FINANCE TERMS EVERYONE SHOULD KNOW
Amortization is a means of spreading the expense of an intangible asset over its useful life. Non-physical assets that are crucial to a business, such as a trademark, patent, copyright, or franchise agreement, are examples of intangible assets.
Assets are anything that you hold that can benefit your firm in the future, such as cash, merchandise, real estate, office equipment, or accounts receivable, which are payments owed to a company by its customers. There are various forms of assets, such as:
- Current assets are those that can be converted into cash within a year.
- Fixed assets are tangible goods that a corporation owns and uses to produce long-term income that cannot be converted into cash quickly.
3. Asset Allocation
Asset allocation refers to how you distribute your money among various investment kinds, often known as asset classes. These are some examples:
- Bonds are a type of borrowing. When you purchase a bond, usually from the government or a firm, you are essentially lending money to them. You receive periodic interest payments and repay the lent amount when the bond matures—or when the bond may be redeemed—at the end of the specified term.
- Stocks are units of ownership in a public or private firm. When you purchase stock in a firm, you become a shareholder and are entitled to dividends, which are the company’s profits, if and when they are distributed.
- Cash and Cash Equivalents: This term refers to any asset that is in the form of cash or that can be quickly converted to cash if necessary.
4. Balance Sheet:
A balance sheet is a crucial financial statement that communicates the worth, or “book value,” of a business. For a given reporting period, the balance sheet provides a tally of the organization’s assets, liabilities, and shareholders’ equity.
The Balance Sheet Equation: Balance sheets are organised using the equation: Liabilities + Owners’ Equity = Assets
5. Capital Gain:
A capital gain is an increase in the value of an item or investment over the initial purchase price. A capital loss occurs when you sell an asset for less than the original purchasing price.
6. Capital Market:
This is a market where buyers and sellers trade financial assets such as stocks and bonds. Several participants participate in capital markets, including:
- Organizations that offer stock and bonds to investors.
- Investors who purchase stocks and bonds on behalf of a substantial capital base are referred to as institutional investors.
- Mutual funds are institutional investors that handle the money of thousands of people.
- A hedge fund is a sort of institutional investor that manages risk by hedging—buying one asset and then shorting another to profit from the difference in their relative performance.
7. Cash Flow:
The net balance of cash going into and out of a business at a given point in time is referred to as cash flow. Cash flow is typically classified into three types:
- Operating cash flow: It refers to the net cash generated by routine business operations.
- Investing Cash Flow: The net cash generated by investing activities such as stock investments and asset purchases or sales.
- Financing Cash Flow: The net cash created by a business to finance it, including debt payments, shareholder stock, and dividend payments.
8. Cash Flow Statement:
A cash flow statement is a financial statement that provides a detailed analysis of what occurred to a company’s cash over a specific time period. This document demonstrates how the company generated and spent cash during the reporting period by providing an overview of cash flows from operating, investing, and financing operations.
9. Compound Interest:
Also known as “interest on interest,” this term relates to “interest on interest.” When you invest or save, you get compound interest on the amount you deposit plus any interest you’ve accumulated over time. While it can improve your savings, it can also raise your debt; compound interest is imposed on both the original loan amount and the expenses added to your outstanding balance over time.
Depreciation is the loss in the value of an item. It’s a term used in accounting to describe how much of an asset’s value a company has utilised over time.
EBITDA (Earnings Before Interest, Taxes, Depreciation, and Amortization) is a generally used measure of a company’s capacity to create cash flow. It is calculated by adding net profit, interest, taxes, depreciation, and amortisation.
Equity, also known as shareholders’ equity or owners’ equity on a balance sheet, is the amount of money that belongs to a company’s owners after all assets and liabilities have been deducted. Using the accounting equation, shareholder equity can be calculated by subtracting total liabilities from total assets.
13. Income Statement:
An income statement is a financial statement that details a company’s income and expenses over a specific time period. An income statement is often known as a profit and loss (P&L) statement.
Liabilities are what you owe other parties, such as bank debt, salary, and money owed to suppliers, also known as accounts payable. There are various forms of liabilities, such as:
- Current liabilities include: These are sometimes known as short-term liabilities because they are due within the next year.
- Long-Term Liabilities: These are financial obligations that are not due within a year and can be paid off over time.
Liquidity refers to the speed with which your assets can be transformed into cash. As a result, cash is the most liquid asset. Real estate and land are the least liquid assets since they can take weeks or months to sell.
16. Net Worth:
Net worth is calculated by subtracting what you own, your assets, from what you owe, your obligations. The remaining figure might help you determine your overall financial health.
17. Profit Margin:
Profit margin is a measure of profitability determined by dividing net income by revenue or net profit by sales. Companies frequently examine two types of profit margins:
- Gross Profit Margin: This often refers to a single product or line item rather than an entire company.
- Net Profit Margin: This often shows a company’s overall profitability.
18. Return on Investment (ROI):
A basic formula used to calculate the predicted return of a project or activity in contrast to the cost of the investment, often expressed as a percentage. This metric is frequently used to determine if a project is worthwhile for a company to undertake. The following equation is used to determine ROI: ROI is calculated as [(Income – Cost) / Cost] * 100.
The process of determining the present worth of an asset, firm, or liability is known as valuation. There are other ways to value a business, but repeating the procedure on a regular basis is beneficial since you’ll be prepared if you ever have an opportunity to merge or sell your firm, or seek money from outside investors.
20. Working Capital:
This is the difference between a company’s current assets and current liabilities, also known as net working capital. Working capital, or the money available for daily operations, can influence an organization’s operational efficiency and short-term financial health.