Business Basics

Introduction to Business 

(Profits, Dividends, & Capital)

Financial Statements

In all types of businesses whether for-profit or non-profit, public or private, manufacturing or non-manufacturing, service or education, there are 3 types of Financial Statements that must always be used and they are:

Income & Expense Statement → sometimes call Profit/Loss

Balance Sheet

Cash Flow

When we look at Cash Flow all we are looking at is how much money is coming in and how much of it is being spent each day or each week or end month. They typical approach is to look at it each month. Cash Flows tell the business manager when money is low and other sources of income might be needed such as a bank loan.

It also tells managers that they should confident that they can pay all their monthly bills with money left over.

Another way to look at it is with this scenario: Suppose you earn $50,000/year after taxes which is given to you in equal monthly payments of $4,166.67. Your utilities are $500, mortgage is $1,500, food is $1,000, phone is $200, cable is $200, gasoline is $200, medical is $1,000, pro-rated property tax is $200, pro-rated CPA fees is $150, pro-rated vacation expense $250, prorated birthday expense is $200, Insurance is $300, pro-rated vet fees are $200, pro-rated yard expense is $200, pro-rated Christmas expense is $500, and misc. is $500.

Since each monthly expense is the same, then there is really no need to do all 12 months for this explanation, so I will show it for one month.

$4,166.67

$500

$1500

$1000

$200

$200

$200

$1000

$200

$150

$250

$200

$300

$200

$200

$500

$500

$7,100

($2933.33)

This Cash Flow shows a negative monthly balance which is going to be the same for the next 12 months so something needs to be adjusted. If we take all the money from the following accounts: vacation, birthday, yard, Christmas, and CPA, we can reduce monthly expenses by $1,000 which still leaves us a ($1933.33).

In case you are wondering about the parentheses, it is standard convention to use them when indicating a negative amount or a loss.

This Cash Flow example must have another source of income of at least $3,000/month in order to stay afloat... and, there is a good bet there a car payment has been omitted.

So, that is cash flow.

,

This Cash Flow example can also be used as an Income & Expense Statement (Profit/Loss), with the only difference being that all 12 months would be showing, not just 1. Again, in this particular example, there is going to be both a monthly as well as an annual loss.

Losses obviously are exactly opposite to profits.

Let's go back to my first scenario and let you know that there was actually a dual income for this family and that both spouses were earning an annual salary of $50,000.

$4,166.67 Income

$4,166.67 Income

$8,333.34 Total Income

$7,100.00 Total Expenses

$1,233.34 Difference

This would be referred to as profit. In business it is referred to as Net Income which is also referred to by many as the “bottom line.”

When a company has a bottom line focus, they want to make sure that they keep their expenses down so that the profits or bottom line increases.

So, why is there so much attention being paid to the bottom line?

Because, the Profits (bottom line) directly impacts a company's EPS (Earnings Per Share) and Dividends. EPS only relates to public companies that sell stock to investors. Companies that sell stock are referred to as Public because in order to sell stock they have to disclose their financial information to investors and to the public.

Going back to our above example of $1,233.34, let's suppose in this scenario that we sold stock and in our particular case, we had sold 10,000 shares of stock to investors. A general rule of thumb in the business world is to look at a company every 90 days or quarterly. Our scenario example data pertains to only a month, so we have to calculate 2 more months and since each of our 12 months are the same, all we have to do is multiply $1,233.34 times 3, to determine our quarterly profits.

$1,233.34 X 3 = $3,700.02

And, using the EPS ratio of

Earnings 3,700.02

Shares 10,000 0.370002/share or each share of our stock is worth 37 cents.

In this particular situation, our business could decide to share profits with their stockholders. When they share profits, the business gives its stockholders a dividend. Since we had a profit of 37 cents per share, we might decide to pay our stockholders a dividend of 5 cents per share or maybe even 10 cents per share.

Dividends are paid to stockholders as a way of thanking them for letting the company use their money to grow.

In order for us to explain Capital, our last term, we must look at the Balance Sheet.

The Balance Sheet has 3 basic sections:

• Assets
• Liabilities
• Equity

An Asset is the economic resource of a company both tangible and intangible. Tangible assets are the physical plants (buildings), pieces of equipment (machinery), bank loans, and other sources of revenue. Intangible assets are “Good Will” and owner's “sweat equity” and/or retained earnings or those earnings not paid out to stockholders in the form of dividends.

These assets are also referred to as capital and in some cases as capitisation.

One side of the Balance Sheet MUST equal the other side or Assets + Equity = Liabilities

Just as the Balance Sheet is interrelated with the Income & Expense Statement so too are Profits, Dividends, and Capital interrelated.

Other Basic Business articles will be posted in the days ahead.

Hope you enjoyed this one.

Any ideas for future articles is greatly appreciated and will be honored as they are received.