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What are the differences between the direct and indirect presentation of cash flows? Why does the Financial Accounting Standards Board allow both methods? Which do you prefer? Why?
The Cash Flow Statement has three sections: Cash Flow from Operating Activities, Cash Flows from/for Investment Activities and Cash Flows from/for Financing Activities. The Direct Method is less commonly used than the Indirect Method. [ [ What is the Direct Method? It adds up the cash flows (as opposed to accruals, which the income statement and balance sheet are based upon) in and out of the
business in each of the three areas of Operations, Investments and Financing. The upside to the Direct Method is that it is easy to understand (money in, money out = what's left over), but the downside is that it isn't much help except in tell you what you already know. That is, it tells you some money came in, money came out and you have money left over. The Direct Method is more common in Commonwealth countries (e.g Australia) for some reason, but I'm not sure why. The Indirect Method is the much more common method, which starts with Net Profit (or another profit line item) and then adjusts the balance for non-cash items (e.g. depreciation), changes in balance sheet items (e.g. accounts receivables, accounts payable, inventory). The Indirect Method is less intuitive when looking at it by itself, but is much more helpful when used in conjuction with the income statement and balance sheet. ] ]
Expert answered|nlewis123|Points 40|
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Asked 6/15/2013 8:04:07 AM
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What are the differences between the direct and indirect presentation of cash flows? Why does the Financial Accounting Standards Board allow both methods? Which do you prefer? Why?
Weegy: The statement of cash flows reports cash receipts, cash payments and net changes resulting from operating, investing and financing activities during a period. [ [ Investors and creditors use the information to assess an entity's ability to generate future cash flows, pay dividends and meet debt obligations, and to assess reasons for differences between net income and related cash receipts and payments. Format Sources of cash inflows and outflows in a direct cash flow statement are reported directly without adjustments to net income. Accounts such as sales are converted from accrual basis to cash basis. With an indirect cash flow statement, net income reported is adjusted for revenues and expenses that do not involve cash inflows or outflows, conversion of current liabilities and assets from accrual to cash basis and other items that do not affect cash flows. Clarity Companies favor indirect cash flow statements because they are relatively easy to apply and reconcile the differences between net income and net cash flow provided by operations. Despite being the companies' favorite, investors and creditors prefer direct cash flow statements because they report clearly the sources of cash inflows and cash outflows without the potentially confusing adjustments to net income. Read more: Compare Direct & Indirect Methods on a Cash Flow Statement | eHow.com ] ] (More)
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