Question

c. Comment on lile aunty EYK12-3. Business Decision Problem Recently hired as assistant controller for Finite, Inc., you are sitt next to the controller as she responds to questions at the annual stockholders' meeting. The firm financial statements contain a statement of cash flows prepared using the indirect method. A stock. holder raises his hand. Stockholder: "I notice that depreciation expense is shown as an addition in the calculation of the cash flow from operating activities." Controller: "That's correct." Stockholder: "What depreciation method do you use? Controller: "We use the straight-line method for all plant assets." Stockholder: "Well, why don't you switch to an accelerated depreciation method, such as double-declining balance, increase the annual depreciation amount, and thus increase the cash flow from operating activities?" The controller pauses, turns to you, and replies, "My assistant will answer your question." Required Prepare an answer to the stockholder's question.

Answer 1

GAAP's has provided companies with methods of depreciation among which they can select one which suits them better,

We are following straight line method of depreciation,

One of the basic accounting principle is consistency, which means if a company opts for one method of depreciation, they should follow the same method until the company is in existence, therefore we cannot change the method merely for increasing the cash flows, further we can change the depreciation method only when there is a change in the method in which the asset is being used which requires faster or slower write down of the asset.

There is an option to change the method but we should disclose the effects of such change on the net income of the company, which would also increase the net income if we accelerate the depreciation.

Therefore, there is proper manner in accounting to change the accounting approaches followed previously and we can't justify the change saying "to increase the Operating cash flows" or "to increase the net income".