Q14-15RQ - Horngren'S Financial And Managerial Accounting

Question

Question: How does the direct method differ from the indirect method when preparing the operating activities section of the statement of cash flows?

Step-by-Step Solution

Answer

Answer

 

The direct method is like a statement of profit and loss whereas, the indirect method uses balance sheet items to get results.

 

Step 1: Direct method

Under the direct method, each item of the statement of profit and loss is picked up and converted into cash basis from an accrual basis. In short, we can say that the direct method of operating activity is the cash income statement.

Step 2: Indirect method

Indirect method starts with net income then each item if picked from current assets and current liabilities to make adjustments to the net income. The very first step of indirect method is to add depreciation, depletion, and amortization expense in the net income.