Question

Which of the following should be added to the net income in calculating net cash flow from operating activities using the indirect method?
a. depreciation expense
b. an increase in inventory
c. a gain on the sale of equipment
d. dividends declared and paid

Answer 1

Answer:

a.

Explanation:

Operating Activities records the cash transactions involved in the operations of the business are recorded under ‘operating activities’ in the cash flow statement.  

Examples: Revenue earned, expenses incurred etc.  

There are two methods to prepare the cash flow statement. The only difference between both the methods is the way of presenting cash flow from operating activities.  

The two methods of presenting cash flow statement are:  

1. Direct method: Operating activities section under direct method reports the amount of cash received and paid by the company during the period.  
2. Indirect method: Operating activities section under indirect method reports the net income and later adjusts the transactions to convert it to cash basis of accounting.  

Depreciation expense is a non-cash operating expense. Thus, it is added back to the net income to derive net cash inflow from operating activities section of the cash flow statement.