[MUSIC] Do you have one of those friends who is always coming up with new money making ideas? Maybe you are the idea person yourself. We used to say that the idea people were trying to quote, build a better mouse trap, unquote. Now in the internet age, it's probably more accurate to say that they are quote, trying to build a better Snapchat, unquote. But just a few years ago, there was no such thing as Snapchat. Now, that company's Snapshot is worth $20. One of the fundamental belief that runs through a capitalistic economy is that money follows good ideas. So today, we're going to discuss that belief and some of the facts that surround it. In an earlier video, I talked about decisions relating to raising, spending and managing money. I also explored some of the underlying goals that influence and motivate financial managers when considering the interest of different stakeholders. The other big factor that influences financial decision-making is the larger system within which these decisions are made. For example, consider information. How much access do you have to past and current information that will help you to make a financial decision? Or regulations, that is what regulations and controls exist that affect the degree of competition? It's useful, therefore, to picture decision-making in the context of market systems. At one extreme, we have a free market where values and prices are determined by the forces of supply and demand with little or no government intervention and where private ownership and competition are key factors. These are factors many of us consider when we think about capitalism and the production of wealth. The other extreme is a regulated market where prices are predetermined with prohibited versions of command and control, and where information is heavenly influence by a few agents usually the government. In reality, we don’t have any purely free markets or any purely regulated markets in the world today. But let's say, the North American economy is a pretty good example of a free market. And let's say, the North Korean economy is one we can fairly confidently describe as a regulated market. We take a closer look at the repercussions of these two extremes in the next video. But for now, we're going to explore what most economists suggests are the positive aspects of financial markets. Financial markets tend to be, as free as any real market can be and are essential to helping money flow from people and companies who have surplus cash to people and companies who need more money to accomplish their goals. These conditions allow quote, the invisible hand, unquote of capitalism to work. This is of course, the famous metaphor associated with the great economist Adam Smith who provided a framework of how resources can be allocated to generate wealth and income distribution. To understand these markets better, let's follow the money. And in a free market economy, money flows in the direction that gives it the greatest chance to multiply. So, where is that? Well, according to the Austrian-born American political scientist and economist, Joseph Schumpeter. Capitalism in its freest market form is the most successful economic system for creating wealth and raising living standards through higher levels of productivity. This progression is fueled by what is famously called quote, creative destruction, unquote. Behind this notion of efficiency and increasing technological sophistication is the belief that money follows good ideas. Ideas that resulted in Henry Ford producing early automobiles on an assembly line or Bill Hewitt and Dave Packard building an audio oscillator. The first HP product in a garage in Palo Alto, California that gave birth to the now famous Silicon Valley of ideas. In most cases, ideas by themselves don't really do anything or have any impact until they are used by others. And to move an idea from the mind to a marketplace, an investment of money is required. The idea then becomes successful, if it generates more money than it consumes. Let's take a look at some of the recent examples of new ideas. You may have heard of the Next Thing Company, a recent startup that introduced C-H-I-P, CHIP. Claiming it to be the world's cheapest personal computer with Wi-Fi and Bluetooth connectivity at a cost of just $9. The investors used a crowdfunding campaign to take in $2 million in a very short period, aimed at bringing the idea to production. But despite this wildly successful campaign until investors get their money back, the economic jury is out on the capabilities of Next Thing Company until investors get their money back. Another recent example is Stratasys Limited who is rapidly expanding its line of 3D printers. This revolutionary technology literally prints out customized products from phone cases to guitars, mechanical component, medical devices and even food and cars. But it is not enough that the company is projecting revenues of $1 billion, it must also generate cash for its investors. So, how does the money flow for Stratasys or any other company build on a good idea and lots of potential? This is where financial markets play a vital role. In 1994, Stratasys offered shares in the company to the public through NASDAQ. The American Stock Exchange we will talk about later in this specialization. It raised about $5 million. And with a solid road strategy, the company had continued to rely on two kinds of money we have discussed in a previous video. Equity money and debt money. These investors continued to give Stratasys, which 20 years after it was founded now has a market value of over $800 million. We calculate market value by multiplying the total number of company shares in existence by the share price that is determined by trading on the stock exchange. In this case, the NASDAQ. In its simplest term, the business of any firm is to generate cash flow. All companies that raise money from the financial debt and equity markets that is from bonds and from stocks invest in both current and fixed assets. Like inventory, land, buildings, equipment, machinery that are used to produce the product as well as intangible assets. Like patents, trademarks and goodwill that have a perceived brand value. The firm makes investments in these assets to produce cash flow. Cash flow is generated through sales and spent on operating expenses, such as salaries, supplies, overhead and financial expenses like interest on the debt that has been borrowed. And of course, taxes paid to the government. The difference between the cash generated and the cash spent gives us a rough indication of the firm's earnings. It is typically up to the firm's financial managers to decide whether to use these earnings, to pay back the company's owner investors or reinvest the money back into the company for various purposes. That reinvestment is called retained earnings. You can follow the cash from the time and idea was born and sold through financial markets into the firm to the point where the firm reinvests money to grow and, or pay its investors. But if the firm reinvests the money to grow instead of paying its investors, then what's in it for the investors? Well, the big picture goal for owner investors is to generate more cash than the financial markets expect. That means the company is doing a good job of multiplying money and generating wealth, and this is the essence of how value is supposed to be created.
