Accounting Management tips

10 accounting
terms
that all
entrepreneurs
should know

Each industry uses it own jargon, and accounting is not an exception to this rule. Sometimes, accounting terms seem complicated. It can be hard to know and understand them all if you did not study in this field.

This article was revised in July 2024 to reflect today’s tastes.

Even if your accountant handles most of your business’s accounting processes, it is important for you to familiarize yourself with the related jargon so that you can get a better overview of your company and make better daily or long-term decisions.

Here are 10 accounting terms (and their definitions) that will be very useful to you in your business path.

Financial statements

Balance sheet

A balance sheet is a document which combines all data concerning your business’s possessions and debts on the date of your choice. It shows your assets, liabilities and capital (what you own, what you owe and what you’re worth).

Imagine that your balance sheet is a photograph of your business which provides an overall picture during a specific moment. This report is particularly practical for having a good overview of your business at the end of each month.

Spreadsheet

A spreadsheet is a tool which allows the accountant to make equivalencies between the figures posted in the journal and those entered in the general ledger for a fiscal year-end. It must always contain the initial trial balance, the adjustments and the adjusted audit balance so that your financial result is as clear as possible.

In Quebec, “spreadsheet” also refers to the electronic tools used to make accounting calculations and process a great deal of data quickly on a computer (e.g. Excel).

Income statement

An income statement is a report which, as the name indicates, presents the results for a given period, which show your profitability. It indicates your profit for a given period by subtracting your expenses from your income. You can also use this report to compare the same period in two different years and to compare your data with your budget.

Working capital

“Working capital” is the sum of all assets that your business has once you have deducted the current liabilities. In other words, it is the total amount of money that you can use to pay your bills and keep your business running in the short term.

Working capital is very important, because it allows you to assess your ability to finance your growth over time. If you divide your total resources by your total expenses and debts, and you obtain a number higher than 1, you have more money flowing into your business than you have flowing out to pay what you owe. This is a good indicator of financial health.

Cash flow

Cash flow allows you to keep track of all fund inflows and outflows, as well as manage your liquidity, except when the income (or expense) has been recognized. This flow adjusts with each inflow and outflow. In other words, it follows your dollars (literally).

When the total cash inflows exceed the outflows, the flow is positive. When the cash flow stays positive for a long period, your business is considered to be in good health. When cash outflows exceed inflows, the flow becomes negative. It is normal for any business to undergo short periods of negative flow, but when it is for a longer period, your business risks running into problems.

General ledger items

Depreciation

In business accounting, depreciation consists in spreading the cost of an investment (fixed asset) over its useful life. The actual investment amount is not considered in the depreciation: only the time during which the business expects to use this investment is considered.

For example, if a company acquires a new computer worth $5,000, and expects to use it for 5 years, accounting standards obligate it to distribute this amount over its useful life (which in this case is estimated at 5 years), even if the computer was paid in full during the first year.

A business must often manage several fixed assets at the same time, each one having a different useful life. It is therefore important that you acquire a tool that will let you follow all your investments at the same time.

Prepaid expenses

Prepaid expenses are in fact expenses which you pay for services or goods that you have not received yet. They are considered assets, the reason being that since you already paid in advance, you own this service, even if it has not yet been “completely used”.

The best example of prepaid expenses is your business insurance. When you sign an insurance contract, you pay the fees at the beginning, but the service is valid for the next 12 months. These 12 months will not necessarily coincide with your fiscal year, which allows you to obtain a balance at the end of the year.

Accrued expenses

Accrued expenses are the opposite of prepaid expenses. They are an unpaid expense, an amount that you owe for a service already received in full. In your income statement, these expenses appear as an expenses incurred and in your balance sheet, in the form of an unpaid commitment.

Work in progress

The term “work in progress” refers to the report containing the list of billable work and hours which have not yet been invoiced. This facilitates the management of long-term projects and the management of project invoicing.

Imagine that you accept a 5-year contract. Are you going to wait 5 years before recognizing your income? Of course not! As your project advances, you will have accomplished work that deserves to be invoiced, and you can use your work in progress report to follow its evolution and your invoicing. The work in progress report is generally expressed in dollars.

EBITDA

This acronym means “earnings before interest, taxes, depreciation and amortization” and indicates the subtotal of your net income. It represents your gross income and your operating expenses over which you have a certain control (employee salaries for example). However, it does not include the expenses over which you have no control in the short term (e.g. interest, taxes, depreciation and amortization).

Calculation examples:

1. Income – operating expenses = EBITDA
2. Income – operating expenses – interest, taxes, depreciation and amortizations = net income

These expenses are excluded from the EBITDA since they are barely affected by the decisions made by managers. This data serves as a measure of the business’s ability to generate an operating profit.

You may have to provide your EBITDA if you want to sell your business or apply for a bank loan. Therefore, this type of document should always be included in your income statement.

Beneficial knowledge

Knowing and understanding the terms in this article will not make you an accounting expert. Nevertheless, it will come in handy during conversations with your accountant, investors or a financial institution and even during your financial decisions.

Management software is also the ideal tool to see these terms in action and improve your understanding of the different operations essential to the proper functioning of your business. Note that the majority of the documents mentioned in this article can be completed with Acomba GO, which allows you to follow your data closely on a daily basis.

Are you looking for an efficient solution to manage your accounting? Contact our team of experts to learn more about this software which has a proven track record with many Quebec SMBs!

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