Tl;dr. Earnings are an opinion. Cash is a fact. We underwrite businesses on what they can actually write us a check for — not on what an accountant decided the period’s profit was.
The number that pays your dividend
When a company sends you a dividend, the check doesn’t come from “earnings.” It comes from cash. The same is true of buybacks, debt paydown, acquisitions, and capex — every economically real thing a business does for shareholders happens in cash.
Earnings, on the other hand, is an accounting construct. It tells you what GAAP rules decided was the profit for the period after fitting reality into conventions about how to allocate revenues and expenses across time. Often the convention and the cash agree. Often enough that they don’t, the difference is the whole story.
That’s why we lead with free cash flow.
Owner earnings — where this comes from
Buffett laid out the cleanest version of this idea in Berkshire’s 1986 annual letter, in a footnote that’s now famous. He called it “owner earnings.” The formula:
Owner earnings = reported earnings + depreciation, amortization, and other non-cash charges − the average annual capex required to maintain competitive position − any additional working capital required for the business
Read that sentence again. It says: take what the company reported. Add back what wasn’t really an expense. Subtract what the company actually had to spend to stay in the same place. That’s what the owner actually got.
The number Buffett described isn’t on any 10-K line. You have to build it. It’s a judgment call about what counts as maintenance capex versus growth capex. It’s a judgment call about how much working capital the business genuinely needs. And that’s the point. The owner has to do this work. The accountant is reporting; the owner is calculating what they can actually take home.
Earnings are an opinion. Cash is a fact.
Where earnings and cash diverge — and why it matters
There are four common ways the numbers split, and three of them show up routinely in the businesses we look at:
1. Depreciation is bigger than maintenance capex. A business that bought a factory 15 years ago is depreciating it based on the price it paid then. Its actual cash cost to maintain operations is what it spends today — which is usually lower than the depreciation charge. Earnings understate cash in this case. The classic Buffett example was See’s Candies — minimal incremental capex, plenty of D&A on the books, owner earnings well above reported earnings.
2. Stock-based comp is real, even if it doesn’t hit cash. A company paying its engineers $200M a year in stock instead of cash is reporting $200M less in cash expense and $200M more in earnings than its real economic cost would suggest. The shareholders still pay for it — through dilution. We treat stock-based comp as a real expense. The earnings number that ignores it is fiction.
3. One-time charges that aren’t one-time. “Restructuring.” “Goodwill impairment.” “Litigation reserves.” If one of these appears every year for five years, it isn’t one-time. It’s a feature. We subtract recurring “one-time” items from the cash flow story.
4. Working capital can hide a deteriorating business. A retailer growing receivables faster than revenue is letting customers pay later. A manufacturer building inventory faster than sales is producing things nobody’s buying yet. Reported earnings looks fine until the working-capital build catches up — and then the cash flow statement shows what the income statement was hiding.
The dollar example
Hypothetical, but the shape is real. Company A reports $1.0B of net income. The cash flow statement says:
- Net income: $1.0B
- Depreciation & amortization: +$300M
- Stock-based comp: +$250M (added back, but this is real dilution)
- Working capital change: −$150M
- Cash flow from operations: $1.4B
- Capex: −$450M (of which we estimate $400M is maintenance)
- Free cash flow (our definition): $950M
So GAAP says $1.0B of earnings, FCF says $950M, but if we honestly subtract the stock-based comp the shareholders are paying for through dilution, we’re closer to $700M of true cash earnings.
Three numbers. $1.0B / $950M / $700M. All three are technically defensible. Only one is the number you’d pay for the business with.
We pay for the third.
What we actually use at TTCM
We start with cash flow from operations. We subtract our estimate of maintenance capex — not total capex. We subtract stock-based comp as an expense even though GAAP doesn’t.
We do it on a trailing five-year average, not on a single year. Cash flow can be lumpy. A great business in a bad year still has economic earning power; a bad business in a good year is borrowing future cash to look good now. Five years smooths the noise.
We cross-check against reported earnings. When the gap is wide, we want to understand why. Sometimes the gap is a reason to like the business more — D&A overstating costs in a mature, low-capex franchise. Sometimes the gap is a reason to walk away — working-capital build, recurring “one-time” charges, hyperactive stock-based comp.
This is how we underwrite buy prices. Bill Nygren at Oakmark has a clean version of the discipline: buy at 60% of intrinsic value, sell at 90%. We use roughly the same shape. The intrinsic value we’re 60-ing against is built on cash, not on reported earnings.
The honest limit
Free cash flow can be manipulated too. Capex can be timed — pulled forward into a year a company wants to look weak, pushed out into a year it wants to look strong. Working capital can be jiggered — stretch payables at quarter-end to flatter cash flow. The cash flow statement is a more honest document than the income statement, but it’s not magic.
The defense is the same as everything else we do: multi-year, not single-year. Read the working capital lines for trends, not levels. If maintenance capex is consistently below D&A for years and the business is still profitable, the gap is real. If maintenance capex jumps in the year a company is trying to sell itself, the gap might be cosmetic.
Cash also doesn’t tell you about the future. A company throwing off cash today can be lighting a fuse on a long-tail liability — asbestos, GHG exposure, a regulatory shoe waiting to drop. FCF tells you what the business can write a check for now. It doesn’t tell you what’s about to ask the business to write a different kind of check.
That’s why FCF is the spine of our underwriting, but not the whole skeleton. Quality of the business, strength of the balance sheet, and discount to value all sit on top of the cash work.
How this shows up in client portfolios
For clients, this is why your statements don’t always look like the broad-index headlines. The names we own are picked for what they can actually generate in cash over a full cycle — not for whichever earnings narrative is currently catching the market’s eye.
In years where the market is paying up for earnings growth that hasn’t yet shown up in cash — 2025 was one of those — our positioning lags by design. In years where the market punishes any earnings disappointment without checking what the cash looks like underneath — 2022 was one of those — our positioning shines.
When you give us your capital to invest, we’re trying to give you back cash and more of it. The check is the point. Every other number is just commentary on it.
Disclosure
T&T Capital Management LLC (TTCM) is an SEC-registered investment adviser. This is research and commentary, not personalized investment advice. Forms ADV Part 2A and CRS are available on request or via the SEC IAPD website. CRD #158407.
This piece discusses general investment concepts. No specific securities are recommended. Examples are illustrative only.
Past performance is not indicative of future results. Specific prices and metrics referenced are illustrative and should be re-verified before any action.
