Direct and Indirect Methods of Cash Flow

Subject: Finance
Pages: 2
Words: 410
Reading time:
< 1 min

In accounting, a statement of cash flows shows the history of the company’s ingoing and outgoing money operations during a definite time period. This statement shows how changes in accounts and a company’s balance affect cash equivalents, which is essential to determine a company’s creditability.

There are two different ways to create a cash flows statement. A direct cash flow statement starts with cash operating activities: sale of goods and services, cash received from customers, and cash payments to operating expenses, taxes and interests paid. Then cash flows from investing activities are calculated: received dividends and proceeds from the sale of equipment. After cash flows from investing activities are calculated, cash flows from financing activities should be calculated, which are usually limited to dividends paid.

The presentation of indirect and direct cash flow methods is different.

Presentation of direct method:

Cash at beginningxx
Add: cash received from customersxx
Add: interest receivedxx
Less: cash paid to suppliersxx
Less: cash payments of salariesxx
Less: interest paidxx
Add (less) : other adjustmentsxx
Add(less): cash from investing activitiesxx
Add (less) cash from operationsxx
Cash at the end of the yearxx

Presentation of indirect method:

Cash at beginningxx
Net incomexx
Add: non-cash itemsxx
Add: increase in payablesxx
Less: increase in receivablesxx
Add(less): other adjustmentsxx
Add(less): cash from investing activitiesxx
Add(less): cash from financing activitiesxx
Cash at the end of the yearxx

Accountants mainly use the indirect method for a number of reasons. The main reason is that this method considers the operating profit of the company which is not very tedious to calculate since most of the figures are available. The indirect method is tedious considering it will take a number of days to sustain the actual amount paid to customers or received from customers.