Accounting: Cash Flow Statement Intro

as opposed to gap earnings Well why would cash profits

be any different from accounting profits Ay there's the rub

and you've gotten your first glimpse as to why accounting

is a profession and not a hobby So let's explain

the notion by walking through an example that we're going

away over simplify for the sake of clearly explaining the

difference between cash flow and accounting earnings Very important difference

here So here we go We have a little drone

company established in two thousand seventeen We deduct our expenses

to calculate operating profit Right We have revenues hundred million

box expenses eighty million bucks and we get pretax operating

profit of twenty mill How do we determine the taxes

on the operating profit if taxes or thirty percent Easy

we get twenty million times that thirty percent and that

gives us yes six million dollars in taxes for that

period Subtract taxes from operating profit to calculate net profit

or earnings And yeah there we go Fourteen million bucks

Simple but not really It's the stuff that makes up

the eighty million dollars in expenses where we have issues

here Why while the eighty million and expenses wasn't all

cash expense huh What does that mean In order to

assemble the drones efficiently we spent forty million dollars on

a robot driven factory We spent that cash on the

factory at the very big ginning of this period were

just simplifying here And we estimate that the factory will

last in ten years and then be worth ten million

box when we sell it for parts So the value

of that robot factory will decline a total of thirty

million dollars over ten years Right Started forty then thirty

Then we sell it for ten again for simplicity in

this example will just use straight line depreciation me the

same amount of depreciation will attribute to the factory each

year year after year and appreciate the value of that

factory by the same amount for ten years That isthe

will decrease its value by three million dollars a year

Each year for ten years until we expect to sell

it and collect ten million dollars from the sale of

its parts on eBay or wherever of the eighty million

dollars in expenses we had this year Then we would

just a duck three million dollars in that robot factories

depreciation in value over its ten year period until we

have it valued as ten million bucks by twenty twenty

eight at which point we plan to sell it for

scrap If the robot factory is the only thing we're

depreciating well then we have a bit more cash flow

Then we have earnings In this year we have eighty

million dollars in total operating expense But because we had

three million dollars in depreciation it wasn't Akash expense this

year Well we only have seventy seven million of those

expenses as being paid in cash this year The three

million of those expenses were non cash That is there

in accounting charge we take to represent the decline in

value of that factory over time Why the three million

clowns are best guesses to roughly what that factory should

decline at over a decade And yes it's a very

rough gas We're just guesstimating So yeah there's a ton

of wiggle room to fake or create weird numbers that

help Worf heard us in accounting for all this along

the way Well anyway on seventy seven million of cash

expenses and six million of taxes Well after one hundred

million dollars in revenue we have one hundred minus the

seventy seven million there minus the six million in cash

profits Yeah or seventeen million total of cash profits or

catch flow even though we had fourteen million dollars of

accounting earnings So our cash earnings or cash profits or

three million dollars higher than our stated gap earnings Interesting

And remember that we spent the robot factory build dough

of forty million dollars on the last day of the

last period so that period or quarter showed huge outflow

of cash right That forty million dollars all went out

the door the day the factory was paid off and

in real life obviously there be progress payments and someone

But in this laboratory example we assume the factory was

completely done perfect and it actually worked In that moment

we gave them a check for forty million bucks in

cash So also note that on that last day our

balance sheet would have adjusted as well it would have

been prior to the robot factory purchase Well something like

this We've got seventy million dollars have cashed it in

there and not a whole lot of other assets But

then after the purchase well it would show only thirty

million in cash and attributed forty million dollars to that

robot factory that works are cash declined forty million dollars

in value and our robot factory materialized as if by

magic as plus forty million in value came out of

nowhere Forty million dollars transferred from cash to value we

attribute to the robot factory having and our shareholders equity

remained unchanged Nothing happened No action there Well we neither

created value nor destroyed value In this example we just

shifted assets around so that hopefully in the future we

can create value by being able to produce drones cheaper

faster and better with our brand bank and new robot

factory thing Following the cash flowing around the company throws

all kinds of curveballs that those either managing its books

or inspecting them for a potential investment in the company

Right Well what else might have moved Cash flows to

be different from gap stated earnings Well revenues for one

thing that is not all revenues might have been paid

in cash cash this year Like we could have sold

a whole lot of drones three years ago for eighteen

million dollars paid up front deliver a ble to the

buyer But then we'd recognize those revenues as per contract

or am or ties them only when they were delivered

in one third installments over three years Well in that

case we'd be recognizing noncash revenues And from the cash

flow statement in operations we'd have to subtract six million

bucks worth of cash revenues from our cash flow totals

Well tons of other curveballs happen We won't get into

all of them yet First we have to divvy up

the three disciplines of cash flow itself because we'll cash

flows in a company we within three discrete separate categories

What are they Well they comprise the sections of cash

flow statements which you'll see on a wall of paperwork

They're accusing case All right The first one cash flow

from operations Yeah The first section covers the thought process

and basic arithmetic we just did above It states the

cash generated or loss from the basic operations of the

company and that given a period of time and is

usually cleverly labeled in public company filings as cash flow

from operations But cash flow statement also covers another area

Next one's called cash from financing activities So how do

you account for the change in the companies cash position

when they've raised cash money by offering shares of ownership

or equity to the public or own really to anyone

Well in that period of time the company would have

given over some of its equity in return for cash

So cash from financing activities is tracked differently from cash

from operating activities because it's just a completely different animal

It's on ly remotely related to the operational health of

the company itself not directly If company pays a cash

dividend well then that dividend comes out of this portion

of the casual statement as well And the clever label

cash flow from financing activities Yeah that's what it goes

there That was the father in the son The Holy

Spirit revolves around cash as it is deployed in the

company's own investing activity So yeah that's number three cash

from investing activities It covers the event where say our

little drone company sells a patent it no longer needs

for ten million dollars not part of its operations unless

it was a professional patent maker or something But it

ain't this's a drone maker So selling a patent isn't

part of its operations as a business And selling that

patent isn't about raising money for the company by selling

dead or equity to Wall Street It wasn't financing the

builder upgrade of anything with that patent sail It just

simply didn't need the patent laying around getting old and

stale and useless because the company had canceled plans for

its line of AH a singing telegram drones Well that

patent as an asset just goes away And the company

shows an increase of ten million dollars in cash or

cash assets on its balance sheets likely with the value

of its patent portfolio If it's aggregate Book value was

held at anything close to market values while declining from

say ninety million in patent values to now being on

Lee eighty million rights were taken Ten million of the

patent value and taken it out of our ninety million

of assets there And all right well the big message

here Cash flow statements deliver three key numbers They show

cash from operations Cash from financing events like selling shares

is part of an AI po or other fundraising activity

and cash from infesting activities like selling patents are buying

a robot factory If all of this was beginning to

grow hazy see in your brain Oh don't sweat it

for even a nanosecond will cover all this stuff in

detail later in the course We just want to tease

your mind with the concept that we'll be throwing your

way In the meantime you do your best to dodge 00:08:57.368 --> [endTime] the curve balls there