Preparing a Statement of Cash Flow

Learning Objectives

  • Prepare a statement of cash flow using the indirect method

Ok, so let’s put together all of the great stuff we have learned about cash flow! A reminder the indirect method is working from the bottom of the income statement and adjusting it to the cash basis. So we would take the net income, and work from there.

So here is our income statement on the accrual basis:

Income Statement
Month ended 1/31/XX
Accrual Basis
Sales 25000
Rent 1000
Utilities 1000
Supplies 1250
Payroll 5000
Depreciation 4000
Other Expenses 2500

Our net income is $10,250, so we will start there and work up to our cash flow statement

The first step is to add back our depreciation, because that is a non-cash expense!

Net Income 10250
Add: Depreciation (non-cash expense) 4000
Total 14250

This balance will move to the cash flow statement!

The second step is to analyze the net changes in the balance sheet accounts that we discussed earlier. Accounts receivable, accounts payable and the other current assets and liabilities will also affect the cash flow of the company.

So let’s assume the following changes:

1/1/XX 1/31/XX
Accounts Receivable 5000 4000 decrease
Inventory 3000 5000 increase
Accounts payable 2500 3850 increase
Income taxes payable 1000 500 decrease

This information will come in handy in the next step!

So how do these items affect cash? Going back to our chart from our discussion about indirect cash flow analysis we know that:

If the account balance increases If the account balance decreases
Current Assets
Accounts Receivable (money from customers) Subtract Add
Inventory (buy or pay for inventory) Subtract Add
Prepaid expenses (insurance) Subtract Add
Current Liabilities
Accounts Payable (pay your bills) Add Subtract
Accrued Liabilities (payroll) Add Subtract
Income taxes payable (tax payments) Add Subtract

So, here is the final deal!

Cash Flow Statement: Operating Activities-Indirect Method

1/1/XX 1/31/XX
Accounts receivable $5,000 $4,000 decrease
Inventory $3,000 $5,000 increase
Accounts payable $2,500 $3,850 increase
Income taxes payable $1,000 $500 decrease
Beginning cash $14,250
Decrease in accounts receivable $1,000 increase cash
Increase in inventory ($2,000) decrease cash
Increase in accounts payable $1,350 increase cash
Decrease in income tax payable ($500) decrease cash
Net change in cash ($150)
Ending cash $14,100

So the income statement and balance sheet only show part of the picture. A company can have awesome sales, but if they struggle to collect on their accounts receivable, they may have issues with their cash flow! It is important as a manager to look at the big picture, in order to find ways to increase profits and create a positive cash flow!

Practice Questions