Cash flow statement direct method

The direct method of presenting the statement of cash flows presents the specific cash flows associated with items that affect cash flow. Items that typically do so include:

Cash collected from customers
Interest and dividends received
Cash paid to employees
Cash paid to suppliers
Interest paid
Income taxes paid

The advantage of the direct method over the indirect method is that it reveals operating cash receipts and payments.

Disadvantages of the Cash Flow Statement Direct Method

The standard-setting bodies encourage the use of the direct method, but it is rarely used for the following reasons:

Data collection difficulty. The information required for the direct method is difficult to assemble; companies simply do not collect and store information in the manner required for this format. Instead, they use the indirect method, which can be more easily derived from existing accounting reports.
Restructuring cost. Using the direct method may require that the chart of accounts be restructured in order to collect different types of information.
Comparison effort. If the chart of accounts is restructured to accommodate the data collection required for the direct method, the reporting entity will somehow have to manually devise the direct method reporting for any prior comparison periods included in its financial statements, which could be quite difficult.

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Example of the Statement of Cash Flows Direct Method

Lowry Locomotion constructs the following statement of cash flows using the direct method:

Lowry Locomotion
Statement of Cash Flows
for the year ended 12/31/x1

Cash flows from operating activities
Cash receipts from customers	$45,800,000
Cash paid to suppliers	(29,800,000)
Cash paid to employees	(11,200,000)
Cash generated from operations	4,800,000
Interest paid	(310,000)
Income taxes paid	(1,700,000)
Net cash from operating activities	$2,790,000
Cash flows from investing activities
Purchase of property, plant, and equipment	(580,000)
Proceeds from sale of equipment	110,000
Net cash used in investing activities	(470,000)
Cash flows from financing activities
Proceeds from issuance of common stock	1,000,000
Proceeds from issuance of long-term debt	500,000
Principal payments under capital lease obligation	(10,000)
Dividends paid	(450,000)
Net cash used in financing activities	1,040,000
Net increase in cash and cash equivalents	3,360,000
Cash and cash equivalents at beginning of period	1,640,000
Cash and cash equivalents at end of period	$5,000,000

Reconciliation of net income to net cash provided by operating activities:

Net income	$2,665,000
Adjustments to reconcile net income to net cash provided by operating activities:
Depreciation and amortization	$125,000
Provision for losses on accounts receivable	15,000
Gain on sale of equipment	(155,000)
Increase in interest and income taxes payable	32,000
Increase in deferred taxes	90,000
Increase in other liabilities	18,000
Total adjustments	125,000
Net cash provided by operating activities	$2,790,000