Undoubtedly lost in the torrent of news about the big profits for movie rental outfit Blockbuster (NYSE:BBI) was a less positive press release filed immediately before the earnings news. It announced that the company would be restating results for 2003 and 2004, along with the first nine months of 2005. While the release says that the restatements don't alter revenues, earnings, assets, equity, or total cash flows, they do significantly ratchet down operating cash flows.

Companies can raise cash several ways, all of which are covered on a company's statement of cash flows. A firm can make or sell goods and services, make investments in itself, or sell shares, debt, or dividends. These three areas are respectively termed cash flow from operating activities, cash flow from investing activities, and cash flow from financing activities. Sharp-eyed investors watch the operating segment -- the lifeblood of a business. If it can't sell its products, it will eventually go out of business.

Blockbuster's restatement wipes out a whole lot of operating cash flow. Through discussions with the SEC, the company will change the way it accounts for its movie library and related activities. Previously, it considered the rental library to be a "non-current asset," but the company will now classify it as a "current asset." While that doesn't seem like much of a change, it's actually quite profound.

"Current assets" are expected to be converted into cash within the next year in the normal course of business. They fund a company's day-to-day operations; when you think about it, that's really how Blockbuster should have been accounting for its movies. Typically, when you rent a movie from them, you're borrowing one of the latest hits rather than a classic. The rentals are generally being converted into cash within 12 months' time, funding Blockbuster's day-to-day operations.

The restatement's effect on Blockbuster's prior cash flow statements is dramatic:

Operating Cash Flows

Year

Reported

Restated

Difference

2003

$1,430.3

$593.7

$836.6

2004

$1,215.4

$417

$798.5

2005*

$492.4

$(146.1)

$638.5
*Nine months ending Sept. 20, 2005.
Numbers in millions.

Equally striking is the comparison of operating cash flow to net income, a bird's-eye test I like to perform on companies to determine their profitability. In general, the two numbers should rise in tandem. While Blockbuster has been reporting losses instead of profits for years, and has received a pass from Wall Street because of the supposed strength of its operating cash flows, there is now a greater disconnect between the two. As we see, 2005 is shaping up to be horrendous, regardless of whatever ephemeral profits the company reported yesterday.

Wall Street may want to ignore Blockbuster's condition, but you don't have to. Operating cash flows will make or break a business, and in Blockbuster's case, it appears that we have a major Hollywood flop on our hands.

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Fool contributor Rich Duprey does not own any of the stocks mentioned in this article. You can see his holdings here. The Motley Fool has a disclosure policy.