Calculating CFO using Direct Method concepts, remember, following

kd26gioi

Whoo... thanks for the response. That really clear it up..

Jupiter

Hi,
this is a question i done in qbank and i think i'm confused with some of the concepts. Hope someone will guide me along.

According to what i know, based in the kaplan notes at LOS 34.e under the professor note, there are a few points it stated:
Throughout the discussion of direct and indirect methods, remember the following points, I decided to simplify it cos there are too much text

1) Increase in asset = use of cash (-)
2) Decrease in asset = source of cash (+)
3) Increase in liability = Source of cash (+)
4) Decrease in liability = use of cash (-)

My 1st qns: Does the 4 statements above use in direct method?

I have no problems with indirect calculation. However based on this question using the direct calculation, I"M CONFUSED if i use the points stated above

Interest payable and Income tax payable are consider as liabilities. Based on the 4 points above, these are what i concluded while attempting the qns:

1) increase in interest payable 1,200,000 - $800,000 (source of cash)
2) increase in deferred income taxes payable 1,000,000-800,000 = 200,000 (source of cash)
3) decrease in income taxes payable 800,000 - 1,000,000 = -200,000 (use of cash).

However during the calcuation, it seems that whether to minus or add in direct method is different. Below are my 2nd to 4th qns:
2nd qns) why the increase in interest payable does not add to the interest expense?
3rd qns) why the increase in deferred income taxes payable does not add to the tax expense?
4th qns) why the decrease in taxes payable does not minus from the tax expense?


The qbank qns as listed below. And thanks in advance for spending time to read my post and helping me. Greatly appreciated.
The Red Company’s balance sheet as of December 31, 2004 was as follows:
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Cash
Dec. 31, 2003: $1,500,000
Dec. 31, 2003: $1,900,000

Accounts Receivable
Dec. 31, 2003: 3,000,000
Dec. 31, 2003: 3,400,000

Inventory
Dec. 31, 2003: 2,300,000
Dec. 31, 2003: 2,500,000

Property, Plant & Equipment
Dec. 31, 2003: 16,700,000
Dec. 31, 2003: 19,700,000

Less Accumulated Depreciation
Dec. 31, 2003: (5,300,000)
Dec. 31, 2003: (8,200,000)

Total Assets
Dec. 31, 2003: $18,200,000
Dec. 31, 2003: $19,300,000

Accounts Payable
Dec. 31, 2003: $2,100,000
Dec. 31, 2003: $1,900,000

Interest Payable
Dec. 31, 2003: 800,000
Dec. 31, 2003: 1,200,000

Income Taxes Payable
Dec. 31, 2003: 1,000,000
Dec. 31, 2003: 800,000

Notes Payable
Dec. 31, 2003: 2,700,000
Dec. 31, 2003: 2,900,000

Deferred Income Taxes
Dec. 31, 2003: 2,600,000
Dec. 31, 2003: 2,900,000

Common Stock
Dec. 31, 2003: 1,000,000
Dec. 31, 2003: 1,000,000

Retained Earnings
Dec. 31, 2003: 8,000,000
Dec. 31, 2003: 8,600,000

Red’s interest expense was $900,000 and income tax expense was $1,000,000 in 2004. Red prepares its Statements of Cash Flows using the direct method.

The other cash outflows section of Cash Flow from Operations (CFO) for 2004 would total:

A) $2,100,000.

B) $1,700,000.

C) $1,400,000.

The answer was C.

Below is the explanation from Qbank:

Other cash outflows is the third step in calculating CFO using the direct method. It consists of Cash taxes paid + Cash interest paid.

Cash interest paid = interest expense less increase in interest payable: ($900,000 – (1,200,000 - $800,000) =) $500,000.

Cash taxes paid =

tax expense of $1,000,000 (+)
decrease in income taxes payable (1,000,000-800,000) = 200,000
(-) increase in deferred income taxes (2,600,000-2,900,000) = 300,000 which is equals to $900,000.

Other cash outflows = $500,000 + 900,000 = $1,400,000

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Thanks