Essential Accounting Terminology and Financial Metrics

Core Accounting Definitions

• Accounts Payable: What the company owes.
• Accounts Receivable: Money owed to the company (e.g., from customers); included as assets.
• Accumulated Depreciation: How much an asset loses value over time (pages 46-49).
• Assets: Things you own (found in the balance sheet).
• Equity: All the money the owner or owners put into the company.
• Expenses: Everything the company has to pay and spend to produce and create profit.

Financial Statements

• Balance Sheet: A statement that shows a company's assets, liabilities, and equity; prepared yearly.
• Balance Sheet Equation: Assets = Liabilities + Owner's Equity.
• Income Statement: Statement of operations, declared yearly (cumulative results, also known as the bottom line).

Operational and Asset Classifications

• Common Stock: Represented by shares that signify partial ownership.
• Current Assets: Assets that usually change; they come and go (e.g., cash, inventory, accounts receivable).
• Current Liabilities: Obligations due in less than a year (e.g., accounts payable, money owed to vendors, suppliers, and utilities).
• Fixed Assets: Assets that are harder to turn into cash and are owned for a long period (e.g., buildings and equipment; found on the balance sheet).

Profitability and Performance Metrics

• Cost of Goods Sold (COGS): The money a company spends to produce goods or generate profit (found on the income statement). Formula: Revenue - Expenses = Profit.
• Current Ratio: How easily and quickly a company can generate cash to pay vendors. Formula: Current Assets / Current Liabilities.
• Days Purchases Outstanding: The time it takes a company to pay for its purchases.
• Days Receivable Outstanding (Collection Period): The time it takes to collect on sales made by the company.
• Debt/Equity Ratio: Measures the degree to which the company finances its operations through debt versus owned funds. Formula: Total Liabilities / Total Equity.
• EBIT (Operating Profit/Earnings): Earnings before interest and taxes.
• Financial Leverage: How borrowed money is used to acquire an asset; the proportion of other people's money used versus the company's own funds (e.g., Debt / Owner's Equity).
• Gross Profit: Sales - Cost of Goods Sold = Gross Profit.
• Gross Profit Margin: A percentage representing the roughest estimation of a company's profitability.