 # Indirect/Direct conversion 1

To convert an indirect statement of cash flows to a direct basis, the analyst would: A) subtract write-offs of inventory advances from the cost of goods sold. B) add increases in accounts receivables to net sales. C) subtract decreases in inventory from the cost of goods sold. D) subtract decreases in accounts payable from the cost of goods sold. This one too…

Change of Inventory goes along with the Sales and AR Change in the Direct method. Based on the fact that three of the choices go along with Inventory and the Cost of Goods sold – only B is the right answer.

Answer is d: Decreases in accounts payable represent a decrease in cash so these should be subtracted from the negative cost of goods sold figure (i.e. make it more negative). A write-off of inventory (e.g. from applying lower of cost or market) does not represent an actual use of cash, so this amount should be added to the negative cost of goods sold figure (i.e. make it less negative). An increase in accounts receivables represents a cash drain so this should be subtracted from the sales figure. Decreases in inventory represent a source of cash so these would be added to the cost of goods sold figure (i.e. make it less negative).

I think answer should be C…

I was not thinking straight last night. A) subtract write-offs of inventory advances from the cost of goods sold. B) add increases in accounts receivables to net sales. C) subtract decreases in inventory from the cost of goods sold. D) subtract decreases in accounts payable from the cost of goods sold. Inventory advance write off, would be a decrease in inventory. This becomes a source of cash, so it would be added to COGS (which is negative) and make COGS less negative. A is therefore wrong. Increase in AR is a use of Cash. So it would be deducted from Net Sales. B is therefore wrong. Decrease in Inv. is a source of Cash. So it would be ADDED to the already Negative COGS - making it less Negative. This is not very different from Choice A. So C is also wrong. D is right. Decrease is AP is a use of Cash. And it would be subtracted from COGS to make it more negative.