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Funds From Operations 

The Funds from Operations in most cases is not equal to the Net Profit revealed by the Profit and Loss a/c. The profits arrived at by taking the Gross Profit and setting off only those charges (adding only those incomes) that are acceptable in Funds Flow Analysis, is what forms the Funds from Operations.
• Methods for finding Funds from Operations
There are three methods available for finding the funds from operations
» Which method to use?
We can use any method of our choice for ascertaining the Funds from Operations.
To use the Direct Method, we should be knowing the figure of Gross Profit. The other two methods are the same. The difference is in the way the information is presented. It would be useful to know both the methods. It would be convenient to learn about these methods through an illustration. 
Funds from Operations » Problem 

From the information provided in the following profit and loss account, find out the Funds from Operations

Funds from Operations » Direct Method 

The P/L a/c is debited and credited with only those items of the actual Profit and Loss a/c that are relevant in Fund Flow analysis i.e. only those items which result in a flow of fund.
• Is it a Source(inflow)/Application(outflow)?
If the Funds From Operations appear on the
The Funds from Operations obtained is included on the relevant side of the Funds Flow Statement depending on what it represents. • Net Profit from Funds from Operations
The Net profit can be obtained from Funds from Operations by preparing the Profit and Loss appropriation a/c. The Net Profit as the residue (balance) after appropriating Funds from Operations.
This second part of the account is not needed to be prepared if we are to calculate only the Funds from operations. » Note
The term appropriation has a different meaning in Financial accounting and Funds flow analysis, the profit and loss appropriation account in both the cases is not the same.
• Why call this the Direct Method?
Since we prepare the account starting with the gross profit, (just like in case of the Profit/Loss account), this method is called the Direct Method.

Funds from Operations » Adjusted Profit and Loss account Method 

Under this method, we make up the Profit and Loss a/c starting with Net Profit. The P/L a/c is debited/credited with only those items of the actual Profit and Loss a/c that are not relevant in Fund Flow analysis i.e. only those items which do not result in a flow of fund. The Funds from Operations is thus obtained as a balancing figure from the account.
This is exactly the same as the second part of the account prepared above, with the Funds From Operations being a figure that is obtained through calculations.
• Is it a Source(inflow)/Application(outflow)?
If the Funds From Operations appear on the
The Funds from Operations obtained is included on the relevant side of the Funds Flow Statement depending on what it represents. • Why call it Adjusted Profit and Loss a/c method?
Since we prepare the account starting with the Net Profit, and find the Funds from Operations by adjusting the appropriations, this method is called the Adjusted Profit and Loss account Method.

Funds from Operations » Add Back Method 

Under this method, we make up a statement starting with Net Profit. This method is exactly the same as the Adjusted Profit and Loss account method, with the only difference being the format in which the information is presented.
• Why is it called the Add Back method?
Since we prepare the account starting from taking net profit, and find the Funds from Operations by adding the appropriations already deducted in arriving at the figure or Net Profit, this method is called the Add Back Method.

Are Funds From Operations Sources (inflows)/Applications (outflows) 

Any change in the Capital a/c or the Profit and Loss Appropriation a/c (Fund accounts) that brings about a change in working capital indicates a Flow of Fund.
• Profits » Inflow/Source of Fund
The Capital a/c or Profit/Loss Appropriation a/c balance increases when there are profits. Both of them represent Fund Liabilities. Increase of a Fund liability amounts to Inflow/Source of Fund.
Thus there will be an inflow of Fund when there are profits. • Loss » Outflow/Application of funds
The Capital a/c or Profit/Loss Appropriation a/c balance decreases when there are losses. Both of them represent Fund Liabilities. Decrease of a Fund liability amounts to Outflow/Application of Fund.
Thus there will be an outflow of Fund when there are losses. • Is Profit and Loss a/c a Current natured Account
The balance in the P/L a/c represents the net balance after accumulating and setting off the balances in the nominal accounts.
Since all nominal accounts have a life span equal to that of the accounting period (which is a year in most cases), we can assume the nominal accounts to be Current natured. Therefore, the net balance of these accounts should also be current natured. Therefore, Profit and Loss account represents a current natured account.
» Profit and Loss a/c ≠ Profit and Loss Appropriation a/c
These are two distinct accounts and the difference between them should be noted clearly. P/L a/c is a nominal account which is closed at the end of the accounting period and P/L Appropriation account is a special nominal account whose balance is carried forward to the subsequent accounting periods.

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