# FRA: Cash Flow Statement - Indirect Method

Hello,

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!!!

-j

Hi,

As assets increase, it uses cash. IAUC

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.

Hope this helps.

Pok

Because if the relationship

Asset = Liabilities + Equities: hold, then Liabilities will always follow a positive sign.

So a decrease in Liability of 5% for example will be +(-5) and an increase in liability of 5% will be +(+5).

Also, if this relationship is expanded further, and we break asset into Cash + Other Assets, then we can write:

Cash + Other Assets = Liabilities + Equities

which means we can also write

Cash = Liabilities + Equities - Other Assets

So it follows that if Other assets which include (recievables, inventories etc changes) then you will have -(Increase or decrease in change)

E.g: If recievables increases by 5% then you will have -(+5) and if recievables decreases by 5% you will have -(-5)

Also, this relationship can even be expanded further into

Cash = Liabilities + Contributed Capital + Revenue - Expenses - Dividend - Other Assets.

From here, you can easily tell how to handle the changes in either of this componenets.