It is important to understand the meanings of accounting terminology and basic accounting terms when reading financial reports or using accounting software. Some of the common accounting definition of terms are as follows:
Account: A record that holds the results of financial transactions related to the entity the account refers to.
Accountant's Equation: Assets = Liabilities + Owners' Equity
Accounting: The process of recording, managing, measuring, evaluating and reporting an entity’s financial information
Accounts Payable: Accounting definition of amounts that are due from your business to creditors in the short term
Accounts Receivable: Amounts that are due to your business from your customers, generally in the short term
Accounts Receivable Turnover: The measurement of a company's average collection period for receivables. Usually calculated as net sales (or net credit sales) divided by average accounts receivable
Accrual Accounting: The bookkeeping practice and principle where income is recorded when earned and expenses are recorded when incurred
Aging Schedule: A schedule that lists the length of time an invoice has been outstanding or held.
Amortization: The gradual and periodic reduction of an amount or a value of an asset or a debt over time.
Annual Percentage Rate (APR): Annual percentage rate or effective annual rate, is used to adjust investments with different interest compounding periods (daily, monthly, semiannually) on a common basis. APR = (1 + r/m) m - 1.0 (r = the stated, nominal, or quoted rate, and m = number of compounding periods per year
Annual Report: A report prepared by a company at the end of its calendar or fiscal year giving the details of the financial position and operating results generally for investors, potential investors, creditors, stockholders, lenders, government agencies, financial institutions and employees.
Arm's-Length Transaction: A business deal between independent and parties to further their own interests.
Assets: The economic resources or anything of value to which the person or company owns or claims.
Audit: The result of an independent professional accountant examining the financial statements to determine fairness and compliance with generally accepted accounting principles (GAAP).
Audit Opinion: The opinion given by a certified auditor on the company’s financial statements. An unqualified opinion indicates that the financial statements are a fair representation of the finances and operating results of the company and conform with GAAP. A qualified opinion could be given when the financial statements do not conform with GAAP and the client refuses to make changes. An adverse opinion indicates the auditor considers the financial statements to be misleading and are not a fair representation of the company's financial position.
Bad Debt: Accounting terminology for an uncollectible debt or account receivable.
Balance Sheet: An important financial statement that lists the total assets and the total liabilities of an entity in an itemized form.
Bank Reconciliation: The verification process that ensures your bank statement and your checkbook balance.
Bankruptcy: The company’s assets are used to pay off debts through a court order.
Board of Directors: The group of individuals elected by the stockholders to manage a company.
Bond: A formal contract between a borrower and a lender where the borrower promises to pay a specific rate of interest for each period that the bond is outstanding and also to repay the principal amount when the bon reaches the maturity date.
Bookkeeping: The process of recording the financial transactions of a business systematically .
Book Value: The net amount which is the original value plus or minus any adjustments such as depreciation of an asset, liability, or equity item in the books of accounts.
Break-Even Point: The point of sales volume where revenues and costs are equal and there is a no profit/no loss operation.
Budget: A planning tool where the expectations of sales, expenses and other financial transactions of an organization are detailed. It serves as a plan for the future and also a control when it is being implemented.
Business: An organization that is created to make a profit from the sale of goods or services.
Business Failure: This is also called a technical insolvency or bankruptcy. In a technical insolvency a business is unable to meet its current obligations despite the total asset value being higher than the total liabilities. In a bankruptcy, the liabilities are higher than the market value of the assets and the organization has a negative net worth.
Calendar Year: A company’s or individual’s reporting year, spanning 12 months and ending on December 31.
Capital: The property or money that is used and owned by a business and used to acquire future income or benefits.
Capital Account: The account where an owner's interest in the business is recorded. The account is increased by investment and net income and decreased by withdrawals and net losses.
Capital Gain or Loss: The difference between the market and book value of a capital asset at purchase and the value realized at its sale.
Capital Expense: An expense that is made to gain or improve a capital asset. It is charged to the asset account.
Cash Basis: A bookkeeping method that records the revenue and expenses when the cash is actually received or paid.
Cash Flow: The difference between cash inflow and outflow over a specific period of time.
Charter: Or Articles of Incorporation. A legal document that gives legal status to a corporation/company and lists its specific rights, including the authority to issue a certain maximum number of shares.
Common Stock: A type of stock that gives the holder a voting right as opposed to preferred stock in dividend and liquidation rights.
Compounding Period: The time period for which interest is computed.
Consignment: The consignor (owner of the goods) transfers goods to the consignee in a consignment. The consignor retains legal title including the goods in his inventory. The consignee is an agent temporarily holding the goods and the inventory is not an asset on his books. If a sale occurs, the consignee deducts his commission and related expenses and then remits the balance to the consignor.
Corporation or Company: A type of business that has legal rights as a separate entity and where ownership is represented by transferable shares of stock.
Cost of Good Sold: COGS: The amount calculated by subtracting the value of the ending inventory from the sum of the beginning inventory and the net purchases for the fiscal period.
Credit: An entry of an amount on the right side of a ledger account.
Current Assets: The assets of a company that are usually converted to cash, sold, or used in the short term such as cash, accounts receivable, short-term investments and inventory.
Current Liabilities: Liabilities that are expected to be paid within one year of the balance sheet date.
Current Ratio: Or Working Capital Ratio. Calculated as current assets divided by current liabilities which signifies the liquidity of the company.
Debit: An entry of an amount on the left side of a ledger account.
Depreciation: Depreciation is a term used to expense the gradual decrease in value of a physical asset throughout its useful life. These tangible or fixed assets include real estate property, buildings, plants, machinery, equipment, vehicles, furniture, and other tangible items that the company owns. It can be calculated by straight line (SL), sum-of-the-years digits (SYD), and double-declining balance (DDB) methods.
Dividend: That share of a corporation's earnings that is paid to the stockholders.
Drawings: The amount that is given to the owner(s) of a sole proprietorship or partnership.
Drawings Account: The account used to record the withdrawals of earnings by the owner(s) of a sole proprietorship or partnership.
Earnings per Share: The calculation of a company’s earnings based on the number of stock shares outstanding.
Embezzlement: The act of an employee committing fraud and stealing money or assets of the company.
Factor: The sale of accounts receivable at a discount before they are due.
Fair Market Value: The price at which a willing seller will sell, and a willing buyer will buy, when there is no compulsion to sell or buy and both are fully aware of relevant facts.
FIFO: First In First Out inventory valuation where the first goods purchased are taken as the first goods sold.
Fiscal Year: A business' reporting year, covering a 12-month month period that may not align with the calendar year.
Fixed Assets: The permanent assets of a company that will not be converted into cash during the next year such as the land, building, equipment and furniture.
Fixed Cost: The fixed operating expenses required for the necessities with no relation to the volume of production and sales such as rent, property taxes, and interest.
Franchise: A business that has obtained a license to sell a product or particular
service for a company in a given area.
GAAP: Generally Accepting Accounting Principles.
General Journal: (GJ) A book or original entry in a double-entry system that includes all transactions except those in specialized journals such as cash receipts, cash disbursements, and other common transactions.
General Ledger: (GL) A book in which financial transactions are posted (in the form of debits and credits) from a journal. It is the primary record from which financial statements are prepared.
Goodwill: When the purchase price of a company is more than the calculated value due to its intangible assets, this is called goodwill. Goodwill is usually to intangible assets such as reputation, customer relations, etc.
Gross Profit: The amount by which the net sales exceed the cost of goods sold.
Gross Sales: The total recorded sales before deducting any sales discounts or sales returns and allowances.
Interest: The cost incurred for the use of money.
Interest Rate: The cost of interest expressed as an annual percentage.
Inventory: Goods held by the company for sale or resale.
Inventory Turnover Ratio: Calculated by dividing cost of goods sold (COGS) by the average inventory for a period of time. Tells you how quickly inventory is moving.
Invoice: A formal itemized list of goods shipped or services rendered with cost and relevant details.
Journal: A book or original entry used in a double-entry bookkeeping system with details of all transactions and the accounts to which they are posted.
Journal Entry: A transaction record where debits equal credits.
Just-in-time Inventory: An inventory system that minimizes the cost of storing and handling inventory by planning supplies to be delivered just before they are needed.
Lease: Acquiring the right to use a property that is owned by the lessor.
LIFO: Last In First Out method of inventory valuation that presumes that the latest goods to arrive are the first sold.
Liquidation: The process where a business is dissolved by selling its assets, paying its debts, and distributing the remaining equity to the owners.
Liquidity: How quickly cash can be obtained by the company which is also used to determine debt repayment ability.
Long-term Liabilities: The liabilities that are due in the long term.
Modified Accrual: An accounting method that combines cash and accrual basis.
Net Assets: Owners Equity. The owner’s interest in the assets which is calculated as total assets minus total liabilities.
Net Income: An important number that indicates the difference between total revenues and total expenses. It is usually found on the Income Statement.
Net Operating Loss: A net operating loss happens when expenses exceed income for the operating period.
Operating Lease: A simple rental agreement.
Operating Performance Ratio: A ratio that measures the efficiency of operations during a period which is calculated by dividing net income by net sales.
Petty Cash Fund: A small amount of cash that is kept on hand for miscellaneous payments.
Prepaid Expenses: The expense amounts that are paid in advance to a creditor or supplier for goods or services. They are a current asset.
Profitability: The ability to generate revenues in excess of the costs incurred to generate the revenues.
Profit and Loss Statement: Also known as an Income Statement, or P & L. A financial statement that details the revenues and expenses for a specific period of time.
Proprietorship: A business owned by one person.
Public Companies: Companies whose stock is publicly traded.
Qualified Opinion: The auditor’s opinion that the entity has not followed GAAP.
Reconciliation: A process that identifies the items required to make the balance of two or more related accounts or statements agree.
Retained Earnings: The profits that have not been paid out to the owners and have been retained to spend on the business.
Return: The reward for investing in something.
Return on Investment: ROI: Calculated by dividing net income by average total assets. It measures the efficiency and performance of the company’s use of assets.
Revenues: The incoming increase in resources generated from the sale of goods or services.
Salvage or Residual Value: The estimated value (or actual price) of an asset when it reaches the end of its useful life after subtracting the disposal costs.
Shareholders or Stockholders: The individuals or entities that own shares of stock.
Solvency: The long term ability of a company to meet all financial obligations.
Sole Proprietorship: A business owned by one person.
Transactions: Any exchange or even that has a financial impact on a business.
Trial Balance: The trial listing of all account balances to check if total debits equal total credits.
Unearned Revenue: Money that is received by a business before it is earned which is listed as a liability.
Value: The worth of an item or service.
Working Capital: The Current Assets minus Current Liabilities.
Yield: The return on investment received by an investor from dividends or interest expressed as a percentage of the current market price or price paid of the security.
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