When preparing a statement of cash flows (indirect method), an increase in ending inventory over beginning inventory will result in an adjustment to net income because
A) cash was increased while cost of goods sold was decreased.
B) acquisition of inventory is an investment activity.
C) inventory purchased during the period was less than inventory sold, resulting in a net cash increase.
D) cost of goods sold on an accrual basis is lower than on a cash basis.

Question

Quizplus · Accepted Answer

When using the indirect method for the statement of cash flows, an increase in inventory indicates that the company purchased more inventory than it sold. Since the cost of goods sold (COGS) on the income statement reflects the cost of inventory that was actually sold, an increase in ending inventory (compared to beginning inventory) means that the COGS on an accrual basis is lower than it would be on a cash basis. This is because the additional inventory purchased has not yet been sold and therefore not included in COGS. Consequently, to reconcile net income to net cash provided by operating activities, the increase in inventory is subtracted from net income.

When Preparing a Statement of Cash Flows (Indirect Method), an Increase