Indirect Cash Flow

Quick reference

• 00:04 So what have we forgotten?
• 00:07 Well, I promised you something we'd go back and revisit right at the end.
• 00:10 And that was the cash flow statement.
• 00:13 We talked about two types of cash flow statement, direct and indirect.
• 00:18 The direct one is what we've modeled.
• 00:21 And we've had to model it this way for the control accounts to work.
• 00:24 It's all to do with the presentation of the first section of the cash
• 00:27 flow statement being net operating cash flow.
• 00:29 It's cash receipts, less cash payments, less interest paid, less tax paid,
• 00:34 gives me my net operating cash flow.
• 00:36 It's called the direct, because it reconciles directly with the bank account.
• 00:39 The indirect method is the one modelers tend to like
• 00:42 if you've never seen the control account approach.
• 00:45 In this way, you start off with the P&L line item,
• 00:47 maybe something like net profit after tax.
• 00:50 You add back the non-cash items.
• 00:52 So instead of having these P&L items in, you just take them out.
• 00:56 So deprecation expense, interest expense, tax expense all out.
• 01:00 You put through your movements in working capital you increase and
• 01:03 decrease in current assets and current liabilities.
• 01:06 And then you deduct off your cash versions of your non-cash items.
• 01:10 So instead of interest expense you put through interest paid.
• 01:13 Instead of tax expense you put through tax paid.
• 01:16 Instead of depreciation you don't do anything.
• 01:20 Now yes, part of the reason is depreciation isn't a cash expense.
• 01:23 But the cash version of depreciation is actually your purchases of capital
• 01:27 expenditure.
• 01:28 Now that's in investing cash flows already.
• 01:29 So there's two reasons why we add back depreciation.
• 01:32 One, ,it's not a cash item.
• 01:34 But secondly, it's a double count anyway.
• 01:37 So we don't put it back in.
• 01:38 And notice the net operating cash flow,
• 01:41 regardless of whether you do it through a P&L reconciliation, ie indirect, or
• 01:46 reconciliation to your actual bank balance.
• 01:48 It's going to have to equal the same numbers.
• 01:51 -650, -1565, 1998, 2197, 830, in these examples here.
• 01:57 No matter which way you do it, so I need to put some checks in as well, won't we?
• 02:01 Let's get going.
• 02:03 We're almost there.
• 02:05 Just got a couple of things left to do.
• 02:09 Let's go back to the cash flow statement.
• 02:12 We calculated our operating cash flow here in rows 15 to 22 on the direct basis.
• 02:18 And we had to do it that way for the control accounts to work.
• 02:22 You recall the direct basis is reconciling directly to your bank statement.
• 02:26 So cash receipts less cash payments, less interest paid, less tax paid.
• 02:31 Modelers that aren't familiar with this process
• 02:34 will often use the indirect method.
• 02:37 I'm going to bring it in here.
• 02:38 So this is a restatement to the operating cash flow.
• 02:41 We start off with a P&L item.
• 02:43 Here I'm going to use net profit after tax.
• 02:45 And we add back the non cash items depreciation, interest expense, and
• 02:50 tax expense.
• 02:52 We put through the movements in working capital adjustments for current assets and
• 02:55 current liabilities.
• 02:56 Remember, an increase in current assets such as Debtors.
• 02:59 If debtors go up, it means your cash is going down.
• 03:01 So that will be a negative effect on your cash flow.
• 03:03 And a decrease in current assets with be a positive effect on your cash flow.
• 03:08 Current liabilities works the other way around.
• 03:09 If you've got an increase in current liabilities,
• 03:11 that means you're not paying your bills.
• 03:13 So you've got more money than you should have.
• 03:14 And if you decrease them, you've paid your bill and so you've got less cash.
• 03:17 And then to deduct instead of interest expense, we put through interest paid.
• 03:22 Instead of tax expense, we put through tax paid.
• 03:25 But for depreciation,
• 03:26 we don't put anything back in cuz you remember that's a double count.
• 03:29 The cash equivalent to depreciation is your purchases of capital equipment,
• 03:32 which is already in the investing cash flows.
• 03:34 So it just gonna come out full stop.
• 03:36 So I'm just gonna put these things through.
• 03:39 Now notice we don't use off-sheet references.
• 03:41 I haven't actually mentioned this anywhere.
• 03:43 But on the actual output sheets, everything is an off-sheet reference, so
• 03:47 we don't bother putting in the off-sheet style here.
• 03:49 I realize I've taken till this time in the course to actually make that observation,
• 03:54 so sorry about that.
• 03:56 Net profit after tax comes from the income statement.
• 03:59 Let's scroll down here, it's this line here.
• 04:02 Copy it across.
• 04:05 Depreciation, again that comes from the income statement, but
• 04:09 we've got to subtract it because it's a negative number on here.
• 04:12 We want to add it back.
• 04:14 So we copy that across.
• 04:17 Interest expense equals minus back to the income statement here.
• 04:22 Copy that across.
• 04:24 And finally, for this section anyway, equals minus the tax expense.
• 04:31 I put that through.
• 04:36 Now for the movements,
• 04:38 in working capital adjustments, we can actually use the control accounts.
• 04:43 We've got two control accounts for the current assets, let's bring them back in,
• 04:47 we just need to put in the movements.
• 04:48 And remember, we have to subtract off increases, so
• 04:51 it's going to equal minus the sum, open brackets back to our calculation sheet.
• 04:57 First of all to rows 36 and 37 for the revenue control account,
• 05:02 comma, and then almost 100 rows further down the track.
• 05:08 We've got our inventory stuff here in rows 136 to 138.
• 05:13 And copy that across.
• 05:15 None of this subtracting one number from another on the balance sheet.
• 05:19 Then we got to do the same thing for the current liabilities.
• 05:22 And there are 3 control accounts here, but we don't have to subtract it.
• 05:25 It's just equal to the sum open brackets.
• 05:28 So let's go back to our calculations.
• 05:30 First one we'll find in rows 62 and
• 05:34 63 that's our cost of goods sold.
• 05:38 Then we've got in rows 89 and 90 the purchases.
• 05:44 And finally, the one you think do we need to put this one in?
• 05:47 Well yes you do, if it ever changes is the oppex, even though it will always be 0.
• 05:54 And we copy that across, done.
• 05:57 Now interest paid and tax paid we've already got up here
• 06:00 in the direct cash flow, so we might as well just use those and copy those in.
• 06:06 And now we just sum them.
• 06:07 Now don't do this, don't sum, I'll go and highlight this.
• 06:11 The reason for that is if you sum and highlight the blank rows, often on output
• 06:16 sheets, people put percentages in in blank rows to show year on year growth rate and
• 06:20 things like this.
• 06:21 And then these totals are aggregated into your net operating cash flow.
• 06:24 Which will flow through into your cash flow statement,
• 06:26 which will flow through into your cash on your balance sheet.
• 06:29 And suddenly your balance sheet won't balance and you won't know why, so
• 06:32 don't do that.
• 06:34 Always link just to the cells that should be actually computed for the summation.
• 06:40 Bang, done, copy that across.
• 06:44 -650, -1,565, plus 1,998, plus 2,114 and 822.
• 06:51 Scrolling up here, -650, -1,565,
• 06:55 plus 1,998, plus 2,114, plus 822.
• 06:59 It reconciles, we've got it working.
• 07:02 Now we're almost finished.
• 07:04 I said we'd finish when we did the indirect cash flow, but
• 07:06 we're not quite finished.
• 07:07 Because I've done a manual rec, I've checked it with my eyes.
• 07:12 Wouldn't it be better if we did a check?
• 07:15 Let's finish off on a check.

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