Accounting Demystified

Indirect Method

The indirect method starts with the notion that the information required by the direct method is not available, so there has to be another way to obtain similar information. If the company used the cash basis of accounting, the cash flows provided by operating activities would be net income. Since the company uses the accrual basis, however, revenues are not the same thing as cash inflows, because some revenue may still be owed (it's in Accounts receivable), and expenses are not the same thing as cash outflows, because some expenses may not have been paid for yet (they are in Accounts payable). If we start with net income, is there a way to adjust net income to approximate the cash inflows and outflows? In other words, can we ...