A cash flow statement can be presented using two methods:
- Indirect Method
- Direct Method
The two methods differ in terms of how the cash flow from operating activities is calculated.
In the indirect method, the operating cash flows are not directly reported. Instead you start with the net income taken from the income statement and then adjust it for the items that do not affect the cash flows. The adjustments will be made for:
- Non-cash items such as depreciation and amortization.
- Gains and losses reported under other activities in cash flow statement.
- Converting current assets and liabilities from accrual to cash basis.
In the direct method, the cash flow from operating activities is computed directly as the net sum of all operating cash flows.
While the indirect method is easy to do, most banks prefer a cash flow statement prepared using direct method as it contains more information.