WEBVTT 1 00:00:00.690 --> 00:00:02.580 Welcome to this month of August, 2 00:00:02.710 --> 00:00:07.500 which is going to give me the opportunity to introduce three new concepts, 3 00:00:07.850 --> 00:00:10.140 instruments in financial accounting. 4 00:00:11.640 --> 00:00:16.220 You remember in July we started investing in intangibles. 5 00:00:16.600 --> 00:00:20.060 We wanted to develop new products. We needed innovation. 6 00:00:20.560 --> 00:00:24.820 We hired a few people and we decided to capitalize the research and development 7 00:00:25.340 --> 00:00:30.020 expenses. It's a kind of intangible asset, which is built from inside. 8 00:00:30.800 --> 00:00:32.260 In August. It's a different story. 9 00:00:32.600 --> 00:00:35.420 We are going to invest in an intangible asset, 10 00:00:35.720 --> 00:00:38.780 but we are going to purchase it from outside. 11 00:00:39.590 --> 00:00:43.620 Let's elaborate a little bit on that. What is happening in August 1st, 12 00:00:43.950 --> 00:00:47.020 sales are as high as anticipated, 13 00:00:47.310 --> 00:00:50.580 three thousand one thousand eight hundred in b2c, 14 00:00:50.800 --> 00:00:52.540 1,200 in B2 B. 15 00:00:53.040 --> 00:00:57.260 We anticipate that in September sales are going to be back again 16 00:00:57.770 --> 00:01:02.380 5,300 and we would like to have some safety net in terms of 17 00:01:02.610 --> 00:01:03.443 inventory. 18 00:01:03.760 --> 00:01:08.660 So we anticipate an inventory target at the end of August of 40% of 19 00:01:09.180 --> 00:01:10.580 September forecast sales, 20 00:01:10.870 --> 00:01:15.660 which is about 1,720 as a consequence. Mechanically, 21 00:01:15.920 --> 00:01:19.860 the production has to be in August, 3000 220, 22 00:01:20.150 --> 00:01:25.140 which consists in the sales of August plus the INT target 23 00:01:25.720 --> 00:01:26.780 for the end of the month, 24 00:01:26.990 --> 00:01:30.500 minus the number of units we already have in the warehouse. 25 00:01:31.350 --> 00:01:33.660 3000 is less than the capacity of the machine, 26 00:01:33.960 --> 00:01:36.540 so the number of workers remains the same. 27 00:01:37.000 --> 00:01:40.060 We want to hire an additional engineer, 28 00:01:40.620 --> 00:01:45.100 researcher so that we intensify the investment in research and development 29 00:01:45.720 --> 00:01:49.300 and in order to prepare the new manufacturing facility, 30 00:01:49.320 --> 00:01:53.940 we anticipate for October we have to prepare for quality of 31 00:01:53.970 --> 00:01:58.060 execution in business operations and we buy a software license 32 00:01:58.760 --> 00:02:01.620 in order to improve our production planning process. 33 00:02:02.760 --> 00:02:07.460 We pay 18,000 euros to have the right to use this 34 00:02:07.820 --> 00:02:10.660 software during six months. It's paid in advance. 35 00:02:11.240 --> 00:02:14.940 We are going to have this possibility and this opportunity during six months, 36 00:02:15.240 --> 00:02:18.060 but we pay the six months at the very beginning. 37 00:02:19.250 --> 00:02:23.260 This software license is going to be paid at the end of August, 38 00:02:23.520 --> 00:02:27.220 so we are going to see the cost of this license in September, 39 00:02:27.400 --> 00:02:29.780 but we have the cash out in August. 40 00:02:31.120 --> 00:02:34.900 No major change as far as the organizational chart is concerned. 41 00:02:35.650 --> 00:02:39.380 Same for management, administration, sales and engineering. 42 00:02:39.880 --> 00:02:42.580 The same for production, supervision and workers. 43 00:02:43.120 --> 00:02:46.740 We just add an additional person in research and development, 44 00:02:46.990 --> 00:02:49.180 which is not going to show in the p and l. 45 00:02:49.410 --> 00:02:52.780 It's going to show in the capitalized r and d expenses. Again, 46 00:02:53.730 --> 00:02:57.260 calculation of production costs is quite the same as usual, 47 00:02:57.840 --> 00:03:02.660 we have anticipated some sales. We have a target for in inventories. 48 00:03:02.850 --> 00:03:07.180 This is why the production is planned at the level of 3,220 49 00:03:08.340 --> 00:03:12.900 purchase and consumption of raw materials, supervision, workers depreciation, 50 00:03:13.110 --> 00:03:15.260 total cost, total cost per unit, 51 00:03:15.350 --> 00:03:19.300 which is total cost divided by the number of units. Now, 52 00:03:19.300 --> 00:03:22.540 as far as I inventories are concerned, it's absolutely straightforward. 53 00:03:23.580 --> 00:03:27.260 Business as usual, beginning plus production minus sales is, 54 00:03:27.480 --> 00:03:30.420 and to keep on with the calculation, 55 00:03:30.520 --> 00:03:34.420 we replace units by currency units. If you remember, 56 00:03:34.920 --> 00:03:39.100 the cost of the inventory was 18 point 15 at the beginning. 57 00:03:39.760 --> 00:03:43.100 Now we produce at 18.64. 58 00:03:43.320 --> 00:03:46.620 It is going to be the cost associated with the end inventory. 59 00:03:47.120 --> 00:03:49.540 The cost of sales is an average between these two. 60 00:03:50.040 --> 00:03:54.780 The cost of good sold is 55,192, 61 00:03:54.910 --> 00:03:58.140 which represents a unit cost, which is 18.4. 62 00:03:58.210 --> 00:04:01.140 There's absolutely no innovation in that kind. 63 00:04:01.360 --> 00:04:03.260 Now we can start building the p and l. 64 00:04:03.560 --> 00:04:07.700 We have sales revenues minus cost of sales, just calculated. 65 00:04:07.920 --> 00:04:12.460 It gives us a gross margin and administrative expenses, selling expenses, 66 00:04:13.140 --> 00:04:17.380 engineering no r and d because we capitalize the r and d expenses 67 00:04:17.960 --> 00:04:19.340 and no license cost. 68 00:04:19.680 --> 00:04:24.260 We buy the license at the end of the month and we are going to expense 69 00:04:24.810 --> 00:04:29.300 this license starting in September. The operating profit, 70 00:04:29.680 --> 00:04:34.540 the EBIT is 20,000 and something minus interest, minus taxes. 71 00:04:34.960 --> 00:04:37.820 It gives us a bottom line, net earnings, 72 00:04:38.290 --> 00:04:41.140 16,135. 73 00:04:41.440 --> 00:04:43.620 As we anticipate we are going to build a factory, 74 00:04:44.050 --> 00:04:48.260 there's absolutely no reason why we should return the cash to shareholders and 75 00:04:48.820 --> 00:04:50.660 business as usual. We reinvest. 76 00:04:50.760 --> 00:04:55.540 We retain 100% of the earnings once we have built a p and l, 77 00:04:55.880 --> 00:05:00.740 and once we have decided what we do with the earnings after tax on the bottom 78 00:05:00.740 --> 00:05:02.380 line, we can move to cash. 79 00:05:03.250 --> 00:05:07.860 Cash flows is cash in minus cash out. Cash in is cash from sales. 80 00:05:08.560 --> 00:05:10.220 To calculate the cash from sales, 81 00:05:10.320 --> 00:05:14.980 we have to start from beginning accounts receivable plus sales minus 82 00:05:15.250 --> 00:05:19.260 what is due by the customers at the end of the month, which is a B2B sales. 83 00:05:20.130 --> 00:05:22.500 Cash is low, is 96,500. 84 00:05:23.000 --> 00:05:27.780 No increase of any kind in financial resources like financial debt or equity, 85 00:05:28.070 --> 00:05:32.820 which will be the case in the module five months of October. 86 00:05:33.360 --> 00:05:38.300 So this is a cash in. Cash out is about what we pay to the suppliers. 87 00:05:38.520 --> 00:05:41.260 Now, it's no more accounts receivable, it's accounts payable, 88 00:05:41.560 --> 00:05:44.300 but if you remember what is due at the end of the month, 89 00:05:44.330 --> 00:05:46.700 it's 50% of the purchases of the month. 90 00:05:47.210 --> 00:05:50.260 Same calculation and in terms of cash out, 91 00:05:50.320 --> 00:05:53.980 we have to cash out for suppliers for administration, sales, 92 00:05:54.980 --> 00:05:58.340 engineering, production, supervision, production workers, 93 00:05:58.800 --> 00:06:00.260 no tax because it's paid later, 94 00:06:00.960 --> 00:06:03.260 no dividend because we don't pay any dividend so far, 95 00:06:03.760 --> 00:06:08.740 but we have to pay for the development now the four engineers and researchers, 96 00:06:09.280 --> 00:06:13.420 and we pay for the software license, which is minus 18,000. 97 00:06:13.690 --> 00:06:15.620 It's cash out in August. 98 00:06:15.810 --> 00:06:20.540 It's going to be expensed starting in September. Obviously. 99 00:06:20.800 --> 00:06:23.540 The last slide is interest expense, which is cash out. 100 00:06:24.040 --> 00:06:27.420 Now we have cash in minus cash out. It's almost at breakeven. 101 00:06:27.690 --> 00:06:30.820 It's slightly negative, not because business operations are not doing well, 102 00:06:31.080 --> 00:06:33.220 but simply because we are investing, 103 00:06:33.720 --> 00:06:37.580 we are hiring a new engineer and we have purchased a license, 104 00:06:37.800 --> 00:06:42.020 so at the end of the day it's an investment which is 19,500. 105 00:06:43.450 --> 00:06:47.420 Cash at the end of the period gives us the opportunity to calculate and build 106 00:06:47.420 --> 00:06:49.700 the balance sheet. But before we build the balance sheet, 107 00:06:49.870 --> 00:06:53.540 there are a few technical comments which are absolutely fundamental. 108 00:06:54.570 --> 00:06:59.540 What about the non-current intangible fixed assets and what about 109 00:06:59.620 --> 00:07:02.140 deferred charge? Deferred expense, 110 00:07:02.670 --> 00:07:07.460 which is going to give us the opportunity to introduce what an operating current 111 00:07:07.510 --> 00:07:12.380 asset is and what an operating current liability is with an extended version 112 00:07:12.440 --> 00:07:14.220 of the working capital requirement. 113 00:07:15.150 --> 00:07:19.140 Let's start with a non-current intangible fixed asset. 114 00:07:20.160 --> 00:07:23.500 You remember that we have so far some intangible asset, 115 00:07:23.500 --> 00:07:26.820 which is a capital asset in progress. Under construction, 116 00:07:26.820 --> 00:07:30.180 we are capitalizing the research and development expenses. 117 00:07:30.200 --> 00:07:34.980 Capitalization goes on now, when we start the production, 118 00:07:35.530 --> 00:07:37.700 when we start selling the goods and services, 119 00:07:38.080 --> 00:07:42.860 we are going to stop the capitalization and any r and d 120 00:07:43.140 --> 00:07:46.780 spending related with the products we are marketing at. 121 00:07:46.780 --> 00:07:51.060 That beginning of the production is going to show as a cost in the p and l, 122 00:07:51.120 --> 00:07:53.180 we are not allowed to capitalize anymore. 123 00:07:53.330 --> 00:07:56.420 Once we have started producing and selling the goods and services, 124 00:07:56.800 --> 00:08:01.060 but then we are going to start amor the capitalize r and d expenses. 125 00:08:01.290 --> 00:08:03.460 This is true for research and development. 126 00:08:04.570 --> 00:08:07.820 It's also true to some extent for brands and patents, 127 00:08:08.000 --> 00:08:11.820 but the amortization is slightly different. Now, 128 00:08:11.820 --> 00:08:16.300 this was about capitalized r e expenses. With about the software. 129 00:08:17.120 --> 00:08:21.380 We purchased a right to use the software for a limited period of time, 130 00:08:22.080 --> 00:08:24.340 but we did not buy the software. 131 00:08:25.440 --> 00:08:28.420 We hold this right against cash, 132 00:08:28.800 --> 00:08:32.220 so we are holding something which is introduced in business operations. 133 00:08:32.370 --> 00:08:36.580 This is a perfect definition of an asset, but it's not a fixed asset. 134 00:08:37.040 --> 00:08:40.940 If you look at the fixed asset, you remember the tangibles. We bought a machine. 135 00:08:41.040 --> 00:08:42.420 We are the owner of the machine. 136 00:08:42.560 --> 00:08:46.220 We are also the owner of the intangible asset, 137 00:08:46.310 --> 00:08:49.860 which is going to be the ability to innovate and create a new product. 138 00:08:50.360 --> 00:08:51.420 We are not the owner. 139 00:08:51.760 --> 00:08:55.500 We just pay the right to use the software. 140 00:08:56.170 --> 00:09:01.100 It's a bit the same as for a premise. You pay the rent for a premise, 141 00:09:01.590 --> 00:09:04.060 which gives you the right to use the premise, 142 00:09:04.400 --> 00:09:07.460 but it does not transform you into the owner of the premise. 143 00:09:07.770 --> 00:09:10.980 It's exactly the same story, so it's not a fixed asset. 144 00:09:11.330 --> 00:09:15.300 This kind of software license, and it's not long term. 145 00:09:15.690 --> 00:09:18.260 It's rather current. It's rather short term, 146 00:09:18.480 --> 00:09:21.820 so it's going to show in the balance sheet, add a current asset. 147 00:09:22.290 --> 00:09:25.700 This is true for this license. This is true for the rent. Again, 148 00:09:25.880 --> 00:09:27.460 as far as real estate is concerned, 149 00:09:27.650 --> 00:09:31.700 this is true for prepared taxes and any prepared expenses. 150 00:09:32.290 --> 00:09:36.620 It's a current asset which shows in business operations. Now, 151 00:09:36.640 --> 00:09:40.820 as far as the software is concerned, it's a current operating asset. 152 00:09:41.840 --> 00:09:46.660 The firm is holding some assets like the inventory, the accounts receivable, 153 00:09:47.040 --> 00:09:51.260 the right to use the software. It's current because it's short term, 154 00:09:51.800 --> 00:09:56.700 but it's operating because it's opposed to financial asset, 155 00:09:56.830 --> 00:09:58.980 which is cash. In fact, 156 00:09:58.980 --> 00:10:03.780 cash is a one and unique specifically financial asset in the balance sheet 157 00:10:03.800 --> 00:10:06.100 on the left hand side, on the asset side, 158 00:10:06.430 --> 00:10:10.380 everything else is operating because it's related to business operations. 159 00:10:10.630 --> 00:10:15.260 Definitely cash is a financial asset. Interestingly, 160 00:10:15.370 --> 00:10:19.620 once we have defined what a current operating asset is, 161 00:10:20.200 --> 00:10:22.220 the counterpart on the other side of the balance, 162 00:10:22.220 --> 00:10:24.100 it is a current operating liabilities. 163 00:10:24.920 --> 00:10:28.540 The firm has created some commitment, some liabilities, 164 00:10:28.970 --> 00:10:31.740 financial commitments. The commitment to pay, 165 00:10:32.160 --> 00:10:35.460 we have to pay the financial creditors. This is named financial debt. 166 00:10:35.800 --> 00:10:38.700 We have to pay the suppliers. This is named accounts payable. 167 00:10:39.040 --> 00:10:41.820 We have to pay the state. This is about income tax. 168 00:10:42.490 --> 00:10:46.700 Some of these liabilities are short term. They are current, 169 00:10:47.130 --> 00:10:49.380 some are long-term, they are non-current. 170 00:10:50.010 --> 00:10:54.260 Some are operating liabilities as opposed to financial liabilities. 171 00:10:55.130 --> 00:10:59.060 Operating means related with business operations, accounts payable, 172 00:10:59.470 --> 00:11:03.260 taxes payable. The others are financial liabilities. 173 00:11:03.490 --> 00:11:06.740 What is due to financial creators, financial debt, 174 00:11:06.840 --> 00:11:10.140 be it long term or short term. Now, 175 00:11:10.140 --> 00:11:14.580 once we have explained that we can build the balance sheet and a little bit 176 00:11:14.820 --> 00:11:18.380 restructure the balance sheet on the asset side, what do we have? Property, 177 00:11:18.380 --> 00:11:23.020 plant and equipment growth minus accumulated depreciation and 178 00:11:23.110 --> 00:11:24.780 other months of depreciation. 179 00:11:25.400 --> 00:11:28.740 The months of depreciation shows in the production cost, by the way, 180 00:11:29.160 --> 00:11:30.860 so we have property, plant, and equipment. 181 00:11:31.120 --> 00:11:36.060 Net intangible assets are incremented by the capitalized research and 182 00:11:36.060 --> 00:11:38.100 development expenses of the months of August, 183 00:11:38.480 --> 00:11:42.660 and we have the total net non-current fixed asset, 184 00:11:43.110 --> 00:11:47.980 65,500. You remember we calculated the level of inventory, 185 00:11:47.980 --> 00:11:51.460 32,000. We have a accounts receivable, 30,000, 186 00:11:51.920 --> 00:11:56.420 and we have another current operating asset, which is a prepared expense. 187 00:11:56.560 --> 00:12:01.220 We paid in advance for the right to use the software and it's 18,000 188 00:12:01.710 --> 00:12:06.580 total current operating asset. There is another current asset, 189 00:12:06.580 --> 00:12:08.700 but which is financial, which is cash. 190 00:12:09.230 --> 00:12:14.060 Total asset is 171,920. 191 00:12:14.760 --> 00:12:15.593 Of course, 192 00:12:15.640 --> 00:12:19.660 we have the same figure for the bottom line of the equity and liabilities, 193 00:12:20.240 --> 00:12:23.140 but let's build it again. Capital no change, 194 00:12:23.560 --> 00:12:27.260 retain earnings incremented by the earnings after tax of the month because we 195 00:12:27.260 --> 00:12:30.860 decided to reinvest to retain 100% of the profit. 196 00:12:31.650 --> 00:12:33.740 Financial debt, no change, and by the way, 197 00:12:33.740 --> 00:12:36.780 it's long term because it's going to be paid later. 198 00:12:37.060 --> 00:12:41.620 I would say no dividends payable because we decided to reinvest retain 199 00:12:41.680 --> 00:12:44.020 100% of the earnings accounts payable. 200 00:12:44.150 --> 00:12:48.980 Calculated income tax payable is incremental by the amount of 201 00:12:49.030 --> 00:12:53.900 additional tax payable as a consequence of making a profit in August, 202 00:12:54.600 --> 00:12:58.380 and we have then the possibility to calculate the current operating liabilities, 203 00:12:58.750 --> 00:13:03.740 which added to the non-current financial debt and the shareholders equity gives 204 00:13:03.840 --> 00:13:07.500 us the sum of equity and liabilities, which matches with assets. 205 00:13:07.530 --> 00:13:10.900 This is absolutely mechanical, no surprise to that. 206 00:13:11.600 --> 00:13:15.740 Now let's start the financial analysis business as usual, we start with sales. 207 00:13:16.230 --> 00:13:20.140 Sales are down. It's interrupting this fantastic growth. Why? 208 00:13:20.140 --> 00:13:23.020 Because people are on holidays and they buy less product. 209 00:13:23.370 --> 00:13:27.380 It's going to start growing again in September, no big deal. 210 00:13:27.530 --> 00:13:28.700 What about margins? 211 00:13:29.240 --> 00:13:34.100 The gross margin is a little bit better because we have more B2C and 212 00:13:34.100 --> 00:13:36.500 less B2B relative to no problem, 213 00:13:37.200 --> 00:13:41.460 but we have a lower operating margin percentage to sales. 214 00:13:42.000 --> 00:13:45.140 Why? Because we have less sales. So at the end of the day, 215 00:13:45.240 --> 00:13:48.500 the fixed costs remain fixed, and if we have less sales, 216 00:13:48.560 --> 00:13:50.580 we have less economies of scale. 217 00:13:50.930 --> 00:13:55.420 This is why the gross margin is a little bit up. This is a mix b2b, 218 00:13:55.760 --> 00:13:56.593 b2c, 219 00:13:56.680 --> 00:14:00.820 but the operating margin is lower as a percentage to sales because we have kind 220 00:14:00.820 --> 00:14:02.460 of these economies of scale. 221 00:14:03.090 --> 00:14:07.020 Then we can move to the kind of cashflow statement, cash from operations. 222 00:14:07.320 --> 00:14:12.180 You remember we have abit minus current change in operating working capital 223 00:14:12.180 --> 00:14:16.420 requirement. It gives us a current fund from operations, 23,000, 224 00:14:16.960 --> 00:14:20.660 but we have to take into account the purchase of software license, et cetera, 225 00:14:20.840 --> 00:14:21.400 et cetera, 226 00:14:21.400 --> 00:14:26.380 and the free cashflow is minus 960 and then there is a 227 00:14:26.380 --> 00:14:30.300 problem. There is a problem because this information is quite confusing. 228 00:14:30.300 --> 00:14:32.620 If you look at the software license payment, 229 00:14:32.720 --> 00:14:37.660 the tax payment and the interest expense paid the first one, it's cash out, 230 00:14:38.360 --> 00:14:42.060 but it is not an expense and not yet an expense. 231 00:14:42.220 --> 00:14:45.340 I would say the tax payment, it's an expense, 232 00:14:45.840 --> 00:14:47.980 but it is not a cash outlet, 233 00:14:48.480 --> 00:14:51.820 and the last one is an expense and a cash outlet. 234 00:14:51.820 --> 00:14:55.940 So you understand that it's absolutely not consistent from one line to the 235 00:14:55.940 --> 00:14:57.940 other, so it's extremely confusing. 236 00:14:58.650 --> 00:15:02.860 There's an obvious need for clearer accounting information. 237 00:15:03.240 --> 00:15:08.100 We would like to show all the expenses cashed out or not yet 238 00:15:08.100 --> 00:15:08.933 cashed out. 239 00:15:09.080 --> 00:15:13.380 We would like to calculate the cashflow generated by the business operations in 240 00:15:13.380 --> 00:15:15.180 this case is 5,040. 241 00:15:15.720 --> 00:15:18.860 We would like to have a clear split between activity, 242 00:15:19.740 --> 00:15:21.580 recurrent activity and investment. 243 00:15:22.010 --> 00:15:26.380 Then we need to find a way to introduce an expense which has not yet been paid, 244 00:15:27.240 --> 00:15:31.980 and we need also to find a way to take into account a cashflow which is not yet 245 00:15:32.620 --> 00:15:34.900 consumed, which is not yet expensed, 246 00:15:35.040 --> 00:15:39.620 and there's one solution which consists in extending the concept of 247 00:15:39.730 --> 00:15:41.740 working capital requirement. 248 00:15:42.640 --> 00:15:47.420 You remember I I already discussed with you the operating working capital 249 00:15:47.490 --> 00:15:49.780 requirement, which is about inventories, 250 00:15:49.980 --> 00:15:54.980 accounts receivable or trade accounts receivable, less trade accounts payable. 251 00:15:55.450 --> 00:15:59.420 This is what is in the hands of people in charge of business operations, 252 00:16:00.200 --> 00:16:04.500 but business activities is generating other assets and 253 00:16:04.980 --> 00:16:05.813 liabilities. 254 00:16:06.400 --> 00:16:10.260 So this is why we have to extend from the operating working capital requirement 255 00:16:10.260 --> 00:16:12.620 to the full working capital requirement. 256 00:16:13.160 --> 00:16:17.900 And then the definition of the working capital requirement is the sum of all the 257 00:16:17.900 --> 00:16:22.460 current operating assets minus the sum of all the current operating 258 00:16:22.900 --> 00:16:23.610 liabilities. 259 00:16:23.610 --> 00:16:28.500 This is why I had to introduce this concept of current operating asset 260 00:16:28.800 --> 00:16:33.060 and current operating liability. Now, in the current operating assets, 261 00:16:33.060 --> 00:16:35.700 you already have the inventories and accounts receivable. 262 00:16:36.240 --> 00:16:40.260 In the current operating liabilities, you already have the accounts payable, 263 00:16:40.760 --> 00:16:44.300 so basically what makes a difference between the operating working capital 264 00:16:44.300 --> 00:16:49.100 requirement and the full working capital requirement is all these other 265 00:16:49.170 --> 00:16:51.940 current operating assets and liabilities, 266 00:16:53.150 --> 00:16:57.580 other current operating assets minus other current operating liabilities. 267 00:16:58.090 --> 00:17:02.540 It's named net accruals or non-operating working 268 00:17:02.650 --> 00:17:04.140 capital requirement. 269 00:17:05.510 --> 00:17:10.210 So when you make the split between operating and non-operating working capital 270 00:17:10.210 --> 00:17:11.043 requirement, 271 00:17:11.480 --> 00:17:15.210 what is very interesting is that you have two different perspectives. 272 00:17:15.640 --> 00:17:18.770 When you want to manage a business operations of the company, 273 00:17:19.270 --> 00:17:22.930 you would like to know if the quality of execution is okay or not. 274 00:17:23.680 --> 00:17:28.450 This is in the operating working capital requirement because in this 275 00:17:28.470 --> 00:17:31.610 figure you have the managerial perspective of the company, 276 00:17:32.430 --> 00:17:36.050 but when you pay the taxes at the end of the period or at the beginning of next 277 00:17:36.050 --> 00:17:38.370 period when you pay the rent in advance or whatsoever, 278 00:17:38.590 --> 00:17:41.010 it has nothing to do with the quality of execution. 279 00:17:41.240 --> 00:17:43.170 It's just a technical perspective. 280 00:17:43.800 --> 00:17:47.610 Then it should be in the non-operating working capital requirement. 281 00:17:48.120 --> 00:17:48.970 Then you understand 282 00:17:49.060 --> 00:17:51.180 That when you make the speed between these two, 283 00:17:51.640 --> 00:17:55.140 you have the possibility to understand what comes from management and what comes 284 00:17:55.170 --> 00:17:59.100 from externalities. I would say to be honest, in practice, 285 00:17:59.600 --> 00:18:04.500 the border between managerial and technical perspectives is a little bit fuzzy, 286 00:18:05.160 --> 00:18:09.020 but as far as we are concerned now it's quite clear. 287 00:18:09.640 --> 00:18:13.980 So when we compute the working capital requirement, what do we start with? 288 00:18:14.040 --> 00:18:18.660 We start with the operating working capital requirement In factor rates are up, 289 00:18:19.140 --> 00:18:20.860 accounts receivable down. Why? 290 00:18:20.860 --> 00:18:25.220 Because we are in August and we sell less accounts payable is a bit down because 291 00:18:25.220 --> 00:18:28.220 we had very high figure at the very beginning of this month, 292 00:18:28.640 --> 00:18:29.740 so at the end of the day, 293 00:18:30.160 --> 00:18:34.500 the operating working capital requirement is down from 38 to 294 00:18:34.500 --> 00:18:38.260 36,000 is down by 1,872, 295 00:18:39.080 --> 00:18:40.460 but if you look at the bottom line, 296 00:18:40.520 --> 00:18:43.820 the working cap capital requirement itself is very much up. 297 00:18:44.330 --> 00:18:46.500 It's up by 12,000. Why? 298 00:18:46.730 --> 00:18:50.260 Because we have introduced a current operating asset, 299 00:18:50.260 --> 00:18:52.580 which has nothing to do with quality of execution. 300 00:18:53.440 --> 00:18:58.300 It has something to do with the fact that when the software license company is 301 00:18:58.500 --> 00:18:59.780 offering this service for six months, 302 00:19:00.000 --> 00:19:02.940 it requires that the six months are paid in advance. 303 00:19:02.960 --> 00:19:05.220 It has nothing to do with the level of inventories. 304 00:19:05.850 --> 00:19:10.820 This is why the current operating assets are very much up and in front of 305 00:19:10.820 --> 00:19:11.160 that. 306 00:19:11.160 --> 00:19:15.300 The other current operating liabilities are slightly up not because of dividend, 307 00:19:15.400 --> 00:19:17.540 but because of income tax payable. 308 00:19:18.130 --> 00:19:22.340 Then you understand that the evolution of the working capital requirement is 309 00:19:22.340 --> 00:19:25.460 explained by better management perspective, 310 00:19:26.360 --> 00:19:29.060 but worth technical perspective. Why? 311 00:19:29.130 --> 00:19:32.180 Because of this current operating asset, 312 00:19:32.360 --> 00:19:35.620 it has nothing to do with the quality of operations. 313 00:19:37.090 --> 00:19:41.470 And then when you want to calculate and recompute the operating 314 00:19:41.550 --> 00:19:44.310 cashflow, of course we are going to get to the same figure. 315 00:19:44.930 --> 00:19:49.190 We start from ebitda. EBITDA is a top line of the cashflow statement, 316 00:19:49.450 --> 00:19:52.150 the same as sales is a top line of the p and l, 317 00:19:52.930 --> 00:19:56.150 but then we deduct from EBITDA the interest expense. 318 00:19:56.770 --> 00:19:58.750 We deduct the accrued taxes. 319 00:19:59.720 --> 00:20:01.910 These are all accounted expenses, 320 00:20:02.090 --> 00:20:04.750 so we calculate something which is in the gross cashflow, 321 00:20:05.370 --> 00:20:07.910 but the gross cashflow is kind of potential cashflow. 322 00:20:07.910 --> 00:20:12.390 It has nothing to do with the actual cash because we have to take now the impact 323 00:20:12.390 --> 00:20:15.230 of the change in a working capital requirement, 324 00:20:15.520 --> 00:20:20.110 which is very much affected by prepared expenses and deferred 325 00:20:20.110 --> 00:20:24.270 payments. The operating cashflow again, is obviously the same, 326 00:20:24.690 --> 00:20:29.590 but now you can show in a cashflow statement all accounted expenses which 327 00:20:29.780 --> 00:20:32.990 have been paid or which are going to be paid later, 328 00:20:33.330 --> 00:20:37.110 and the fact that they are going to be paid later in a case of accrued taxes, 329 00:20:37.450 --> 00:20:38.250 for example, 330 00:20:38.250 --> 00:20:42.230 is taken into account in the change in the working capital requirement. 331 00:20:43.360 --> 00:20:46.260 Now, you can keep on with your analysis and you say, oh, 332 00:20:46.260 --> 00:20:49.980 cash position is deteriorating because of working capital requirement. 333 00:20:50.480 --> 00:20:54.940 It has increased by 12,000 and almost 100. It's a cash consumption. 334 00:20:55.680 --> 00:20:58.300 Is it because of bad management? No. 335 00:20:58.600 --> 00:21:01.740 The operating working capital requirement again, is down. 336 00:21:02.330 --> 00:21:06.060 It's about prepared expenses, it's about technical stuff, 337 00:21:06.360 --> 00:21:09.980 and then you understand that making the split between operating and 338 00:21:10.050 --> 00:21:14.900 non-operating working capital requirement is an extremely big step 339 00:21:14.900 --> 00:21:19.300 forward in order to improve the relevance of financial analysis. 340 00:21:19.960 --> 00:21:22.460 Now, once you have calculated the net cash, 341 00:21:22.460 --> 00:21:25.540 which comes from business operations, 5,000 and something, 342 00:21:26.160 --> 00:21:30.620 you deduct how much you invest in the future capital expenditures, 343 00:21:31.260 --> 00:21:33.940 tangible intangible assets, 6,000, 344 00:21:34.120 --> 00:21:38.100 and then the free cash flow is negative, but you understand why. 345 00:21:39.940 --> 00:21:40.790 Last concept, 346 00:21:41.810 --> 00:21:46.430 you remember I mentioned something like gross cashflow in the 347 00:21:46.630 --> 00:21:48.990 respective companies you probably belong to. 348 00:21:49.490 --> 00:21:54.150 The gross cashflow is very much introduced as net earnings plus 349 00:21:54.350 --> 00:21:57.990 depreciation. Now, if you calculate net earnings plus depreciation, 350 00:21:57.990 --> 00:22:00.630 you have 16,000 something plus 1000. 351 00:22:00.810 --> 00:22:05.550 It is 17,135 and what I name gross 352 00:22:05.550 --> 00:22:09.150 cashflow is EBITDA minus interest minus accrued taxes, 353 00:22:09.560 --> 00:22:13.670 which is also 17,135. 354 00:22:14.890 --> 00:22:19.590 The problem with the traditional perspective of gross cashflow earnings 355 00:22:19.710 --> 00:22:22.750 plus depreciation is you said to people, ah, 356 00:22:22.770 --> 00:22:24.990 the sum of these two figures is about cash, 357 00:22:25.650 --> 00:22:29.590 but net earnings is not cash and depreciation is not cash, 358 00:22:29.970 --> 00:22:33.910 and the reason why you have to add depreciation to the net earnings is because 359 00:22:33.910 --> 00:22:37.310 beforehand you deducted the depreciation from net earnings. 360 00:22:37.530 --> 00:22:41.910 That's not extremely clear for people in business operations. 361 00:22:42.810 --> 00:22:45.790 Now, when you discuss with people in business and you say, okay, 362 00:22:46.090 --> 00:22:48.550 we have the the cash operating profit, 363 00:22:48.660 --> 00:22:50.950 they know what it is about interest expense. 364 00:22:50.950 --> 00:22:53.870 They understand that you have to pay the interest to the bank taxes. 365 00:22:54.210 --> 00:22:56.670 You understand that you have to pay taxes to the state. 366 00:22:57.320 --> 00:22:59.710 These are all of them cash items. 367 00:23:00.700 --> 00:23:04.910 Then you understand that when you calculate ibitda minus interest minus taxes, 368 00:23:05.570 --> 00:23:07.030 you get the same result, 369 00:23:07.210 --> 00:23:11.990 but you improve very much the readability of the cash flow statement. 370 00:23:12.250 --> 00:23:16.910 The interpretation of the gross cash flow is a cash which is potentially 371 00:23:16.910 --> 00:23:21.190 generated by business operations, but from potential to actual, 372 00:23:21.540 --> 00:23:26.310 what do you need to introduce the change in a working capital requirement with 373 00:23:26.310 --> 00:23:28.550 the understanding of the quality of execution, 374 00:23:28.700 --> 00:23:33.110 what comes from operations and what comes from non operations item, 375 00:23:35.150 --> 00:23:38.380 which kind of knowledge did we develop during this month? First, 376 00:23:38.780 --> 00:23:43.180 a broader and more comprehensive vision of the working character requirement. 377 00:23:43.550 --> 00:23:44.340 Again and again, 378 00:23:44.340 --> 00:23:48.180 making the split between operating and non operating working capture 379 00:23:48.180 --> 00:23:48.780 requirements. 380 00:23:48.780 --> 00:23:53.500 This allows us to do something very important to adopt a different perspective 381 00:23:53.640 --> 00:23:55.980 for management and technicalities. 382 00:23:57.040 --> 00:24:01.820 We have introduced the concept of current assets and current liabilities and 383 00:24:01.820 --> 00:24:05.140 current operating assets, current operating liabilities. 384 00:24:06.050 --> 00:24:10.900 Then it allowed us with EBITDA and working capital requirement to have 385 00:24:10.940 --> 00:24:12.500 a consistent presentation. 386 00:24:12.680 --> 00:24:17.620 Now of the operating cashflow we take into account and we show all the expenses 387 00:24:18.080 --> 00:24:22.900 we take into account the prepared expenses and the deferred expenses. 388 00:24:23.890 --> 00:24:27.220 Last but not least, in this months of August, 389 00:24:27.310 --> 00:24:30.300 we've been able to understand that the gross cashflow, 390 00:24:30.590 --> 00:24:34.140 which is presented by corporations as net earnings plus depreciation, 391 00:24:34.800 --> 00:24:38.260 is much clearer when you say to people it's a bida, 392 00:24:38.260 --> 00:24:41.620 which you generate in business operations, less interest to the bank, 393 00:24:41.730 --> 00:24:46.100 less taxes to the state. That the way it works. Now, 394 00:24:46.100 --> 00:24:49.260 we have invested during two months in research and development, 395 00:24:49.320 --> 00:24:52.380 we need a third month for capitalized r and d expenses. 396 00:24:53.160 --> 00:24:56.700 We have invested in the software thanks to which we are going to improve the 397 00:24:56.700 --> 00:25:01.020 quality of execution in the business operations and in manufacturing. 398 00:25:01.440 --> 00:25:02.273 In September, 399 00:25:02.320 --> 00:25:06.820 we finalize the preparation of these big growth and investment, 400 00:25:06.820 --> 00:25:09.460 which is to build a factory in October, 401 00:25:09.790 --> 00:25:14.140 which will be by the way for module five, but before we start module five, 402 00:25:14.280 --> 00:25:16.260 we have to complete module four.