Question

“The statement of cash flow can be presented either in the ‘direct’ or ‘indirect’ methods.” Differentiate both presentation methods. [8 marks]

Answer 1

The Statement of Cash Flow can be presented either in the Direct or Indirect methods.

1. Cash Flows from Investing Activities and 2. Cash Flows from Financing Activities are presented in same manner in both Direct and Indirect Methods of Cash Flow Statements.

Whereas, Presentation of Cash Flows from Operating Activities is the main difference between Direct Method and Indirect Method.

Presesntation of Cash Flow from Operating Activities under Indirect Method:

Under Indirect Method, Presentation of Cash Flow from Operating Activities starts with Net Income or Loss.

Further, subsequent Additions or Deductions are made to the amount of Net Income or Loss to arrive at the amount of Cash Flow From Operating Activities. Such Additions and Deductions are made to convert the Accrual Accounting Net Income or Loss to Cash Flow from Operating Activities.

Types of Additions and Deductions made under Indirect Method:

a. Adding Back Depreciation Expenses

b. Deduction of Gain on Sale of Asset / Equipment

c. Adding Back Loss on Sale of Long Term Investments

d. Adding the Decrease in Accounts Receivables

e. Deduction of the Increase in Inventory

f. Deduction of the Decrease in Accounts Payables

g. Adding the Increase in Outstanding Expenses Payable

Presesntation of Cash Flow from Operating Activities under Direct Method:

Under Direct Method, Presentation of Cash Flows from Operating Activities does not start with Net Income or Loss.

Instead, in Direct Method Cash Amounts Received by the company are Added and Cash Amounts Paid by the company are Deducted to arrive at the amount of Cash Flow From Operating Activities.

Types of Additions and Subtractions made under Direct Method:

a. Adding the Cash Amount Received from Customers

b. Subtracting the Cash Paid for Purchase of Inventories

c. Subtracting the Cash Paid to Suppliers

d. Subtracting the Cash Paid to Employees

e. Subtracting the Cash Paid as Taxes