Right now we'll talk a little bit about kind of basic financial statements and giving you a very high level overview of that, let's get into some more specifics. I like this cartoon that says our books are balanced, half of our numbers are real and half of them are made up. I appreciate that having worked in that field a long time ago. So let's talk about what you need, if you're going to to put through an internal investment proposal for your corporate finance group. You want to have a detailed income statement. But only really detailed for the first year. Very high level. And maybe, years two and three, you can kind of do summary growth rates and stuff. Because we're starting out in a new business or a new product line, we really don't have much data to go on. And then you want to show sales. Okay, you want to show sales or revenues by product or service. And then you want to show cost of sales. And that can be a significant number. Or it can be a very small number, depending upon whether it's a manufactured product or a software developed product. But you have to generate an understanding of what is the cost, the incremental cost to the corporation, of generating the revenues that you're shown in your proposal. And that shows you the gross margin. Okay so sales less cost of sales is gross margin. And generally, as I've said in my previous lectures, that may be where you stop because of shared expenses. You don't have to create a new marketing company, the new marketing group, you don't have to create a new human resources group, you can utilize your accounting group. So, they're really interested in the what additional gross margin are you going to contribute to the organization. And so you may want to if there are incremental overhead costs, and I don't know what they may be, but think it through, it's your project after all. If there are incremental overhead costs then show those. But in general if you're simply going to use the shared resources of the organization, for all of your kind of general and administrative costs, those are not important. Now, the cash flow statement. Now what's the purpose of the cash flow statement? The purpose of it is to take the income statement and convert it into cash. Why do we do that? Well because the income statement is generally on an accrual basis. As I again said earlier. But when it comes down to it the most important part of a company is cash flow. So it converts the income statement from an accrual basis to a cash base. And that shows you whether, or not your self-financing or not. Is your project self-financing or not? And so, you, again, you want to have a fairly significant amount of detail than the first year and then very high level maybe for years 2 and 3. And so there are three basic parts of a cash flow statement. The first one is cash flow from operations and that's maybe the most important one. That is what cash are you generating from the operations of your project? That would be revenues less cost of goods sold, okay? The next thing would be what investing activities are required for my project? Meaning do I need to make asset purchases to support the project? Do I need to buy new equipment? How much of the investment itself, okay? And then, thirdly, you're talking about cash flow from financing activities. That means are you going to need incremental funds, something other than the limited capital budget that you already have to use in order to finance this project. So those three things are important and those are what the cash flow statement shows you. Okay. Then the balance sheet, okay again if you're a project you probably won't have a full-blown balance sheet but let's talk about what a full-blown balance sheet does for you. It shows current assets, and current assets are any assets that can be converted into cash in one year or less. It shows fixed assets. Fixed assets are like property, plant and equipment. They are not readily converted into cash. They are generally depreciated over some time frame. Current liabilities are those amounts, very similar to current assets. Current assets are assets that are converted to cash in one year. Liabilities are liabilities that must be paid within the next year. So they kind of match up against each other and the current assets plus current liabilities is something we call working capital. And hopefully, if you If you're doing well you have positive working capital. If you have negative working capital it means the company is going to have to finance you for that working capital deficit. Long term liabilities, long term debt that you may acquire, again projects aren't going to to have long term debt or maybe it will, maybe they'll decide to issue some type of a bond or something to finance a project. If it's a big project, it could have long term debt. But, generally they don't. And then reserves or equity in a typical standalone company, the equity basically is the accumulated amount of profits and loss for the company since the beginning of time. If you are a project, it may simply be an accounting of all the positive and negative cash flows of the organizations. That generally will run through what they a call, an inner company planning system. And then there are a number of financial ratios that you can create, or not create, but calculate from the balance sheet. A current ratio is how much do my current assets, cover my current liabilities. Hopefully it's more than one. Let's say, current ratio would be good, if it was two or three to one. Quick ratio means how much do my readily liquid assets pay my liabilities. Because current assets can include things like pre paid insurance or other assets that are basically used up in the first year but they don't they're not generally liquid. So liquid assets are like cash and marketable securities. So the quick ratio gives you a better understanding of how well can I pay my current liabilities. And then we can calculate return on capital. So when you put together these financial statements you want to have a comprehensive list of all the assumptions that you've used. Hopefully they're reasonable assumptions. You should be prepared to discuss those with the people that are analyzing your project. And you should always have in your back pocket somewhere a what if analysis that says, okay, somebody's going to ask you this. They'll say to you what if I give you $10 million to spend versus $5 million? Well, what if you only get two and half? What happens then? So you need to be prepared to answer those questions by having something that you've already thought through so you can pull out and say well here's here's what happens if we only get two and half million. You want to talk about growth rates, you want to talk about interest rates if you are using those. You basically want to have all your assumptions in a way that you can demonstrate that you've thought things through well and they're reasonable assumptions. I hope that this has been helpful. I don't think that you're going to become financial accounting people that are going to develop a bunch of internal financial statements. But at least you'll have a feel for how these statements will impact on how people will look at your project.
