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What is the difference between the direct method and the indirect method for the statement of cash flows?Main Difference between Direct and Indirect Method of SCF
The main difference between the direct method and the indirect method of presenting the statement of cash flows (SCF) involves the cash flows from operating activities. (There are no differences in the cash flows from investing activities and/or the cash flows from financing activities.)
Under the U.S. reporting rules, a corporation has the option of using either the direct or the indirect method. However, surveys indicate that nearly all large U.S. corporations use the indirect method.
Example of the Indirect Method of SCF
When the indirect method of presenting a corporation's cash flows from operating activities is used, this section of SCF will begin with a corporation's net income. The net income is then followed by the adjustments needed to convert the accrual accounting net income to the cash flows from operating activities. A few of the typical adjustments are:
Adding back depreciation expenseAdding the decrease in accounts receivableDeducting the increase in inventoryDeducting the decrease in accounts payableAdding the increase in accrued expenses payableExample of the Direct Method of SCF
When the direct method of presenting a corporation's cash flows from operating activities is used, the amount of net income is not the starting point. Instead, the direct method lists the cash amounts received and paid by the corporation. Here are a few of the more common descriptions that will be seen under the direct method:
Cash from customersCash paid to employeesCash paid to suppliersCash paid for interest
The direct method also requires a reconciliation of net income to the cash provided by operating activities. (This is done automatically under the indirect method.)
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Related Questions
Is the direct method still used in the statement of cash flows?Why is an increase in inventory shown as a negative amount in the statement of cash flows?What is cash from operating activities?Why is Interest Expense Included in the Operating Activities Section of the Cash Flow Statement?What is a cash cow?Where is interest on a note payable reported on the cash flow statement?
To learn more, see the Related Topics listed below:
Related Topics
Cash Flow Statement
Related Business Forms
Statement of Cash Flows: Corporation, Indirect Method
Statement of Cash Flows: Sole Proprietor, Indirect Method
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About the Author
Harold Averkamp (CPA, MBA) has worked as a university accounting instructor, accountant, and consultant for more than 25 years. He is the sole author of all the materials on AccountingCoach.com
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