Which of the following items is classified as an operating activity on the statement of cash flows when using the indirect method?

• A. Issuance of common stock
• B. Depreciation expense
• C. Purchase of equipment
• D. Payment of dividends

Answer: (B)

Verified step by step guidance

1. Understand the classification of cash flow activities: The statement of cash flows is divided into three sections—operating, investing, and financing activities. Operating activities involve transactions related to the core operations of the business, such as revenues and expenses.
2. Learn the indirect method for operating activities: The indirect method starts with net income and adjusts for non-cash items and changes in working capital to calculate cash flows from operating activities.
3. Identify depreciation expense as a non-cash item: Depreciation expense is a non-cash charge that reduces net income but does not involve an actual cash outflow. Under the indirect method, it is added back to net income to adjust for its non-cash nature.
4. Differentiate other items in the problem: Issuance of common stock is a financing activity, purchase of equipment is an investing activity, and payment of dividends is a financing activity. These are not classified as operating activities.
5. Conclude that depreciation expense is classified as an operating activity under the indirect method because it adjusts net income for non-cash charges related to the use of long-term assets.