This article aims to simplify and clarify some of the most common accounting terms, making it easier for you to manage your accounts and communicate with your accountant.
- Depreciation
Depreciation refers to the decrease in value of business equipment over time due to wear and tear, obsolescence, or usage. It allows you to spread the cost of an item across its useful life.
By accounting for depreciation, you can accurately assess the value of your business assets and plan for replacements or repairs.
2.Shareholders Current Account
The shareholders current account tracks the money you contribute to the business and the money you withdraw.
When starting a business, shareholders contribute cash known as funds introduced or cash deposits.
As the business progresses, you may need to withdraw money for loan repayments or personal use, called drawings. An overdrawn current account occurs when you owe the company more than you've contributed, which can be resolved by topping it up with personal funds or receiving a shareholder salary from the company's profits.
3.Accounts Payable and Accounts Receivable
Accounts payable refers to the bills your business has yet to pay, such as supplier invoices, repairs, or utility bills.
On the other hand, accounts receivable represents the funds you expect to receive from customers who haven't paid you yet.
Both payables and receivables are important for managing cash flow effectively.
4.Gross Profit vs. Net Profit
Gross profit is the amount of money left from a sale after deducting the cost of goods or services sold. It covers other costs in your business.
Net profit, on the other hand, is the amount left after paying for goods or services sold and all other business expenses.
The difference between gross and net profit is your operating expenses and taxes.
5.Margin vs. Markup
Margin and markup both refer to the difference between the purchase and selling price of a product.
Markup represents the percentage added to the product's cost to determine the selling price.
Gross margin, expressed as a percentage, is your gross profit in relation to your sales. Higher gross margins provide better coverage for other business expenses.
6.Cash vs. Profit
Cash and profit are not the same. Cash refers to the money flowing into and out of your business, while profit is the revenue earned before deducting expenses.
It is possible for a company to be profitable but lack sufficient cash flow. To run a successful business, you need both profit and positive cash flow.
7.Accrual vs. Cash
Cash accounting records revenue and expenses when money is received or paid out, while accrual accounting records them when they are earned or incurred.
Accrual accounting considers payables and receivables, unlike cash accounting.
Most businesses use accrual accounting, which can lead to differences between the cash in your bank and your profit.
8.Profit and Loss Statement and Balance Sheet
In your accounting software, you can access the Profit and Loss Statement (also known as Statement of Financial Performance, Income Statement, or P&L) and the Balance Sheet.
The Profit and Loss Statement displays your business's earnings and costs over a specific time period, while the Balance Sheet shows your assets, liabilities, and equity at a given point in time.
By familiarising yourself with these accounting terms, you will gain a better understanding of your business's financial health and be better equipped to manage your accounts effectively.
Remember, accounting doesn't have to be a daunting language—by breaking down the jargon, you can navigate the world of finance with confidence.