Balance Sheet - Fund Area - Current Area - Working Capital

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Balance Sheet - Fund Area + Current Area

 
 

• Fund

Meaning
  1. Money that is set aside for a particular purpose.
  2. To provide money for paying off the interest or principal of (a debt).
  3. To finance, using long-term debt or Capital.

Synonyms = Finance, Support, Back, Furnish.

• Current

Meaning
  1. Belonging to the present time
  2. Not overdue; occurring this period.

Synonyms = Present, Existing, Recent, In Progress.

Consider the following Balance Sheet with rearranged figures (grouping Fixed Assets and Accumulated Losses).

Balance Sheet

An abridged version would look like this

Fund Area Current Area

• Fund/Current Liabilities/Assets

The Balance Sheet (both the assets side as well as the liabilities side) can be considered of being made up of two areas. The Fund Area and the Current Area. This classification is based on the time. The Current natured (having a life span of less than one year) assets and liabilities form part of the Current Area and the Long term Assets and Liabilities (including owned capital) form part of the Fund Area. Thus we can say that the Balance Sheet is made up of
  • Fund Liabilities
  • Fund Assets
  • Current Liabilities
  • Current Assets

Working Capital - Residue of Current_Area/Fund_Area

 
 

• Working Capital = Current Assets − Current Liabilities/Provisions [Residue of Current Area]

It is assumed that the Current Assets are as far as possible are financed by similar natured (i.e. current natured) liabilities. Only the additional finance/investment needed is derived from long term (Fund) liabilities.
Working Capital = Residue of Current Area
Based on this understanding, Working Capital can be interpreted in two different ways.

Working Capital is

  • Excess of Current Assets over Current Liabilities.

    This interpretation is based on the basic formula for calculating working Capital
    (Working Capital = Current Assets − Current Liabilities).

  • That part of the Current Assets which are not financed by the Current Liabilities.

    This interpretation is based on the fact that every rupee of an asset is financed by a rupee of liability.

• Working Capital = Fund Liabilities − Fund Assets [Residue of Fund Area]

Fund Liabilities are assumed to be invested as far as possible in similar natured (i.e. fund natured) assets. Only the remaining would be invested in Current natured assets.
Working Capital = Residue of Fund Area
Based on this understanding, Working Capital can be interpreted in three different ways.

Working Capital is

  • Excess of Fund Liabilities over Fund Assets.

    This is interpretation is based on the fact that Total Assets = Total Liabilities

    Total Assets = Total Liabilities
    ⇒ Fund Assets + Current Assets = Fund Liabilities + Current Liabilities
    ⇒ Current Assets − Current Liabilities = Fund Liabilities − Fund Assets
    ⇒ Working Capital = Fund Liabilities − Fund Assets

  • That part of the Current Assets financed by the Funds (Fund Liabilities).

    This interpretation is based on the fact that every rupee of an asset is financed by a rupee of liability.

  • That part of the Funds (Fund Liabilities) invested in Current Assets.

    This interpretation is based on the fact that every rupee of a liability is supported by a rupee of an asset.

normal-loss,abnormal-loss,valuation,process,cost,accounting

What additional information is derived from this?

 
 
The identification of the balance sheet as being made up of two areas i.e. the current area and the fund area does not in itself reveal any other quantitative information. It provides only qualitative information which enables us to have a better understanding of the balance sheet items and derive various interpretations for working capital.

This understanding on the two areas of the balance sheet would be most helpful when we start learning about funds flow in the subsequent notes.

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