Am I right in interpreting this?

Year Ended December 31,
2011 2010 2009
(in thousands)

Cash generated from (used in):
Operating activities $ (67,321 ) $ (9,870 ) $ (3,277 )
Investing activities (80,845 ) (23,734 ) (20,911 )
Financing activities 209,037 32,186 28,016
Effect of exchange rate fluctuations (2,460 ) (883 ) 1,506
Increase (decrease) in cash and cash equivalents $ 58,411 $ (2,301 ) $ 5,334

Operating Activities. Net cash used in operating activities for 2011 was $67.3 million , compared to $9.9 million for 2010 . The increase in cash used in operating activities is attributable to higher prepaid third-party costs, both organically and related to our acquisition of MIG. In addition, much of our business is in emerging markets where payment terms on amounts due to us may be longer than on our contracts with customers in other markets

Investing Activities. Net cash used in investing activities for 2011 was $80.8 million compared to $23.7 million for 2010 . This was primarily due to our investment in property and equipment, software development, which we capitalized, and investment in subsidiaries, including the acquisition of Mobile Interactive Group and Air2Web during 2011.

Financing Activities. Net cash generated from financing activities for 2011 was $209.0 million compared to $32.2 million for 2010 . The cash generated from financing activities was primarily due to the proceeds from our public offerings completed during 2011, offset by the repayment of a significant amount of the debt outstanding as of December 31, 2010.


Would I be right in thinking that the only reason why this company is cash flow positive is because of the proceeds from the IPO? And without the IPO proceeds the company would be cash flow negative? Should this be a worry for me or am I reading too much into it? I'm thinking that it's extremely important for a company to be cash flow positive, especially from Operating activities, right?

Thanks guys

Your conclusion looks right to me. But also, beware any software company that capitalises it's R&D costs, because it really distorts the balance sheet and P&L. Very misleading, but sadly quite common. Using the accounts for a complete fantasy rather than a reflection of what's going on.

waimate01 said:

Your conclusion looks right to me. But also, beware any software company that capitalises it's R&D costs, because it really distorts the balance sheet and P&L. Very misleading, but sadly quite common. Using the accounts for a complete fantasy rather than a reflection of what's going on.

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thanks for the reply,

Sorry I'm not with you. What do you mean by capitalizing R&D costs?

viciam said:

thanks for the reply,

Sorry I'm not with you. What do you mean by capitalizing R&D costs?

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It's where they take the money they spend on salaries for R&D people, and instead of considering it an expense they consider it to be an asset. The result is it artificially boosts their profit result, and incorrectly shows a valuable asset on the balance sheet.

The argument for doing this is that money spent on R&D produces intellectual property that has enduring value, and therefore is an asset of the business that maybe should be depreciated over time. But in the software game this is just wishful thinking.

It's pretty much the same as Wayne Swan saying they don't need to account for the $37B being spent on the NBN, because the NBN will be an asset, therefore the money isn't really being spent. Except (hopefully) the NBN really will exist at the end of it, whereas most money spent on software R&D has no lasting value.

You sometimes also see the same thing in other areas -- people spending money on marketing but not considering it an expense, instead listing the spent-money as an asset on the balance sheet.

waimate01 said:

It's where they take the money they spend on salaries for R&D people, and instead of considering it an expense they consider it to be an asset. The result is it artificially boosts their profit result, and incorrectly shows a valuable asset on the balance sheet.

The argument for doing this is that money spent on R&D produces intellectual property that has enduring value, and therefore is an asset of the business that maybe should be depreciated over time. But in the software game this is just wishful thinking.

It's pretty much the same as Wayne Swan saying they don't need to account for the $37B being spent on the NBN, because the NBN will be an asset, therefore the money isn't really being spent. Except (hopefully) the NBN really will exist at the end of it, whereas most money spent on software R&D has no lasting value.

You sometimes also see the same thing in other areas -- people spending money on marketing but not considering it an expense, instead listing the spent-money as an asset on the balance sheet.

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ah I see,

Is this information found in the notes to financial statements in annual reports?

viciam said:

ah I see,

Is this information found in the notes to financial statements in annual reports?

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Depends. You'd certainly see an ever-growing item in the assets area of the balance sheet, probably labelled intellectual property. Other than that, all you'd see in the P&L is that salaries are lower than they should be (pretty much impossible to detect).

The other reliable indicator, IMO, is to check the amount of tax paid. If they're claiming $X million profit and they're not paying pretty close to X*0.3 in tax expense, then something is not right (*). Cashflow statement would be another good place to look.

Just to clarify, it's usually ok for there to be a difference between reported profit and cashflow because that's where your capital expenditure comes out. With a trucking company, that's where you pay for your new truck. The difference with software companies is that most R&D is wasted and has no residual value. The trucking company has a truck it can point at, use and even sell. The software company just has salaries it's paid out, and maybe a relatively small amount of code that will have some use going forward.

(*) the other valid reason for a reduced taxation rate is the claiming of the R&D tax incentive, which is a good thing. Tanstaafl, however, because the R&D concession ultimately means the company runs out of franking credits earlier.

waimate01 said:

Depends. You'd certainly see an ever-growing item in the assets area of the balance sheet, probably labelled intellectual property. Other than that, all you'd see in the P&L is that salaries are lower than they should be (pretty much impossible to detect).

The other reliable indicator, IMO, is to check the amount of tax paid. If they're claiming $X million profit and they're not paying pretty close to X*0.3 in tax expense, then something is not right (*). Cashflow statement would be another good place to look.

Just to clarify, it's usually ok for there to be a difference between reported profit and cashflow because that's where your capital expenditure comes out. With a trucking company, that's where you pay for your new truck. The difference with software companies is that most R&D is wasted and has no residual value. The trucking company has a truck it can point at, use and even sell. The software company just has salaries it's paid out, and maybe a relatively small amount of code that will have some use going forward.

(*) the other valid reason for a reduced taxation rate is the claiming of the R&D tax incentive, which is a good thing. Tanstaafl, however, because the R&D concession ultimately means the company runs out of franking credits earlier.

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I found this in an annual report.

Capitalized Software Development Costs

The Company evaluates its capitalized software development costs at each balance sheet date to determine if the unamortized balance related to any given product exceeds the estimated net realizable value of that product. Any such excess is written off through accelerated amortization in the quarter it is identified. Determining net realizable value, as defined by FASB ASC Topic 985-20, Accounting for the Costs of Software to Be Sold, Leased or Otherwise Marketed (“ASC 985-20”), requires making estimates and judgments in quantifying the appropriate amount to write off, if any. Actual amounts realized from the software products could differ from those estimates. Also, any future changes to the Company’s product portfolio could result in significant increases to its cost of license revenue as a result of the write-off of capitalized software development costs.

In accordance ASC 985-20, the Company amortizes capitalized software development costs using the straight-line method over the remaining economic life of the product, estimated to be three years. The Company recorded amortization of software development costs of $22,860 and $34,289 in the three months ended June 30, 2012 and 2011, respectively, and $91,438 and $102,868 in the nine months ended June 30, 2012 and 2011, respectively. The Company records amortization of software development costs as “Cost of revenue-software” in the statements of operations.

Is this what you are talking about when you talk about capitalizing R&D?

viciam said:

I found this in an annual report.


Is this what you are talking about when you talk about capitalizing R&D?

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Yep, that's the one. Whether they're playing fair or not depends on how they're doing what they say. For example, if the spend $10m on salaries, do they estimate they have an asset worth $10m, or $5m, or $20m. The reality is probably way less than any of those numbers.

So it's great that they're being up-front and disclosing their process, and the process sounds fine if you want to do it that way -- but it all depends on the estimates of realizable value they're deciding upon.

Important to appreciate that, as a result, the price to book ratio and anything else that relates to assets is a purely made-up figure.

waimate01 said:

Yep, that's the one. Whether they're playing fair or not depends on how they're doing what they say. For example, if the spend $10m on salaries, do they estimate they have an asset worth $10m, or $5m, or $20m. Th reality is probably way less than any of those numbers.

So it's great that they're being up-front and disclosing their process, and the process sounds fine if you want to do it that way -- but it all depends on the estimates of realizable value they're deciding upon.

Important to appreciate that, as a result, the price to book ratio and anything else that relates to assets is a purely made-up figure.

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So where would the estimates of value be? On the balance sheet?

In the quote from annual report above theres no mention of salaries, just total costs associated with r.d, right? So I'd probably need to dig a little further in the annual report to see if I can find a break down of the costs?


What do you make of the above quote?

viciam said:

So where would the estimates of value be? On the balance sheet?

In the quote from annual report above theres no mention of salaries, just total costs associated with r.d, right? So I'd probably need to dig a little further in the annual report to see if I can find a break down of the costs?


What do you make of the above quote?

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It'd be somewhere on the balance sheet, but may not be immediately obvious. But those estimates a pretty much pie-in-the-sky. Very different to estimating the value of a secondhand truck.

Veti does list R&D expenses on the P&L.

thats great,
thank you