Indirect Cash Flows + Income Statement by Nature

[mike99]

Hi All,

Am having a problem with studying for my financial reporting exam, and the issue is as follows: how does one reconstruct and present cash flows from operating activities using the indirect method when presented with a Statement of Comprehensive Income (SOCI) by nature?

Under the indirect method with an SOCI by function, one adds back the costs capitalised during the year with total expenses taken out of operating profit (e.g., total depreciation expense added back caters for the depreciation capitalised to inventory) and the adjustment in your inventory balances ("working capital adjustments") produces the purchases amount within net operating profit.

However, I'd like to confirm that with the indirect method with SOCI by nature (see below), by including the adjustment in work in progress and finished goods at the top of operating expenses in your SOCI, you have already "done" the adjustment in inventory balances, and one simply deducts the raw materials consumed (shown in the line item of SOCI), and then adds back the raw materials purchased (balancing figure in the raw materials line item on the balance sheet) ... And then one simply adjusts for non-cashflow expenses (e.g. depreciation) and all other current asset/liability accounts (e.g. accruals and prepayments) ... ? Or is doing this raw materials adjustment already taken into account by doing the adjustment in WIP and finished goods, with raw materials consumed included in operating costs?

e.g. Statement of Comprehensive Income for X Ltd.

Sales XXX
Increase in finished goods and work in progress XXX
Raw materials consumed (XXX)
Staff Costs (XXX)
Depreciation Expense (XXX)
Operating costs before taxation XXX

 

[Triest123]

Raw materials consumed, Direct labour costs and the increase in WIP inventory
is the "factory costs of goods manufactured".

Factory costs of goods manufactured & Increase in Finished goods inventory
is the "costs of goods sold".

The operating profit is derived from the costs of goods sold, which is the total production expenses incurred in generating the sales revenue rather than incurred in the production (as some of the production expenses is capitalised on the unsold goods -i.e. the closing finished goods inventory).

The change in Raw Materials, WIP and Fininshed Goods inventory
have the impact on "Liquidity " as they are also treated as the change
in working capital


Increase in Inventory = Decrease in "Liquidity"
Increase in AP = Increase in "Liquidity"

Liquidity has impact on "cash & cash equivalent" when preparing the Cashflow statement under the Indirect method.