Cash is King: When I ask friends and peers that work in the investment industry what single skill they look for in a junior hire, the answer I most frequently hear is the ability to determine how any change on the financial statements affects cash. The reason is simple; on a long enough time horizon, cash is the most fundamental component of value. Even when a business if valued off of a multiple of revenue, the underlying assumption is that the revenue will create cash flow.

A CEO might agree that the skill set is important, but disagree with why. In any business, cash is essential to survival. Michael Dell captures this perfectly by comparing cash to gasoline:

“We were always focused on our profit and loss statement. But cash flow was not a regularly discussed topic. It was as if we were driving along, watching only the speedometer, when in fact we were running out of gas.”

Per the quote, cash is the gasoline to your business’s engine. In this lesson we will spend little time talking about the mechanics of projecting the cash flow statement because this has been covered several times on ASimpleModel.com. Instead, we will cover the theory behind the cash flow statement and explain how it balances the model. We will also explore differences between the income statement and the cash flow statement to emphasize why “cash is king.”