The funds statement is the link that ties together a business’s balance sheet and its profit and loss statement.

Why can a pest management operation somehow increase turnover, reduce overheads and generate a profit… and still self-destruct? Simply reviewing the balance sheet and profit loss statement separately will not really tell you how this situation has occurred, and here’s why.

The balance sheet shows the assets and liabilities held on a specific date (in Australia this is usually 30th June). Funds come from liabilities or owners’ contributions. Where those funds are employed at that date, are called assets. The balance sheet does not show how or why changes occurred in owners’ equity (sometimes known as shareholders’ funds, that is assets minus liabilities) and therefore the effect those changes had on funds or the cash needs of the pest management business.

A profit and loss statement measures the operating performance (revenue less expenses) over a period of time but it does not show how the result was financed.

Taken together, the two statements that every business generates provide jigsaw pieces of information about the performance and financing of the business. The funds statement is the missing link that ties the two reports together. It supplies the following information and offers a summary of:

  • The financial resources or funds acquired by the business over 12 months
  • How the financial resources or funds were used over 12 months.

How is a funds statement prepared?

We utilise the profit and loss statement and the balance sheet to provide the information.

Firstly, changes in balance sheet items over the 12-month period are analysed to determine if the change in either the asset or liability has created a flow of funds into the business (‘source of funds’) or out of the business (‘use of funds’).

Examples Use of Funds Source of Funds
Increase in inventory ü  
Decrease in inventory   ü
Decrease in creditors ü
Increase in creditors ü
Purchase of asset (e.g. property) ü
Sale of asset (e.g. vehicle) ü
Reduction in loan ü
Increase in loan ü
Increase in cash at bank ü
Increase in overdraft ü

The profit and loss statement is then reviewed to classify items as to whether they involve a source or use of funds.

Examples Use Funds Source of Funds
Sales ü
Payment of wages ü
Interest on deposits ü
Depreciation Nil Nil

Why is depreciation expense, which can be quite large, excluded from the funds statement? That’s because it does not represent a flow of funds that is it is not a cash transaction through the business. Depreciation expense is an accounting entry generated to represent the cost of using an asset. It is not an expense involving cash flow.

Let’s look at an example. To prepare a funds statement you need your profit and loss statement and your balance sheet for the last two years.

Profit & Loss Statement for Going Bust Pest Control
01/07/16 – 30/06/17
Sales $600,000
Less cost of sales $107,000
Gross profit $493,000
Less Overheads:
Wages, rent, power, fuel, etc. $440,000
Depreciation $18,000
Total $458,000
Net profit $35,000
Less tax applicable $8,000
Net Profit After Tax $27,000



Balance Sheet
For Going Bust Pest Control
  30th June 2016 30th June 2017
Current Assets
Bank $55,000 $0
Debtors $30,000 $65,000
Inventory $5,000 $8,000
Total $90,000 $73,000
Fixed Assets
Vehicles $175,000 $280,000*
Less accumulated depreciation ($30,000) ($50,000)
Computers $6,000 $9,000
Less accumulated depreciation ($1,000) ($2,000)
Total Fixed Assets $150,000 $237,000
Total Assets $240,000 $310,000
Current Liabilities
Bank overdraft $0 $60,000
Creditors $25,000 $35,000
Tax provision $12,000 $8,000
Total Liabilities $37,000 $103,000
Long-term Liabilities
Term loan $180,000 $160,000
Total liabilities $217,000 $263,000
Equity $23,000 $47,000

* Additional vehicle purchased at a cost $105,000.

Reviewing the performance of Going Bust Pest Control shows that over the 12 months a profit was made, yet the operation is now suffering a cash flow crisis. It reveals the overdraft and creditors are increasing to keep the business alive. The owner or manager may be concerned about how the creditors and tax bill will be paid and whether a dividend or distribution payment could also be made from the rising level of owners’ equity.

Why has this occurred? A funds statement can show us.

The funds statement for Going Bust Pest Control would be completed as follows:

Funds Statement for Going Bust Pest Control
01/07/16 – 30/06/17
Sources of funds
(Increase in funds)
Inflow of funds from operations
Sales revenue $600,000
Less outflow of funds from operations
Cost of goods sold $107,000
Wages, rent, power, fuel etc. $440,000
Net funds from trading $53,000
Reduction in Assets
Bank balance $115,000
Increase in Liabilities
Trade creditors $10,000
Total net funds in $178,000
Application (or use) of Funds
(decrease in funds)
Increase in Assets
Debtors $35,000
Inventory $3,000
Fixed assets (vehicles & computers) $108,000 + 146,000
Reduction in Liabilities
Term loan $20,000
Tax paid $12,000
Total net funds out $178,000

The funds statement shows that the net funds flow from trading was $53,000. In addition, the company increased its trade creditors and decreased its bank balance, which provided the pest management business with a net source of funds of $178,000 after trading. Where did these funds go?

The application of funds shows the debtors and stock level increased over the two years, requiring the company to apply funds to increase these assets. Also, it purchased additional vehicles and reduced the term loan ­– this necessitated a payment of funds. Finally, having to pay the tax bill for the previous year meant an outflow of funds.

All these factors led to the operation going from cash in the bank in 2016 to running on an overdraft at end of the 2017 financial year.

What strategies could the owner/manager have implemented during the year to prevent or minimise the cash shortage? Perhaps having more control over the level of inventory purchases, controlling debtors, leasing or financing would have been a good start. Delaying the purchase of the vehicle, reducing overheads or restructuring the term loan to more of an interest basis would also have been sensible.

The point is, it’s all too late now. The owner/manager needed a budget and cash flow plan to work to, allowing them to project the likely cash needs of the business to cover tax, asset purchases and other major cash flows like loan repayments as well as the ongoing trading needs of the store before they occurred.

Although the funds statement helps to show how you got to the point you’re at, it doesn’t tell you now what needs to happen now, nor does it project the future. What is required here is a cash flow budget that projects future cash needs.

The funds statement is vital. Remember there is only one reason you can go bust – you run out of cash!

Peter Cox, Peter M Cox & Associates

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