Statement of Cash Flows

Direct Method

Also called income statement method, reports cash receipts and cash disbursements from operating activities and the difference between these two amounts represents the net cash flow from operating activities. This is the equivalent of cash-basis net income. An additional schedule that reconciles net income to net cash provided by operating activities should be attached to the statement of cash flows when using the direct method.

Corporation XYZ, LLC
Statement of Cash Flows
For the Year Ending December 31, 2007
(Direct Method)

Cash flows from operating activities
Cash receipts from customers 2,500
Cash paid for payroll and payroll taxes (850)
Interest earned from an investment 75
Net cash provided by operating activ. 1,725

Cash flows from investing activities
Sale of investment 1,000
Purchase of fixtures and furniture (519)
Net cash provided by investing activ. 481

Cash flows from financing activities
Payment of dividends (600)
Issuance of long-term debt 5, 500
Net cash provided by financing activ. 4,900
Net increase in cash 7,106
Cash at the beginning of the period 2.350
Cash at the end of period 9,456

Non-cash investing and financing activities
Exchange of a truck for common stock 3,780

Indirect Method

The indirect method, in brief, adds back to the net income the non-cash expenses and losses and subtracts the non cash revenues and gains. The indirect method is called the reconciliation method. It reconciles net income for items that did not affect cash but affected reported net income.

Regardless of using the direct or the indirect method the net cash provided by operating activities is the same.

The format suggested under the indirect method is as follows:

Net Income 2,800

Adjustments to reconcile net income to
Net cash provided by operating activities:
Depreciation expense 2,200
Decrease in accounts receivable 4,000
Increase in prepaid expense (1,350)
Increase in accounts payable 8,422
Net cash provided by operating activities 13,272

To determine the Net Cash from Operating Activities, the starting point is net income. To this amount add of subtract as follows (Source: Kieso, Donald E. and Jerry J. Weygandt and Terry D. Warfield Intermediate Accounting Volume II - Page 1220)

Net Income
Additions
Depreciation expense
Amortization of intangibles and deferred charges
Amortization of bond discount
Increase in deferred income tax liability
Loss on investment in common stock using equity method
Loss on sale of plant assets
Loss on write-down of assets
Decrease in receivables
Decrease in inventories
Decrease in prepaid expenses
Increase in accounts payable
Increase in accrued liabilities

Deductions
Amortization of bond premium
Decrease in deferred income tax liability
Income on investment in common stock using equity method
Gain on sale of plant assets
Increase in receivables
Increase in inventories
Increase in prepaid expenses
Increase in accounts payable
Decrease in accrued liabilities

The additions and deductions listed above reconcile net income to net cash flows from operating activities, which justifies the reason for referring to the indirect method as the reconciliation method.