Final answer:
In the indirect method of calculating cash flows from operating activities, a loss on the sale of equipment is added to net income. This adjustment is necessary as the loss impacts net income but does not represent an actual cash outflow from operating activities.
Step-by-step explanation:
In calculating cash flows from operating activities using the indirect method, a loss on the sale of equipment is added to net income. This is because the indirect method starts with the net income and then adjusts for changes in balance sheet accounts that have affected income but not cash. A loss on the sale of equipment is recorded on the income statement, which reduces net income, but it is not an actual cash outflow related to operating activities. Therefore, this non-cash expense is added back to net income on the statement of cash flows to reflect the actual cash position.
The statement of cash flows is a financial statement that provides aggregate data regarding all cash inflows and outflows a company receives from its ongoing operations and external investment sources. The indirect method reconciles net income with cash flow from operations by adding back non-cash expenses (such as depreciation and amortization) and losses, and subtracting non-cash revenues and gains. Therefore, including the loss from the sale of equipment helps to arrive at the net cash provided by operating activities, which is a crucial indicator of a company's financial health.