## Cash Flow from Operating Activities — Indirect Method
### What is the Indirect Method?
Start with Profit Before Tax (PBT) and undo everything that is non-cash or non-operating to arrive at actual cash generated from operations.
---
### Step 1: Derive PBT When Not Directly Given
When the question gives you Balance Sheet changes (not a ready P&L), reconstruct PBT using the P&L Reserve T-account logic:
```
PBT = (Closing P&L Reserve − Opening P&L Reserve)
+ Transfer to General Reserve
+ Dividend declared during the year
+ Provision for Tax created
```
The intuition: every rupee of PBT either stayed in P&L Reserve, went to GR, went out as dividend, or was set aside for tax.
---
### Step 2: Add Back Non-Cash Charges
These reduced PBT but involved no cash outflow:
- Depreciation on fixed assets
- Amortisation of goodwill / intangibles
- Loss on sale of fixed assets (book loss)
- Loss on write-off of fixed assets
- Premium on redemption of debentures / preference shares (if charged to P&L — it is a financing cost, not an operating one; reverse it out)
---
### Step 3: Remove Non-Operating Items (Move to Their Correct Section)
| Item | Treatment in Operating Section | Goes to |
|---|---|---|
| Profit on sale of fixed assets | Deduct | Investing |
| Profit on sale of investments | Deduct | Investing |
| Interest/dividend income | Deduct | Investing |
| Interest on debentures (financing cost) | Add back | Financing |
| Premium on redemption (if in PBT) | Add back | Financing |
> Critical rule for interest on debentures: It has already reduced PBT. Adding it back in Operating removes its effect there. The actual cash paid is then shown as an outflow in Financing Activities. This prevents double-counting.
---
### Step 4: Working Capital Adjustments
| Movement | Cash Effect |
|---|---|
| Current Asset increases | Cash outflow — deduct |
| Current Asset decreases | Cash inflow — add |
| Current Liability increases | Cash inflow — add |
| Current Liability decreases | Cash outflow — deduct |
Only operating current assets/liabilities are included here. Creditors for purchase of capital assets are not working capital.
---
### Step 5: Deduct Income Tax Paid
```
Tax Paid = Opening Provision for Tax
+ Provision created in current year (P&L charge)
− Closing Provision for Tax
```
Always shown as a deduction at the end of the Operating section.
---
### Summary Format
```
A. Cash Flow from Operating Activities
Profit Before Tax X
Add: Depreciation / Amortisation X
Loss on sale of assets X
Interest on debentures (reversed) X
Premium on redemption (reversed) X
Less: Profit on sale of assets/investments (X)
Investment income (X)
Operating Profit before WC changes X
Add/Less: Changes in Working Capital ±X
Cash Generated from Operations X
Less: Income Tax Paid (X)
Net Cash from Operating Activities (A) X
```