Key Financial Accounting Concepts Explained
Net Income
The residual amount of earnings after all expenses have been deducted from sales. In short, gross income is an intermediate earnings figure before all expenses are included, and net income is the final amount of profit or loss after all expenses are included.
Net Sales
Net sales represent total revenue, less the cost of sales returns, allowances, and discounts. This is the primary sales figure reviewed by analysts when examining a business’s income statement.
Statement of Cash Flows
A financial statement showing how changes in balance sheet accounts and income affect cash and cash equivalents. It breaks the analysis down into operating, investing, and financing activities.
Assets
A resource with economic value that an individual, corporation, or country owns or controls with the expectation that it will provide a future benefit. Assets are reported on a company’s balance sheet and are bought or created to increase a firm’s value or benefit its operations.
Liabilities
A company’s legal financial debts or obligations that arise during the course of business operations.
Treasury Stock
Stock bought back by the issuing company, reducing the amount of outstanding stock on the open market. Also known as reacquired stock.
Accounting Equation
The fundamental relationship: Assets = Liabilities + Shareholders’ Equity. It shows that a company’s assets are financed by either debt (liabilities) or equity.
Cost of Goods Sold (COGS)
The total cost incurred for the goods sold during a specific accounting period.
Unearned Revenue
A liability arising when customers pay cash in advance for services a business will perform in the future.
Lower of Cost or Market (LCM)
An accounting method for valuing inventory. It assigns a value to inventory at the lesser of its market replacement cost or the amount it was recorded at when initially purchased.
Bank Reconciliation
A schedule that identifies and explains differences between the cash balance reported by the bank and the cash balance in the company’s accounting records.
Depletion
The systematic allocation of the cost of natural resources to expense as the resources are removed or consumed. This applies to assets like mineral deposits, oil reserves, or timber.
Bond Premium
The difference between the selling price and the face amount (par value) of a bond when it is sold for more than its face amount.
Debit
An entry on the left side of an account. Debits increase asset and expense accounts or decrease liability, equity, and revenue accounts.
Assets (Revenue Generation Focus)
An economic resource used to produce revenue, which is expected to provide a future benefit to the business.
Authorized Stock
The maximum number of shares of stock that a corporation has state approval to issue.
Posting
The process of copying transaction data from journals to ledger accounts.
Trial Balance
A schedule listing the balances of all ledger accounts. It verifies the mathematical accuracy (total debits equal total credits) of the accounting records and provides a convenient reference of current account balances.
Natural Resources
Wasting assets originally attached to land, such as mineral deposits, oil and gas reserves, timber, mines, and quarries. The land value often declines as these resources are removed.
Fiscal Year
The annual twelve-month period for which a company prepares its financial statements. It may or may not coincide with the calendar year.
FIFO (First-In, First-Out)
An inventory cost flow assumption where the cost of goods sold is calculated as if the earliest items purchased are the first items sold.
Accrual Accounting
An accounting system that recognizes revenues when earned and expenses when incurred, regardless of when cash is exchanged.
Stock Options
Contracts sold by one party to another that give the buyer the right, but not the obligation, to buy or sell a stock at an agreed-upon price (strike price) within a certain period.