Very often, certain Financial Statements are prepared to help evaluate the past or current operation of a company. The State of Origin and Application of funds allows managers, administrators and those responsible for management to analyze the historical sources and applications of funds.
This State is used to forecast possible risk situations that the company has, but its main objective is focused on the usefulness of evaluating the origin and use of funds in the long term, this knowledge allows the financial manager to better plan the requirements of medium and long-term future funds.
The term funds can be used to designate cash or working capital, and as is known, both are strictly necessary for the proper functioning of the company, the first to pay outstanding accounts and the second for long-term negotiations, the Use of working capital in the preparation of the State of Origin and Application of funds is based on the fact that current assets can be used to pay the current liabilities of the company. The State of Origin and Application of cash provides more detailed information than the State and Origin and Application of working capital.
Classification of origins and box applications:
Cash sources are all those items that increase the company's cash, while Applications are all those items that decrease it.
origins
- Decrease in an asset Increase in a liability Net profit after tax Depreciation and other charges to income that do not require cash payments Sales of shares
In order to clarify how it can be established that a decrease in an asset, which will decrease the cash, gives rise to it, it will be explained that a decrease in cash is the source of it in the sense that if the cash of the company decreases, the Output must apply to a cash utilization.
Applications
- Increase of an asset Decrease of a liability Net loss Dividend payment Re-acquisition or withdrawal of shares
A cash increase is a utilization in the sense that it is being used to increase the company's cash balance and is therefore being consumed.
Actives and pasives:
Increases in assets are applications of funds while decreases in assets give rise to funds, cash is necessary to increase assets and this is generated by the sale of a fixed asset or the collection of an account receivable, as well as we have the opposite case for liabilities, an increase in liabilities is a source of funds and the decreases of these are applications of funds, an increase in a liability represents an increase in financing, which is expected to generate funds, while a decrease in a liability it represents the payment of a debt that requires a cash outlay.
To prepare the Statement of Origin and Application of funds, the income statement of the previous period, a balance of the current period and a balance of the previous period are necessary to use as a basis for comparisons.
Steps for the classification of origins and uses:
The procedure for the classification of the items that give rise to or an application of funds are described below:
- Step 1. Using the oldest period as a basis, calculate balance sheet changes for all accounts or items. Step 2. Classify balance sheet changes for all items, except fixed assets and surplus, such as a Source or an application.. Step 3. Calculate the change in fixed assets. Step 4. Calculate the dividends paid, if they do not appear in the income statement. Step 5. Calculate the change, if any, in the number of shares in force.
Preparation of the state of origin and application of cash:
The State of origin and application is prepared by relating all the origins to the applications, the following aspects must be taken into account:
- Totals for "origins" and "applications" should be the same. Net profit after tax is normally the first source and dividends the first use. Depreciation and increases in fixed assets are listed second for ease of comparison. The origins are listed on the left side of the statement and the applications on the right side. The net change in equity is calculated by adding stock sales or deducting the buyback of shares from the difference between net profit after tax and dividends per box.
Preparation of the state of origin and application of working capital:
The statement of origin and application of working capital is very similar to the statement of origin and application of cash, except that changes in current assets and liabilities are not given separately, instead they are consolidated in a single item which corresponds to the change in working capital.
In the event that current assets increased by less than your current liabilities, the end result will be a source of funds. The increase in current assets, which was a use of funds, was subject to the increase in current liabilities, which is a source of funds.
In conclusion, the statements of origin and application of cash and working capital allow the financial administrator to analyze the past and possibly future cash flows of the company, this will allow him to analyze if changes have occurred in the financial policies of the company, also this Analysis can shed light on whether a project is feasible in the sense that financing is available for the organization's operations.
Theory must be complemented by practice. This is how the applicability and effectiveness of the paradigms in the financial compendium are evaluated.
Practical application of the state of origin and application of funds
It has already been said that the main objective of the state of origin and application is to evaluate the origin and use of funds in the long term, it is based on the premise that current assets can be used to pay the company's current liabilities. The preparation of this statement allows directors and administrators to analyze, plan and implement all the necessary instruments for the investment of future funds in the medium and long term.
Axiom. The term funds is used to designate cash or working capital, the former for paying outstanding accounts and the latter for long-term negotiations.
Preliminary information:
This statement is prepared based on the Balance Sheet and the Income Statement, below are the statements of the ABC company for two years.
Note: For a better understanding of the calculations, the states are presented in the form of a report.
| ABC Company Balance Sheet | ||
| Year 0 | Year 1 | |
| Box | $ 300 | $ 400 |
| Investments | $ 200 | $ 600 |
| Accounts receivable | $ 500 | $ 400 |
| Inventory | $ 800 | $ 500 |
| Payments in advance | $ 100 | $ 100 |
| Total current assets | $ 1,900 | $ 2,000 |
| Net fixed assets | $ 1,000 | $ 1,200 |
| Total assets | $ 2,900 | $ 3,200 |
| Debts to pay | $ 500 | $ 600 |
| Documents to pay | $ 700 | $ 400 |
| Taxes to pay | $ 200 | $ 200 |
| Accumulated liabilities | $ - | $ 400 |
| Total current liabilities | $ 1,400 | $ 1,600 |
| Long term debts | $ 400 | $ 600 |
| Total liabilities | $ 1,800 | $ 2,200 |
| Preferred stock | $ 100 | $ 100 |
| Common actions | $ 500 | $ 300 |
| Capital surplus | $ 500 | $ 600 |
| Total assets | $ 1,100 | $ 1,000 |
| Total liabilities and equity | $ 2,900 | $ 3,200 |
Then:
| ABC Company Income Statement | |
| Year 1 | |
| Sales | $ 1,000 |
| (-) Sales cost | $ 500 |
| Gross profit | $ 500 |
| (-) General expenses and adm. | $ 100 |
| (-) Depreciation | $ 100 |
| Income before taxes | $ 300 |
| (-) Taxes | $ 150 |
| Net profit | $ 150 |
Having the basic financial statements, you start by analyzing the information from the earliest period.
Necessary calculations for the conformation of the state of origin and application:
- Step 1. Balance sheet changes are calculated on all accounts or items. Step 2. Balance sheet changes on all items, except fixed assets and surplus, are classified as a Source or an application like so:
| Classification of changes in the Company's Balance Sheet ABC | ||
| Variation | Classification | |
| Box | $ +100 | TO |
| Investments | $ +400 | TO |
| Accounts receivable | $ -100 | OR |
| Inventory | $ -300 | OR |
| Payments in advance | $ - | - |
| Debts to pay | $ +100 | OR |
| Documents to pay | $ -300 | TO |
| Taxes to pay | $ - | - |
| Accumulated liabilities | $ +400 | OR |
| Long term debts | $ +200 | OR |
| Preferred stock | $ - | - |
| Common actions | $ -200 | TO |
When current assets increase less than current liabilities, the end result will be a source of funds. The increase in current assets, contingent on the increase in current liabilities, is a source of funds.
- Step 3. The change in fixed assets is calculated.
AF change = Net fixed assets period + Depreciation period - Net fixed assets prior period
In this case the fixed asset change will be:
AF change = 1200 + 200 - 1000
AF change = +300
- Step 4. Dividends paid are now calculated, if they do not appear in the income statement.
Dividends = Net profit after tax in the period - surplus at the end of the period + surplus at the end of the previous period
The dividends for the period are:
Dividends = 150 - 600 + 500
Dividends = +50
- Step 5. Finally, the change, if any, in the number of shares in force is calculated, using the following equation:
Change in share capital = Share capital paid in the period - Share capital paid in the previous period - surplus at the end of the period + surplus at the finan of the previous period.
The change in shares for the year is calculated as follows:
Change in share capital = 1000 - 1100 - 600 + 500
Change in share capital = -200
State preparation
Next we prepare the status of origins and application of funds, listing all origins on the left and applications on the right.
| State of origin and application of ABC Company funds | |||
| origins | Applications | ||
| Net profit | $ 150 | Dividends | $ 50 |
| Depreciation | $ 100 | Fixed Assets Increase | $ 300 |
| Decrease Accounts receivable | $ 100 | Increase Cash | $ 100 |
| Inventory decrease | $ 300 | Investment Increase | $ 400 |
| Accounts payable increase | $ 100 | Decrease Documents payable | $ 300 |
| Increase Accrued liabilities | $ 400 | Re-acquisition of shares | $ 200 |
| Long-term debt increase | $ 200 | ||
| TOTAL | $ 1,350 | $ 1,350 |
When finishing preparing the origin and application status, importance should be given to the following highly relevant aspects:
- The total of "origins" and "applications" must be the same during the period. If they are not the same, each of the steps in the formation of the state must be carried out again and the error must be found. Net profits after taxes are normally the first origin and dividends the first use. Depreciation and increases in assets Fixed assets are listed second for ease of comparison. The net change in equity is calculated by adding share sales or deducting the buyback of shares from the difference between net profit after tax and dividends per box.
In the following video, Professor Ana Ma. García Bernabeu, from the Polytechnic University of Valencia, makes a theoretical and practical approach to the state of origin and application of funds. Surely it will be useful for your learning.
Bibliography
Lawrence Gitman's Fundamentals of Financial Management.
