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Statement of Cash Flows (part c) Example 2 – ACCA Financial Accounting (FA) lectures

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  1. Hi John,

    Please could you help? I have 2 questions about the indirect method:

    1) Since the profit before tax should already include the irrecoverable debt expense, why do we not adjust for this using the direct method? (by adding back to profit before tax as it’s a non-cash charge)

    2) Also, why do we not adjust the trade receivable figure (in changes to working capital) seeing as the irrecoverable debt should affect this? (i.e. subtract from the trade receivables figure)

  4. Sir, I have 2 doubts;
    (1) why we are reducing the irrecoverable debt from cash received. it was already reduced from trade receivables’ closing balance, wasn’t it?
    (2) why we are adding profit on non-current asset in other cash payment?

    Please sort out my doubt………

    • 1. The irrecoverable debt did indeed reduce the closing balance on receivables. Prepare yourself a receivables t-account and after crediting with the irrecoverable debt, the ‘missing figure’ is the cash received.

      2. The cash received was 24,000 but the 6,000 profit had been netted off against expenses

      • (1) sir but they already given the reduced amount nah? 259000 is reduced amount, isn’t it?
        (2) I can’t understand the meaning of “netted off against expenses”

      • 1. Yes, 259,000 is the reduced amount. However if you prepare a receivables t-account then you will see what the cash received is.

        2. Netted off against expenses means that they have subtracted the profit from the expenses.

    • What happens is we have a balance b/d of 2,35,000 add on to sales 1,200,000 and receivables increases to 1,435,000, deduct irrecoverable debt of 14,000 because we assume it will not be recovered. Now the remaining amount consists of cash received as well as the balance c/d. In order to find out the the cash received you must deduct the balance c/d, and in order to find balance c/d, cash received should be deducted which is the proper accounting treatment.

  7. This chapter is quite heavy.

    Dear sir,

    Why is irrecoverable debt utilized in the direct method, whereas ignored in the indirect method ?

    How did it differ from depreciation & profit on sale of non current asset ?

    Could you please generously elaborate further on the reason behind its lack of role within the indirect method ?

  8. It took me a while to understand why bad debt is not included in the statement in the same manner as depreciation. The lecturer says it is not included because it doesn’t affect cash but that isn’t quite right. The effect of the bad debt write off is actually included in the working capital adjustments as Receivables is lowered by the debt being written off. This will reduce the receivables and reduction in receivables ‘adds cash’ in the same way that depreciation does. Commenting to save somebody else the 30mins it took me to sort that out in my mind.

  9. Hi John, appreciate you can further explain on the bad debt write-off.
    Net profit was reduced due to bad debt write-off, as non cash expense item, so when we work backwards for cash flow, we should add it back, similar to what we did to depreciation.
    Kindly point out where I got it wrong. Thanks.

  10. Hi sir,

    I don’t understand the reason why there is no adjustment for irrecoverable debt expense.

    It is just my thought, but irrecoverable debt was charged to administrative expenses which reduced profits and yet there was no cash flow resulting from it. So why do we not add back the value of irrecoverable debt expense in the adjustments?

    Thank you

    • I think that’s because when referring writing off irrecoverable debts, we mean debiting Receivables and Crediting for allowance, which is not recorded as expenses.

  11. Hi Sir,

    there is a chance to buy non-current assets by credit. then why you consider all balance amount as bought by cash in the calculation of non-current assets. kindly explain.

    Thank you!

    • They will indeed probably have been bought on credit. However if any of the purchase price was still owing at the end of the year then this would be included in payables and adjusted when calculating the cash flows from operating activities.

      • Hi Sir,

        Thank you for the reply,
        but if it is included in payables then it affects two times in the cash flow statement as cash flows from operating activities and cash flow from investing activities.
        a non-current asset purchase is not an operating activity, isn’t it?

        kindly explain.

        thank you

      • You are correct in that if the liability had not been paid in full before the year end, then there is in a sense a ‘mis-allocation’ (between operating activities and investing activities). However this is as we are required to do it per the accounting standard.

  12. hi sir, i need explanation if the statement have bad debt written off and inventories written-off should we add or subtract and should we include in the adjustment of operating.

      • We didn’t subtract them twice. We subtracted them from other expenses because (in the case of debts written off) they were not relevant, and (in the case of employees wages) they are required to be shown separately.

      • Sir i didn鈥檛 understand the other expense either, why should we add back profit of the disposal of non current asset? That profit was included in the administration cost? Kindly explain . Thanks a lot

      • The administration cost will be the net total of all the expenses less the profit on the sale. The profit is not a cash flow and so it needs adding back to find out what the cash expenses were.

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