3.1 Form and Content of the Statement of Cash Flows
The statement of cash flows should report the cash effects of operations,
investing transactions, and financing transactions during a period. An entity can
use the indirect method1 or the direct method2 to present the operating section of the statement of cash flows. ASC 230
contains examples illustrating the preparation of the statement of cash flows under
both methods. ASC 230-10-45-25 encourages entities to use the direct method in
presenting the operating section of the statement of cash flows and to report major
classes of gross cash receipts and gross cash payments for operating cash flows.
Further, entities are encouraged to use the direct method to include a detailed
breakdown of operating cash receipts and payments to the extent that providing such
detail is feasible and financial statement users find it helpful.
Although use of the direct method is encouraged, many entities apply the indirect method to present operating cash flows. However, entities employing the indirect method should consider the direct method when evaluating proper classification of operating cash flows.
ASC 230-10
45-28 Entities that choose not
to provide information about major classes of operating cash
receipts and payments by the direct method as encouraged in
paragraph 230-10-45-25 shall determine and report the same
amount for net cash flow from operating activities
indirectly by adjusting net income of a business entity or
change in net assets of a not-for-profit entity (NFP) to
reconcile it to net cash flow from operating activities (the
indirect or reconciliation method). That requires adjusting
net income of a business entity or change in net assets of
an NFP to remove both of the following:
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The effects of all deferrals of past operating cash receipts and payments, such as changes during the period in inventory, deferred income, and the like, and all accruals of expected future operating cash receipts and payments, such as changes during the period in receivables and payables. Adjustments to net income of a business entity or change in net assets of an NFP to determine net cash flow from operating activities shall reflect accruals for interest earned but not received and interest incurred but not paid. Those accruals may be reflected in the statement of financial position in changes in assets and liabilities that relate to investing or financing activities, such as loans or deposits. However, interest credited directly to a deposit account that has the general characteristics of cash is a cash outflow of the payor and a cash inflow of the payee when the entry is made.
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All items that are included in net income of a business entity or change in net assets of an NFP that do not affect net cash provided from, or used for, operating activities such as depreciation of property, plant, and equipment and amortization of finite-life intangible assets. This includes all items whose cash effects are related to investing or financing cash flows, such as gains or losses on sales of property, plant, and equipment and discontinued operations (which relate to investing activities), and gains or losses on extinguishment of debt (which relate to financing activities).
Regardless of which method is used, an entity must present a reconciliation of net income (or changes in net assets for NFPs) to net cash flows from operating activities. All major classes of reconciling items must be separately reported; further breakdowns of categories are encouraged if doing so would result in more meaningful information for users.
ASC 230-10
45-29 The reconciliation of net
income of a business entity to net cash flow from operating
activities described in paragraph 230-10-45-28 shall be
provided regardless of whether the direct or indirect method
of reporting net cash flow from operating activities is
used. However, NFPs that use the direct method of reporting
net cash flows from operations are not required to provide a
reconciliation of change in net assets to net cash flow from
operating activities. Additional guidance for NFPs is found
in Subtopic 958-230. The reconciliation shall separately
report all major classes of reconciling items. For example,
major classes of deferrals of past operating cash receipts
and payments and accruals of expected future operating cash
receipts and payments, including, at a minimum, changes
during the period in receivables pertaining to operating
activities, in inventory, and in payables pertaining to
operating activities, shall be separately reported. Entities
are encouraged to provide further breakdowns of those
categories that they consider meaningful. For example,
changes in receivables from customers for an entity’s sale
of goods or services might be reported separately from
changes in other operating receivables.
45-30 If an entity other than an
NFP uses the direct method of reporting net cash flow from
operating activities, the reconciliation of net income to
net cash flow from operating activities shall be provided in
a separate schedule.
45-31 If the indirect method is used, the reconciliation may be either reported within the statement of cash flows or provided in a separate schedule, with the statement of cash flows reporting only the net cash flow from operating activities.
45-32 If the reconciliation is presented in the statement of cash flows, all adjustments to net income of a business entity or change in net assets of an NFP to determine net cash flow from operating activities shall be clearly identified as reconciling items.
At the 2005 AICPA Conference on Current SEC and PCAOB Developments (the 2005
AICPA Conference), SEC Associate Chief Accountant Joel Levine suggested that it is
not appropriate to reconcile an amount other than net income (e.g., income from
continuing operations) to net cash flows from operating activities in the statement
of cash flows.
ASC 230-10-55-7 through 55-21 contain examples illustrating the presentation of
the statement of cash flows under both the direct method and the indirect
method.
NFPs have the option of presenting their statement of cash flows by using either
the direct method or the indirect method. However, an NFP that chooses to use the
direct method of cash flow reporting is not required to present or disclose (e.g.,
in a separate schedule) the indirect method reconciliation.
3.1.1 Supplemental Disclosure of Interest and Income Taxes Paid
The FASB requires an entity to provide supplemental disclosure of interest and income taxes paid. This is to ensure that entities provide operating cash flow information similarly regardless of whether they used the indirect method to present it. Paragraph 121 of the Basis for Conclusions of FASB Statement 95
states, in part:
To provide information about the gross amounts of at least
those operating cash flows that are likely to be readily available, this
Statement requires enterprises that use the indirect method of reporting net
cash flow from operating activities to disclose amounts of interest and
income taxes paid. The Board believes that that information usually will be
readily available.
Accordingly, if an entity uses the indirect method to present the operating
section of its statement of cash flows, ASC 230 requires it to disclose
supplemental information regarding the payments made for interest and income
taxes during the period. Specifically, ASC 230-10-50-2 states as follows:
If
the indirect method is used, amounts of interest paid (net of amounts
capitalized), including the portion of the payments made to settle
zero-coupon debt instruments that is attributable to accreted interest
related to the debt discount or the portion of the payments made to settle
other debt instruments with coupon interest rates that are insignificant in
relation to the effective interest rate of the borrowing that is
attributable to accreted interest related to the debt discount, and income
taxes paid during the period shall be disclosed.
Although ASC 230-10-50-2 does not explicitly state whether an entity should
provide this supplemental information on the face of the statement of cash flows
or in the footnotes to the financial statements, we believe that either
presentation is acceptable.
3.1.1.1 Interest Paid
While ASC 230-10-50-2 provides guidance on certain amounts
related to interest paid (e.g., payments for the settlement of zero-coupon
debt instruments), it does not explicitly address whether an entity should
include, in the interest paid amount, the cash flows associated with
derivative contracts in a cash flow hedge of forecasted interest payments.
We believe that if an entity classifies the cash flows resulting from
derivative contracts in operating cash flows consistently with the cash flow
classification of the item being hedged, it would be acceptable for the
entity to include the cash flows resulting from those derivative contracts
as part of its supplemental disclosure of interest paid. If an entity
presents operating interest paid in this manner, we believe that the entity
should explain that fact in its supplemental disclosure of interest
paid.
3.1.1.2 Income Taxes Paid
3.1.1.2.1 Scope of Disclosures
ASC 230 requires entities to present income taxes paid
as operating cash flows, other than remittances of minimum statutory
withholding on share-based payment awards (see Section 7.3.5). However, the guidance
does not directly address whether the supplemental disclosure of income
taxes paid should include only cash outflows associated with current
income taxes paid or if it should also include other items related to
income taxes. For example, it is unclear whether the supplemental
disclosure of income taxes paid should include (1) interest and
penalties paid that an entity presents as income tax expense under ASC
740, (2) refunds received from relevant income tax authorities, or (3)
proceeds received from the disposal to third parties of transferable
income tax credits (see Section 3.1.1.2.2). Given the lack
of explicit guidance on what information to provide, we believe that it
would be acceptable for an entity to choose which amounts related to
income taxes to include in its supplemental disclosure of income taxes
paid. If the entity chooses to present cash flows in the manner
described above, the entity should specify which amounts comprise the
income taxes paid.
3.1.1.2.2 Transferable Income Tax Credits
An entity may elect to account for transferable income tax credits
(including the gains or losses from the sale or purchase of such
credits) within the scope of ASC 740. We believe that such an entity may
reflect the cash flows that result from the sale or purchase of
transferable income tax credits within cash flows from operating
activities in a manner consistent with the presentation of the cash
flows that result from the settlement of other balances related to
income taxes. Further, subject to any additional forthcoming guidance
issued by the FASB in connection with its project on income tax
disclosure,3 we believe that it would be acceptable for an entity to present
the cash flows that result from the sale or purchase of transferable
income tax credits within the amount specified in its supplemental
disclosure of income taxes paid during the period. If an entity presents
these cash flows within its supplemental disclosure of income taxes paid
during the period, we believe that the entity should disclose that fact,
as described in Section
3.1.1.1.
Footnotes
1
Under the indirect method, net cash provided or used by
operating activities is determined by adding back or deducting from net
income those items that do not affect cash (e.g., noncash transactions).
2
Under the direct method, major classes of gross cash
receipts and payments and their arithmetic sum are reported to determine net
cash provided or used by operating activities.
3
In March 2023, the FASB issued a proposed ASU that would
modify or eliminate certain existing income tax disclosure
requirements in addition to establishing new requirements. For
more information on the FASB’s proposed ASU, see Deloitte’s
March 22, 2023, Heads Up.