AccountancyCBSE Class 12 · Cash Flow Statement

Cash Flow from Operating Activities by the Indirect Method: Class 12 Steps and Sums

Updated 15 October 2026 · Fact-checked

Under the indirect method, cash flow from operating activities starts from net profit before tax, adds back non-cash expenses and non-operating losses, deducts non-operating gains, adjusts for changes in working capital (current assets and current liabilities other than cash and short-term borrowings), and finally deducts income tax paid.

Start with profit, add back non-cash items, adjust working capital (asset up means deduct), then deduct tax paid to reach operating cash.

Illustration drawn for QuestionBuddy.

Understand Cash Flow from Operating Activities (Indirect Method)

Why indirect? Profit is earned on the accrual basis; cash is not. The indirect method (the only method in the 2026-27 syllabus) converts profit into operating cash in four steps.

Step 1: Net profit before tax. Usually built from the balance sheets:

Change in surplus (closing − opening balance of the Statement of Profit and Loss)
+ transfers to reserves during the year
+ dividend paid during the year (previous year's proposed dividend, given effect this year as per AS 4, and any interim dividend)
+ provision for tax made during the year.

Step 2: Adjust non-cash and non-operating items → operating profit before working capital changes.

Add: depreciation and amortisation (goodwill, patents written off), loss on sale of fixed assets or investments, interest on borrowings (a financing item), discount or loss on issue of debentures written off.
Deduct: profit on sale of fixed assets or investments, interest and dividend received (investing items for a non-financial firm).

Step 3: Working capital changes (current assets other than cash and cash equivalents; current liabilities other than short-term borrowings and provision for tax).

Increase in a current asset: deduct; decrease: add.
Increase in a current liability: add; decrease: deduct.

Result: cash generated from operations.

Step 4: Deduct income tax paid. Tax paid = opening provision for tax + tax provided during the year − closing provision. Result: net cash from (used in) operating activities.

Remember the syllabus notes. Bank overdraft and cash credit are short-term borrowings (financing), so they are not working capital changes. Current investments are marketable securities (cash equivalents) unless stated otherwise. Current year's proposed dividend is ignored until it is declared.

Cash Flow from Operating Activities (Indirect Method): key facts

Net profit before tax: Closing surplus − opening surplus + transfer to reserves + dividend paid + tax provided during the year
Tax paid: Opening provision for tax + tax provided − closing provision for tax
Operating profit before working capital changes: NPBT + non-cash expenses + non-operating losses − non-operating gains
Working capital rule: 1.CA up
2.deduct; CA down
3.add; CL up
4.add; CL down
5.deduct; Exclude cash, cash equivalents, short-term borrowings and provision for tax.
Net cash from operating activities: Cash generated from operations − income tax paid

How to answer Cash Flow from Operating Activities (Indirect Method) questions

Most 6-mark Cash Flow questions spend half the marks on operating activities. Follow the four steps in a fixed layout.

1Build NPBT: change in surplus + transfers to reserves + dividend paid + tax provided.
2Add depreciation, amortisation, goodwill written off, losses on sale and interest paid; deduct gains on sale and interest or dividend received.
3List each current asset and current liability (except cash, cash equivalents, short-term borrowings, provision for tax) with its change and sign.
4Total: cash generated from operations.
5Work out tax paid from the provision for tax account and deduct it.
6Write the final line as 'Net cash from (used in) operating activities'.

Cash Flow from Operating Activities (Indirect Method) in real life

The idea, met in an everyday situation. Answer the question in your own words, then compare with the model answer. The one-line hook is what to remember.

Profit is not cash

Suppose a toy shop earns a profit of ₹1,20,000 this year after charging depreciation of ₹20,000. During the year it builds up its stock by ₹1,00,000 for the festival season, its customers' dues rise by ₹60,000, and it owes its suppliers ₹30,000 more than last year. The owner cannot understand why the bank balance barely moved.

Calculate cash from operations and explain the gap.

Try it first, then show the solutionSolution

Start: 1,20,000 + depreciation 20,000 = 1,40,000.
Increase in stock −1,00,000; increase in receivables −60,000; increase in payables +30,000.
Cash from operations = 1,40,000 − 1,00,000 − 60,000 + 30,000 = ₹10,000.

Answer: Only ₹10,000 of cash came from operations although profit was ₹1,20,000. Most of the profit is tied up in extra stock and unpaid customer dues; only a part of that is offset by extra credit from suppliers.

Memory hook: Profit sitting in stock or with debtors is not in the bank.

Tricks to remember Cash Flow from Operating Activities (Indirect Method)

Short memory aids. Say each one aloud once, then use it on a question the same day.

Assets up, cash down
A rise in a current asset uses cash; a rise in a current liability saves cash.
Use it when: Working capital signs.
Add the non-cash, remove the non-operating
Depreciation and write-offs back in; gains and investment income out; interest paid back in.
Use it when: Step 2 adjustments.
STDT for NPBT
Surplus change + Transfers + Dividend paid + Tax provided.
Use it when: Step 1.

Cash Flow from Operating Activities (Indirect Method): solved examples

Ordered from board level to HOTS. Try each one before you open the solution.

Example 1: Added back to profit · 1 mark · MCQBoard level

In computing cash flow from operating activities by the indirect method, which of the following is added to net profit?
(a) Profit on sale of machinery
(b) Increase in trade receivables
(c) Depreciation
(d) Dividend received

Try it first, then show the solutionSolution

Depreciation is a non-cash expense already deducted in profit, so it is added back.

Answer: (c) Depreciation

Example 2: Net profit before tax · 3 marks · Short answerBoard level

Balance of the Statement of Profit and Loss: opening ₹50,000, closing ₹1,20,000. During the year: transfer to General Reserve ₹30,000; dividend paid (previous year's proposed) ₹40,000; provision for tax made ₹60,000. Calculate net profit before tax. (3 marks)

Try it first, then show the solutionSolution

Change in surplus = 1,20,000 − 50,000 = 70,000.
Add transfer to reserve 30,000, dividend paid 40,000 and tax provided 60,000.
NPBT = ₹2,00,000.

Answer: Net profit before tax = ₹2,00,000.

Example 3: Tax paid · 3 marks · Short answerHarder board level

Provision for tax: opening ₹80,000, closing ₹1,00,000. Tax provided during the year ₹1,20,000. Calculate the tax paid and state where it appears. (3 marks)

Try it first, then show the solutionSolution

Tax paid = 80,000 + 1,20,000 − 1,00,000 = ₹1,00,000.
It is deducted at the end of operating activities.
The ₹1,20,000 provided is added back when building NPBT.

Answer: Tax paid ₹1,00,000, deducted in operating activities.

Example 4: Operating cash from NPBT · 4 marks · Short answerHarder board level

NPBT ₹2,00,000; depreciation ₹40,000; loss on sale of machinery ₹5,000; interest on debentures ₹18,000; dividend received ₹6,000; increase in inventories ₹25,000; decrease in trade receivables ₹10,000; increase in trade payables ₹15,000; decrease in outstanding expenses ₹4,000; tax paid ₹50,000. Calculate net cash from operating activities. (4 marks)

Try it first, then show the solutionSolution

Operating profit before WC changes = 2,00,000 + 40,000 + 5,000 + 18,000 − 6,000 = 2,57,000.
WC changes = −25,000 + 10,000 + 15,000 − 4,000 = −4,000.
Cash generated = 2,53,000; less tax 50,000 = ₹2,03,000.

Answer: Net cash from operating activities = ₹2,03,000.

Example 5: From comparative balance sheets · 6 marks · Long answerHOTS / competency

From these figures (opening → closing) calculate net cash from operating activities: Surplus ₹1,00,000 → ₹1,80,000; General Reserve ₹50,000 → ₹70,000; Provision for tax ₹40,000 → ₹50,000 (tax paid during the year ₹45,000); Goodwill ₹30,000 → ₹20,000; Inventories ₹80,000 → ₹1,00,000; Trade receivables ₹70,000 → ₹60,000; Trade payables ₹50,000 → ₹65,000; Outstanding expenses ₹10,000 → ₹8,000. Also: depreciation ₹60,000; interest on long-term loan ₹12,000; dividend paid ₹30,000 (previous year's proposed). (6 marks)

Try it first, then show the solutionSolution

Tax provided = 50,000 + 45,000 − 40,000 = 55,000.
NPBT = 80,000 + 20,000 (reserve) + 30,000 (dividend) + 55,000 (tax) = 1,85,000.
Add depreciation 60,000, goodwill written off 10,000, interest 12,000: 2,67,000.
WC: inventories −20,000; receivables +10,000; payables +15,000; outstanding expenses −2,000: +3,000 → 2,70,000.
Less tax paid 45,000: net cash from operating activities = ₹2,25,000.

Answer: Net cash from operating activities = ₹2,25,000.

Example 6: Profit on sale of an asset · 1 mark · Assertion-reasonHOTS / competency

Assertion (A): Profit on sale of machinery is deducted from net profit while computing cash flow from operating activities.
Reason (R): It is not an operating item, and the whole sale proceeds are shown under investing activities.
(a) Both A and R are true, and R is the correct explanation of A.
(b) Both A and R are true, but R is not the correct explanation of A.
(c) A is true, but R is false.
(d) A is false, but R is true.

Try it first, then show the solutionSolution

Leaving the profit in would double count it, since sale proceeds (including the profit) appear under investing. R explains A.

Answer: (a) Both A and R are true, and R is the correct explanation of A.

Where students lose marks in Cash Flow from Operating Activities (Indirect Method)

The slips examiners see most often, and what to write instead.

Mistake: Starting from the change in surplus as NPBT
Forgetting appropriations and tax.
Wrong working
NPBT = 80,000.
Right working
NPBT = 80,000 + 20,000 + 30,000 + 55,000 = 1,85,000.
Do this: Add back reserves, dividend paid and tax provided.
Usually costs: 1-2 marks.
Mistake: Treating provision for tax as a working capital item
It is a current liability.
Wrong working
Increase in provision for tax +10,000 under WC changes.
Right working
Add tax provided to NPBT; deduct tax paid at the end.
Do this: Exclude provision for tax from WC changes.
Usually costs: 1 mark.
Mistake: Reversing working capital signs
Confusing assets and liabilities.
Wrong working
Increase in inventories +20,000.
Right working
Increase in inventories −20,000.
Do this: Asset up, cash down.
Usually costs: 1 mark each.
Mistake: Including bank overdraft in working capital
It is a current liability.
Wrong working
Increase in bank overdraft +25,000 in operating activities.
Right working
Short-term borrowing: financing activity.
Do this: Follow the syllabus note.
Usually costs: 1 mark.

Exam tips

Use the standard headings: NPBT; adjustments; operating profit before WC changes; WC changes; cash generated; tax paid; net cash.
Show working notes for NPBT and tax paid separately.
Put outflows in brackets.
Operating activities form half of the 6-mark Cash Flow Statement question; 1-mark MCQs test single adjustments.

Practice questions on Cash Flow from Operating Activities (Indirect Method)

Write each answer on paper first. Open the hint only if you are stuck, and the answer only when you have finished.

Q1 · 1 mark · MCQBoard level
An increase in trade payables during the year is, in the indirect method:
(a) deducted from net profit
(b) added to net profit
(c) shown under financing activities
(d) ignored
Hint
A rise in a current liability saves cash.
Answer
(b) added to net profit
Q2 · 1 mark · MCQBoard level
For a manufacturing company, interest received on investments is, while computing operating cash flow:
(a) added to net profit
(b) deducted from net profit
(c) shown under working capital changes
(d) shown under financing activities
Hint
It belongs to investing.
Answer
(b) deducted from net profit
Q3 · 1 mark · Very short answerBoard level
The surplus increased by ₹60,000 during the year. An interim dividend of ₹20,000 was paid and tax of ₹30,000 was provided. Calculate net profit before tax. (1 mark)
Hint
Add back appropriations and tax.
Answer
60,000 + 20,000 + 30,000 = ₹1,10,000.
Q4 · 3 marks · Short answerHarder board level
Calculate the net effect of working capital changes: inventories increased ₹15,000; trade receivables decreased ₹8,000; bills receivable increased ₹2,000; trade payables decreased ₹6,000; outstanding wages increased ₹1,000. (3 marks)
Hint
Apply the sign rule line by line.
Answer
−15,000 + 8,000 − 2,000 − 6,000 + 1,000 = (−)₹14,000.
Q5 · 3 marks · Short answerHarder board level
NPBT ₹1,50,000; depreciation ₹25,000; patents amortised ₹5,000; profit on sale of investments ₹8,000; net working capital changes (−)₹14,000; tax paid ₹35,000. Calculate net cash from operating activities. (3 marks)
Hint
Operating profit before WC = 1,72,000.
Answer
1,50,000 + 25,000 + 5,000 − 8,000 = 1,72,000; − 14,000 = 1,58,000; − 35,000 = ₹1,23,000.
Q6 · 1 mark · Very short answerHarder board level
Provision for tax: opening ₹60,000, closing ₹75,000; tax provided ₹90,000. Calculate tax paid. (1 mark)
Hint
Opening + provided − closing.
Answer
60,000 + 90,000 − 75,000 = ₹75,000.
Q7 · 3 marks · Short answerHarder board level
During 2025-26, a company paid the proposed dividend of ₹50,000 for 2024-25 and an interim dividend of ₹20,000 for 2025-26. How are these treated in the Cash Flow Statement for 2025-26? (3 marks)
Hint
AS 4 and the syllabus note.
Answer
Both are paid in 2025-26, so ₹70,000 is shown as an outflow under financing activities and the same ₹70,000 is added back to the change in surplus to compute NPBT. The current year's proposed dividend (if any) is ignored until declared.
Q8 · 1 mark · Assertion-reasonHarder board level
Assertion (A): A decrease in bank overdraft is shown as a working capital change in operating activities.
Reason (R): The CBSE syllabus treats bank overdraft as a short-term borrowing.
(a) Both A and R are true, and R is the correct explanation of A.
(b) Both A and R are true, but R is not the correct explanation of A.
(c) A is true, but R is false.
(d) A is false, but R is true.
Hint
Borrowings belong to financing.
Answer
(d) A is false, but R is true.
Q9 · 3 marks · Short answerHOTS / competency
Net cash from operating activities is ₹1,80,000. Tax paid was ₹40,000; net working capital changes were (+)₹10,000; depreciation was ₹30,000 and there were no other adjustments. Calculate net profit before tax. (3 marks)
Hint
Work backwards step by step.
Answer
Cash generated = 1,80,000 + 40,000 = 2,20,000; operating profit before WC = 2,20,000 − 10,000 = 2,10,000; NPBT = 2,10,000 − 30,000 = ₹1,80,000.
Q10 · 3 marks · Short answerHOTS / competency
A student says, 'Depreciation is added back in the Cash Flow Statement, so depreciation is a source of cash.' Is this correct? Explain. (3 marks)
Hint
Why is it added back?
Answer
No. Depreciation does not bring in any cash. It is a non-cash expense that was deducted in arriving at profit; adding it back simply cancels that deduction so that the figure reflects cash actually generated by operations.

Test your recall

Answer in your head or on paper first, then open the card. Pulling an answer out of memory makes it stick far better than re-reading.

1.Name four items added back to net profit in the indirect method.Show answer
Depreciation, goodwill or patents written off, loss on sale of assets, interest on borrowings.
2.Effect of a decrease in trade receivables?Show answer
Added.
3.Formula for tax paid?Show answer
Opening provision + tax provided − closing provision.
4.Is provision for tax a working capital change?Show answer
No.
5.Is the direct method in the syllabus?Show answer
No; only the indirect method.

Cash Flow from Operating Activities (Indirect Method): frequently asked questions

What is the indirect method of operating cash flow?

It starts from net profit before tax and adjusts for non-cash items, non-operating items and working capital changes, then deducts tax paid.

Why is interest paid added back?

It is a financing cash outflow; it is added back in operating activities and shown separately under financing.

Which current liabilities are excluded from working capital changes?

Short-term borrowings (bank overdraft, cash credit) and provision for tax; current maturities of long-term debt are also financing items.

How is the proposed dividend treated?

The previous year's proposed dividend, paid this year, is added to compute NPBT and shown under financing; the current year's proposal is ignored until declared.