze the changes in the financial condition of a business enterprise between two
dates".
‘Funds Flow Statement' is a statement which depicts the flow of working capital/funds
during a specified period of time. The range of variations that has taken place during that
period in working capital is revealed through the statement.
Funds Flow Statement may be defined as a merged statement of the complete range of
"Cross Transactions' (i.e. transactions in which a current account and a non-current accounts
are involved) during the period covered in the preparation/analysis of the flow. Cross
Transactions are responsible for the changes (increase or decrease) in the Working Capital'.
Available funds may go up or down as a result of such transactions.
The statement, which is prepared with a view to ascertaining the inflow (sources) and outflow
(applications) of funds, is known as 'Funds Flow Statement'.
Preparation of Funds Flow Statement
The steps in preparation of funds flow statement as shown below:
1. Working Capital (preparation of schedule of changes in working capital),
2. Computation of funds from operations/adjusted profit & loss account, and
3. Statement of sources and uses (Applications) of funds.

Preparation of Schedule of Changes in Working Capital

 The excess of Current Assets of a business organization over its Current Liabilities is
termed as the Working Capital' of that organization. Management of Working Capital,
therefore, involves managing the Current Assets, and Current Liabilities individually as well as
collectively. Another name for 'Working Capital is "Revolving or Circulating Capital' or ‘Short-
Term Capital’.
Statement of changes in working capital (also known as schedule of changes) is
prepared with a view to providing information regarding the changes having taken place in each
individual item of 'Current Assets' and 'Current Liabilities' and the impact each of them have on
the "Working Capital' (increase or decrease). The total of such increase or decrease is taken to
ascertain the net result, which may either be 'Net Increase' or Net Decrease in "Working
Capital'.
Computation of Funds from Operations
Funds generated out of the core business operations are the sole internal source of
fund. The 'Net Profit' of a business entity needs to be adjusted for all the ‘Non Fund' items or
‘Non-Operating Expenses' and 'Non-Operating Incomes in order to find out the fund from
operations. Such adjustment is carried out by:
1. Preparing an 'Adjusted Profit and Loss Account' or
2. A statement of 'Funds from Operations.

If the two 'Balance Sheets', i.e., at the beginning and the end of a period are available,
the first method is preferred. However, if only Profit and Loss Account is available, the second
method may be adopted.
Statement of Sources and Uses (Applications) of Funds
Funds flow statement is a statement which indicates various sources from which funds
(Working capital) have been obtained during a certain period and the uses or applications to
which these funds have been put during that period. Generally, this statement prepared in two
proforma:
1. Report Form
2. T-Form or Account Form or Self Balancing Type.