Can anyone summarize the adjustments to NI using indirect method? Is there a simple rule to remember when to add items & when to subtract items from NI? CFA1, Vol 3, Reading 27, Pg 276, Exhibit 9 spells most of them out.
I’m confused why exactly we add current liabilities if it’s a positive change on the b/s… Adding back a decrease in A/R makes sense as we used up cash…
Thanks in advance for the help with this confusing topic!!!
As liabilities increase, it’s a source of cash. ILSC.
For example, if my accounts payable (or liabilities) increase I have paid out less during the year. The amount I have saved is the difference in the accounts payable figure from last year to this year. I am effectively generating an overdraft for myself (I have to pay it back).
If assets increase, then I have (in most cases) bought something, therefore it is a decrease in my cash balance.
Remember:
Sources of cash are, increase liabilities or decrease in an asset.
Use of cash are, decrease in liabilities, or increase in asset.