What non-cash items should you add back when calculating cash flow from operations?

• A. Dividends paid
• B. Cash interest payments
• C. Capital expenditures
• D. Depreciation and Amortization, impairment charges, and stock-based compensation; others as necessary to reflect true cash generation.

Answer: (D)

The idea here is that cash flow from operations uses the indirect method, starting with net income and adding back items that lowered net income but didn’t actually use cash in the period. Non-cash expenses reduce reported earnings without pulling cash out of the business, so you add them back to get to the true cash generated by operations.

Depreciation and amortization are classic examples: they reduce net income yet involve no current cash outlay. Impairment charges similarly cut earnings but don’t require an immediate cash payment. Stock-based compensation lowers net income but is a non-cash expense at the grant date, so it’s added back as well. Any other non-cash charges that appropriately reflect cash generation should be included so the cash flow figure isn’t distorted by accounting measurements.

Dividends paid are cash outflows and belong in financing activities, not operating activities. Cash interest payments are cash outlays and are not non-cash items to be added back. Capital expenditures are investing activities, not operating activities.