Definition
ASC 230 requires operating cash flows to be reported using either method. The direct method shows major classes of gross cash receipts and payments, such as cash from customers and cash paid to suppliers and employees. The indirect method starts with net income and adjusts for noncash items (depreciation, impairments), gains and losses reported elsewhere, and changes in working capital. The FASB encourages the direct method, but most entities use the indirect. If the direct method is used, a reconciliation of net income to operating cash flow is also required. An entity using the indirect method discloses interest paid and income taxes paid.
Why it matters in an audit or review
Auditors tie the cash flow statement to the balance sheet and income statement, check classification (operating, investing, financing), and ensure noncash transactions are disclosed separately. Common problem areas are debt proceeds, finance leases, restricted cash, and acquisitions.
Example
(Illustrative) Net income $200,000; depreciation $50,000; receivables increase $30,000; payables increase $10,000.
Operating cash flow = 200,000 + 50,000 - 30,000 + 10,000 = $230,000.
Common mistakes
- Reversing the sign of working capital changes.
- Omitting restricted cash from the cash total.
FAQ
Does the indirect method change cash?
No. Both methods yield the same operating cash flow; only presentation differs.
Sources
- FASB ASC 230-10-45, Statement of Cash Flows, operating activities and the direct and indirect methods
- FASB ASC 230-10-50, Statement of Cash Flows, disclosures
- FASB ASU 2016-18, Restricted Cash
Definitions paraphrase AICPA and FASB guidance; read the standard itself before relying on a requirement. Example figures are illustrative. This page is guidance, not professional advice. Report an error