Sources and uses of funds

Sources:

a) funds generated by trading operations; cash received from sales net of cash paid out for expenses ( the term cash flow is sometimes given to this amount);

b) funds injected into the business on a long-term basis; issues of shares plus any premium received on issue; debentures and other long-term loans;

c) funds released from long-term applications for use elsewhere in the business; sales of fixed assets such as land, buildings, plants and vehicles; loans to subsidiary companies repaid by them;

d) funds lent to the business on a short-term basis; trade creditors; bank loans and overdrafts; amounts payable to the Inland Revenue; bills of exchange payable.

Uses

a) funds lost in trading operations, i.e. when the payment of expenses exceeds receipts from sales;

b) funds used to acquire permanent assets such as land, buildings, plants, vehicles, fixtures and fittings and long-term investments;

c) funds paid away outside the business to repay debentures and loan stock, or to redeem share capital;

d) funds invested outside the business in loans made to subsidiary companies;

e) funds used to acquire assets of a short-term nature, stocks of material, work in progress and finish goods; trade credit allowed to debtors who have no paid yet for goods sold to them; short-term investments as a temporary repository of idle funds; bills of exchange receivable.

Not that already, with this simple analysis shown above items concerning funds moved into and out of the business on a long-term basis, they are being mixed in with short- term movements, and the source of application of funds from changes in the asset structure.

The funds generated by trading operations can be computed as in sources above, but an alternative method of calculating the same figure is to take the net profit before tax and add back all non-cash costs that have been deducted in the profit calculations. A good example of a cost which has not caused an outflow of cash during the year is depreciation. It is a means of spreading over a period of years the cash spent when a fixed asset was originally purchased. The term cash flow is often used for net profit plus depreciation and any other non-cash costs identified during the year.

If sources exceed uses there will be a balance of cash representing funds provided but not yet put to use in the business.

The ‘capital employed’ acts as a reservoir into which funds flow from four major streams. The funds are then tapped off as a result of managerial decisions to irrigate the five fields, and any funds remaining in the reservoir will be presented by the bank balance. If, however, uses exceed sources, the reservoir will run dry and, unless extra short-term credit can be arranged at short notice, some of the uses will not receive all the funds they need and the business suffer as a result. Funds, like water, can run in different directions, so funds from any source can be used to finance any use, although it is imprudent to use short-term funds to acquire fixed assets, unless long-term funds will be raised to cover the position quickly.

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Discuss the following questions.	\|	III. Word study

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