Cash Inflows and Outflows in an Organisation - Essay Example

The indirect method of cash-flow preparation requires a well-established link between the balance sheet and the income statement. The statement users are, therefore, able to systematically and logically view the company’s financial statements. The company’s current assets and liabilities reflected on the balance sheet are easily traced back to its operations summarized in the income statement. The use of indirect methods makes it possible to disclose the company’s non-cash transactions. The statement users are, therefore, in a better position to understand how non-cash transactions are not sources of cash flows but factors of net income.

The direct method is an alternative to the indirect method of cash flows. The company’s cash payments and receipts with detailed categories are disclosed separately when using the direct method. Such a practice can make the financial statement appear clustered. Auditors also tend to ask for an additional reconciliation schedule on cash flows and income from companies using direct methods. However, accounting rule-setting authorities allow companies to use the indirect method by disclosing, in a simpler statement format, changes in current assets and liabilities.

Conclusion As a CFO I would prefer the indirect statement of cash flows method. The indirect method starts by identifying the company's net income or loss. Subsequently, any non-cash expenses, such as depreciation, amortization, loss provision for accounts receivable, and any losses on the sale of a fixed asset, are added back to net income. The indirect cash flow method shows a reconciliation from reported net income to cash provided by operations. The direct method reports cash paid for income tax and interest.

The problem in trying to use the direct method is that a company might not keep the information in the required form.