50 Accounting Terms, Definitions, & Explanations for Business Owners

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Looking for accounting terms and definitions? 

 

You’ve come to the right place!

 

My name is Connor Gillivan. I’ve been an Entrepreneur for the past 15 years growing companies to 6, 7, and 8 figures online.

 

Today, I run EcomBalance and AccountsBalance to help online business owners better understand their monthly books and numbers.

 

In this article, we’ll define 50 popular accounting terms that you should understand as a business owner.

 

If you have questions, feel free to reach out to us at [email protected].

 

Financial Statements and Analysis:

 

accounting terms

 

1. Balance Sheet

  • The balance sheet is a financial statement that provides a snapshot of a company’s financial position at a specific point in time.
  • It presents the company’s assets (what it owns), liabilities (what it owes), and shareholders’ equity (the difference between assets and liabilities).
  • The balance sheet follows the fundamental accounting equation: Assets = Liabilities + Shareholders’ Equity.
  • It helps entrepreneurs understand their company’s net worth and financial health by showing the composition of their resources and obligations.

 

2. Income Statement

  • The income statement, also known as the profit and loss statement or P&L, summarizes a company’s revenues, expenses, gains, and losses over a specific period.
  • It provides a clear picture of a business’s profitability by calculating its net income or net loss.
  • The income statement shows how much money the company generated from its operations and how much it spent during the period.
  • It helps entrepreneurs track their business’s performance and assess the effectiveness of their revenue-generating activities.

 

3. Cash Flow Statement

  • The cash flow statement tracks the inflow and outflow of cash within a company during a specific period.
  • It categorizes cash flows into three main activities: operating, investing, and financing.
  • The operating activities section shows cash flows from day-to-day operations, such as sales and expenses.
  • The investing activities section displays cash flows from buying or selling assets.
  • The financing activities section reflects cash flows from raising or repaying capital, such as taking loans or issuing shares.
  • The cash flow statement helps entrepreneurs understand how cash moves through their business and assess its ability to generate and manage cash.

 

4. Statement of Retained Earnings

  • The statement of retained earnings, sometimes called the statement of owner’s equity, shows the changes in a company’s retained earnings over a specific period.
  • It begins with the opening balance of retained earnings, adds net income or subtracts net loss, and adjusts for any dividends or distributions.
  • Retained earnings represent the accumulated profits or losses that a company has retained in the business rather than distributing them to shareholders.
  • This statement helps entrepreneurs understand how their company’s earnings are being reinvested or distributed to shareholders.

 

5. Financial Ratios

  • Financial ratios are calculations that provide insight into a company’s financial performance and health.
  • They compare different financial variables to assess relationships and trends.
  • Common financial ratios include profitability ratios (e.g., gross profit margin, net profit margin), liquidity ratios (e.g., current ratio, quick ratio), and solvency ratios (e.g., debt-to-equity ratio, interest coverage ratio).
  • Financial ratios help entrepreneurs analyze their company’s financial statements and make informed decisions about their business’s operations, finances, and growth potential.

 

6. Profitability

  • Profitability refers to a company’s ability to generate profits relative to its expenses and costs.
  • It measures how efficiently a business uses its resources to generate revenue and control expenses.
  • Key profitability ratios include gross profit margin, net profit margin, and return on assets (ROA).
  • Profitability is crucial for entrepreneurs as it indicates the financial success and sustainability of their business.

 

7. Liquidity

  • Liquidity represents a company’s ability to meet its short-term financial obligations.
  • It focuses on the availability of cash or other easily convertible assets to cover immediate liabilities.
  • Common liquidity ratios include the current ratio and the quick ratio.
  • Liquidity is vital for entrepreneurs as it ensures the ability to pay bills, handle emergencies, and seize opportunities without disrupting business operations.

 

8. Solvency

  • Solvency refers to a company’s ability to meet its long-term financial obligations.
  • It assesses whether a business has enough assets to cover its long-term debts.
  • Key solvency ratios include the debt-to-equity ratio and interest coverage ratio.
  • Solvency is critical for entrepreneurs as it reflects the financial stability and creditworthiness of their business.

 

9. Return on Investment (ROI)

  • Return on Investment (ROI) is a financial metric that measures the profitability of an investment relative to its cost.
  • It calculates the percentage return gained or lost on an investment relative to the initial investment amount.
  • ROI helps entrepreneurs evaluate the efficiency and profitability of their investments, such as marketing campaigns, equipment purchases, or expansion projects.
  • It allows them to make informed decisions about allocating resources and maximizing their returns.

 

10. Earnings per Share (EPS)

  • Earnings per Share (EPS) is a financial indicator that shows the portion of a company’s profit allocated to each outstanding share of common stock.
  • It calculates by dividing the net income attributable to common shareholders by the weighted average number of common shares outstanding during a specific period.
  • EPS is important for entrepreneurs as it provides insights into a company’s profitability on a per-share basis, allowing comparisons across different periods and with other companies in the same industry.
  • Investors often use EPS to assess the attractiveness of a company’s stock and its potential for generating returns.

 

Assets and Liabilities:

 

 

11. Assets

  • Assets are resources owned by a company that have economic value and can provide future benefits.
  • They can be tangible, such as cash, inventory, or equipment, or intangible, such as patents or trademarks.
  • Assets are classified on the balance sheet as current assets and fixed assets, depending on their expected conversion to cash or usefulness within the business.

 

12. Current Assets

  • Current assets are assets that are expected to be converted into cash or used up within one year or the normal operating cycle of a business.
  • Examples of current assets include cash, accounts receivable, inventory, and short-term investments.
  • Current assets provide liquidity and support day-to-day operations of the business.

 

13. Fixed Assets

  • Fixed assets, also known as property, plant, and equipment (PP&E), are long-term assets with a useful life of more than one year.
  • They are tangible assets that are not intended for sale as part of normal operations.
  • Examples of fixed assets include buildings, land, machinery, vehicles, and furniture.
  • Fixed assets are recorded on the balance sheet at their historical cost and are usually depreciated over their useful life.

 

14. Intangible Assets

  • Intangible assets are non-physical assets that lack a physical substance but have value and represent legal or contractual rights.
  • Examples of intangible assets include patents, copyrights, trademarks, brand names, customer lists, and goodwill.
  • Intangible assets are typically recorded on the balance sheet at their acquisition cost and are amortized over their useful life.

 

15. Liabilities

  • Liabilities are obligations or debts that a company owes to external parties.
  • They represent claims on the company’s assets and require future settlement or payment.
  • Liabilities can be classified as current liabilities or long-term liabilities, depending on their maturity or due date.

 

16. Current Liabilities

  • Current liabilities are debts or obligations that are expected to be settled within one year or the normal operating cycle of the business.
  • Examples of current liabilities include accounts payable, short-term loans, accrued expenses, and customer deposits.
  • Current liabilities reflect the company’s short-term financial obligations and are an important component of liquidity assessment.

 

17. Long-Term Liabilities

  • Long-term liabilities are debts or obligations that are due beyond one year or the normal operating cycle of the business.
  • Examples of long-term liabilities include long-term loans, bonds payable, deferred tax liabilities, and pension obligations.
  • Long-term liabilities represent the company’s long-term financing and have a significant impact on its solvency and financial stability.

 

18. Accounts Receivable

  • Accounts receivable refers to the amounts owed to a company by its customers for goods delivered or services provided on credit.
  • It represents the right to receive payment in the future.
  • Accounts receivable is recorded as a current asset on the balance sheet and is usually collected within a specified credit period.

 

19. Accounts Payable

  • Accounts payable are amounts owed by a company to its suppliers or vendors for goods or services received on credit.
  • It represents the company’s short-term obligations to pay for its purchases.
  • Accounts payable is recorded as a current liability on the balance sheet and is typically paid within the agreed payment terms.

 

20. Prepaid Expenses

  • Prepaid expenses are costs paid in advance but not yet consumed or used up by the business.
  • Examples of prepaid expenses include prepaid insurance premiums, prepaid rent, and prepaid subscriptions.
  • Prepaid expenses are recorded as current assets on the balance sheet and are gradually expensed or recognized as expenses over the period to which they relate.

 

Revenue and Expenses:

 

 

21. Revenue

  • Revenue refers to the total amount of income generated by a business from its primary activities, such as sales of goods or services.
  • It represents the inflow of economic benefits resulting from the company’s core operations.
  • Revenue is a key driver of a company’s financial performance and is reported on the income statement.

 

22. Sales

  • Sales specifically refer to the revenue generated from the sale of goods or services.
  • It represents the income derived from the company’s primary business activity.
  • Sales are a crucial component of a company’s revenue and are typically reported as a line item on the income statement.

 

23. Cost of Goods Sold (COGS)

  • Cost of Goods Sold (COGS) represents the direct costs directly attributable to the production or acquisition of the goods sold by a company.
  • It includes the cost of materials, direct labor, and manufacturing overhead associated with the production process.
  • COGS is subtracted from the revenue to calculate the gross profit and determine the profitability of a company’s core operations.

 

24. Gross Profit

  • Gross profit is the difference between revenue and the cost of goods sold (COGS).
  • It represents the profit earned by a company before deducting operating expenses.
  • Gross profit reflects the profitability of a company’s core operations and serves as an indicator of its pricing strategy and production efficiency.

 

25. Operating Expenses

  • Operating expenses, also known as selling, general, and administrative expenses (SG&A), are the costs incurred by a company to support its ongoing operations.
  • They include expenses such as salaries, rent, utilities, marketing, and administrative costs.
  • Operating expenses are deducted from gross profit to calculate operating income or net profit, reflecting the profitability of a company’s core operations.

 

26. Depreciation

  • Depreciation is the systematic allocation of the cost of a fixed asset over its useful life.
  • It represents the decrease in the value of an asset due to wear and tear, obsolescence, or aging.
  • Depreciation is recorded as an expense on the income statement and helps allocate the cost of the asset over its estimated useful life.

 

27. Amortization

  • Amortization refers to the process of spreading the cost of intangible assets over their useful life.
  • It applies to assets such as patents, copyrights, and trademarks that have finite useful lives.
  • Amortization is recorded as an expense on the income statement and helps reflect the consumption of intangible assets over time.

 

28. Interest Expense

  • Interest expense represents the cost of borrowing funds or the interest paid on outstanding debts.
  • It arises from interest-bearing liabilities such as loans, bonds, or credit facilities.
  • Interest expense is recorded as an expense on the income statement and reduces a company’s net income.

 

29. Non-Operating Income

  • Non-operating income refers to income generated from activities that are not directly related to a company’s core operations.
  • It includes items such as interest income, rental income, gains from the sale of assets not used in operations, or dividends received.
  • Non-operating income is reported separately on the income statement as it does not reflect the company’s primary revenue-generating activities.

 

30. Non-Operating Expenses

  • Non-operating expenses represent expenses incurred from activities not directly related to a company’s core operations.
  • They can include items such as interest expense on loans not used for operations, losses from the sale of non-operating assets, or one-time charges.
  • Non-operating expenses are reported separately on the income statement as they do not impact the company’s core profitability.

 

Equity and Capital:

 

 

31. Equity

  • Equity represents the ownership interest in a company.
  • It represents the residual interest in the assets of a business after deducting liabilities.
  • Equity can be held by owners, shareholders, or investors, depending on the legal structure of the company.

 

32. Owner’s Equity

  • Owner’s equity refers to the residual interest in the assets of a business that belongs to the owner(s) of a sole proprietorship or partnership.
  • It represents the ownership claim on the company’s assets after deducting liabilities.
  • Owner’s equity is reported on the balance sheet and includes the owner’s initial investment and accumulated profits or losses.

 

33. Shareholder’s Equity

  • Shareholder’s equity refers to the residual interest in the assets of a business that belongs to the shareholders of a corporation.
  • It represents the ownership claim on the company’s assets after deducting liabilities.
  • Shareholder’s equity is reported on the balance sheet and includes the initial investments by shareholders and accumulated profits or losses.

 

34. Common Stock

  • Common stock represents the ownership shares or units issued by a corporation to its shareholders.
  • It represents the basic ownership interest and carries voting rights and the potential to receive dividends.
  • Common stockholders have a residual claim on the company’s assets after satisfying the claims of creditors and preferred shareholders.

 

35. Retained Earnings

  • Retained earnings represent the accumulated profits or losses that a company has retained in the business rather than distributing them to shareholders as dividends.
  • It reflects the portion of net income that has been reinvested back into the company.
  • Retained earnings are reported in the statement of retained earnings and contribute to the overall equity of the company.

 

36. Capital

  • Capital refers to the financial resources, such as money or assets, invested in a business by its owners or shareholders.
  • It represents the owner’s or shareholder’s equity and ownership interest in the company.
  • Capital is an essential component of the company’s balance sheet and serves as a source of funding for its operations and growth.

 

37. Capital Expenditure

  • Capital expenditure, also known as capex, refers to the funds invested in acquiring, improving, or maintaining long-term assets, such as property, plant, and equipment.
  • It includes expenditures that provide future benefits beyond the current accounting period.
  • Capital expenditures are recorded as assets on the balance sheet and are typically depreciated or amortized over their useful life.

 

38. Dividends

  • Dividends are the distribution of profits or earnings to shareholders of a corporation.
  • They represent the return on investment to shareholders and are typically in the form of cash payments or additional shares.
  • Dividends are declared by the company’s board of directors and reduce retained earnings and shareholder’s equity.

 

39. Stockholder’s Equity

  • Stockholder’s equity refers to the residual interest in the assets of a business that belongs to the shareholders of a corporation.
  • It represents the ownership claim on the company’s assets after deducting liabilities.
  • Stockholder’s equity is reported on the balance sheet and includes the initial investments by shareholders, retained earnings, and other comprehensive income.

 

40. Treasury Stock

  • Treasury stock refers to the company’s own stock that has been repurchased from shareholders.
  • It represents shares that were previously issued and are now held by the company itself.
  • Treasury stock is recorded as a contra-equity account, which reduces the total shareholders’ equity on the balance sheet.

 

Accounting Methods and Principles:

 

 

41. Accrual Basis

  • Accrual basis refers to an accounting method that recognizes revenue when earned and expenses when incurred, regardless of the cash flow timing.
  • It emphasizes the matching of revenues and expenses in the period in which they contribute to the company’s operations.
  • The accrual basis provides a more accurate depiction of a company’s financial performance and is in line with Generally Accepted Accounting Principles (GAAP).

 

42. Cash Basis

  • Cash basis refers to an accounting method that recognizes revenue and expenses when cash is received or paid.
  • It focuses on the actual cash flow rather than the timing of revenue generation or expense incurrence.
  • The cash basis is simpler and often used by small businesses or individuals for whom cash transactions are the primary basis for recording financial activity.

 

43. Double-Entry Accounting

  • Double-entry accounting is a system where every financial transaction is recorded in at least two accounts to maintain the fundamental accounting equation (Assets = Liabilities + Equity).
  • It follows the principle that every debit entry must have a corresponding credit entry of equal value.
  • Double-entry accounting provides a reliable and balanced method to record financial transactions and ensures accuracy in financial statements.

 

44. GAAP (Generally Accepted Accounting Principles)

  • GAAP refers to the standard framework of guidelines, principles, and procedures for financial accounting and reporting.
  • It provides a common set of rules and standards to ensure consistency, comparability, and transparency in financial statements.
  • GAAP is established by professional accounting bodies and regulatory authorities to enhance the reliability and credibility of financial information.

 

45. FIFO (First-In, First-Out)

  • FIFO is an inventory valuation method that assumes the first items purchased or produced are the first ones sold.
  • It means that the cost of goods sold (COGS) is based on the cost of the oldest or earliest inventory in stock.
  • FIFO is widely used in industries where perishable or time-sensitive goods are involved.

 

46. LIFO (Last-In, First-Out)

  • LIFO is an inventory valuation method that assumes the last items purchased or produced are the first ones sold.
  • It means that the cost of goods sold (COGS) is based on the cost of the most recent inventory purchases.
  • LIFO is often used to account for inventory costs when prices are rising, as it may result in a lower taxable income due to higher COGS.

 

47. Matching Principle

  • The matching principle states that expenses should be recognized in the same period as the revenues they help generate.
  • It ensures that the financial statements accurately reflect the cause-and-effect relationship between revenue and expenses.
  • By matching expenses with the related revenue, the matching principle provides a more accurate representation of a company’s profitability.

 

48. Revenue Recognition Principle

  • The revenue recognition principle states that revenue should be recognized when it is earned and realizable, regardless of when cash is received.
  • It outlines the conditions under which revenue should be recognized and guides the timing and measurement of revenue recognition.
  • The revenue recognition principle is crucial for accurately reflecting a company’s financial performance and is an integral part of the accrual basis of accounting.

 

49. Materiality

  • Materiality refers to the concept that financial information should be reported if it has the potential to influence the decisions of users of the financial statements.
  • It involves evaluating the significance or importance of an item or event in relation to the financial statements as a whole.
  • Materiality helps determine what information is relevant and should be disclosed in the financial statements.

 

50. Conservatism Principle

  • The conservatism principle encourages accountants to recognize potential losses and liabilities as soon as they are probable, but to only recognize potential gains and assets when they are certain.
  • It promotes a more cautious approach to financial reporting, ensuring that financial statements do not overstate the financial position or performance of a company.
  • The conservatism principle helps mitigate the risk of overstating assets or income, providing a more realistic view of a company’s financial health.

 

What Is EcomBalance? 

 

 

 

EcomBalance is a monthly bookkeeping service specialized for eCommerce companies selling on Amazon, Shopify, Ebay, Etsy, WooCommerce, & other eCommerce channels.

 

We take monthly bookkeeping off your plate and deliver you your financial statements by the 15th or 20th of each month.

 

You’ll have your Profit and Loss Statement, Balance Sheet, and Cash Flow Statement ready for analysis each month so you and your business partners can make better business decisions.

 

Interested in learning more? Schedule a call with our CEO, Nathan Hirsch.

 

And here’s some free resources:

 

 

Final Thoughts on Accounting Terms

 

We hope this Accounting Terms guide is helpful!

 

If there’s an accounting term you think we missed, reach out and let us know so we can add it to the article.

 

Also, if you need help with your accounting and bookkeeping, Speak with a Founder, Request a Callback, or Get Started Today!

Want bookkeeping off your plate? We’ve got you! Get started, Speak w/ a Founder, or Schedule a Callback

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Connor Gillivan

CMO and Founder of EcomBalance. Founded FreeUp (acquired in 2019). Founder of Outsource School. Published Author. Investor.

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