Final answer:
Depreciation expense and losses are added back to net income on the statement of cash flows because they do not represent actual cash outflows but are simply accounting entries that allocate the cost of an asset over time. Reinvesting profits into the business is crucial for growth, yet it is not represented as a non-cash adjustment on the cash flow statement.
Step-by-step explanation:
Under the indirect method of preparing the statement of cash flows, depreciation expense and losses are added back to net income because these items are non-cash expenses. They do not require an outflow of cash during the period; rather, they are accounting adjustments that spread the cost of an asset over its useful life.
When a company reinvests its profits, it is looking to grow by using its cash flow to pay for improvements or new assets. This can help generate more products and, subsequently, higher sales and cash flow. However, the act of reinvestment itself is not included in the depreciation and amortization adjustments on the statement of cash flows, which solely relates to accounting for the wear and tear on existing assets.
Consequently, depreciation expense and losses are added back to net income in the cash flow from operating activities because they are accounted for as reductions in income, but have not actually decreased the company's cash during the period. This adjustment allows the statement of cash flows to present a true reflection of the cash generated or used by the company’s operating activities.