Question

list the steps need to prepare the Cash Flow Statement using the Indirect Method. Which step of the process do you think is the most important? Why?

Answer 1

The most important part in making a Cash Flow statement(CFS) using indirect method is preparing Cash Flow operating activities. The rest is same as Direct method, so no need to discuss the Cash flow from Investing activities and Cash flow from Financing activities

Here is steps while making CFS using Indirect method:

1. We have to start with Net profit before Tax, now we have to eliminate the non-cash items from this Net profit which has been recorded in the profit & Loss A/c like Depreciation or profit/loss on sale of asset so that we can get onto next step.

2. The starting point of next step mentioned above is Operating profit before working Capital changes, this operating profit is calculated by eliminating the non-cash items.

3. After that we have to add: Net decrease in current Assets & Net Increase in current Liabilities then Less:Net Increase in Current Assets & Net decrease in current Liabilities. The explanation behind this is very simple e.g. if a current assets(Accounts receivable) decreases it means that we have received cash that is why we add the same and similarly if if the same current asset increases then it means that cash is blocked which is why we deduct the same.

4. After all these adjustments we get the Cash flow from Operating activities.

All the above steps are important and all are required to prepare the CFS, but the most important is (as we can see) calculating Cash flow from Operating activities. And in this also most important is to make adjustments and finding out Operating profit before working Capital changes.