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Income -- see profit.
Interest -- a charge made for the use of money.
Inventory -- the supply or stock of goods and products that a company has for sale. A manufacturer may have three kinds of inventory: raw materials waiting to be converted into goods, work in process, and finished goods ready for sale.
Inventory obsolescence -- inventory no longer salable. Perhaps there is too much on hand, perhaps it is out of fashion. The true value of the inventory is seldom exactly what is shown on the balance sheet. Often, there is unrecognized obsolescence.
Inventory shrinkage -- a reduction in the amount of inventory that is not easily explainable. The most common cause of shrinkage is probably theft.
Inventory turnover -- a ratio that indicates the amount of inventory a company uses to support a given level of sales. The formula is: Inventory Turnover = Cost of Sales ¸ Average Inventory. Different businesses have different general turnover levels. The ratio is significant in comparison with the ratio for previous periods or the ratio for similar businesses.
Invested capital -- the total of a company's long-term debt and equity.
Journal -- a chronological record of business transactions.
Ledger -- a record of business transactions kept by type or account. Journal entries are usually transferred to ledgers.
Liabilities -- amounts owed by a company to others. Current liabilities are those amounts due within one year or less and usually include accounts payable, accruals, loans due to be paid within a year, taxes due within a year, and so on. Long-term liabilities normally include the amounts of mortgages, bonds, and long-term loans that are due more than a year in the future.
Liquid -- having lots of cash or assets easily converted to cash.
Marginal cost, marginal revenue -- marginal cost is the additional cost incurred by adding one more item. Marginal revenue is the revenue from selling one more item. Economic theory says that maximum profit comes at a point where marginal revenue exactly equals marginal cost.
Net worth -- total assets minus total liabilities. Net worth is seldom the true value of a company.
Opportunity cost -- a useful concept in evaluating alternate opportunities. If you choose alternative A, you cannot choose B, C, or D. What is the cost or loss of profit of not choosing B, C, or D? This cost or loss of profit is the opportunity cost of alternative A. In personal life you may buy a car instead of taking a European vacation. The opportunity cost of buying the car is the loss of the enjoyment of the vacation.
Overhead -- a cost that does not vary with the level of production or sales, and usually a cost not directly involved with production or sales. The chief executive's salary and rent are typically overhead.
Post -- to enter a business transaction into a journal or ledger or other financial record.
Prepaid expenses, deferred charges -- assets already paid for, that are being used up or will expire. Insurance paid for in advance is a common example. The insurance protection is an asset. It is paid for in advance, it lasts for a period of time, and expires on a fixed date.
Present value -- a concept that compares the value of money available in the future with the value of money in hand today. For example, $78.35 invested today in a 5% savings account will grow to $100 in five years. Thus the present value of $100 received in five years is $78.35. The concept of present value is used to analyze investment opportunities that have a future payoff.
Price-earnings (p/e) ratio -- the market price of a share of stock divided by the earnings (profit) per share. P/e ratios can vary from sky high to dismally low, but often do not reflect the true value of a company.
Profit -- the amount left over when expenses are subtracted revenues. Gross profit is the profit left when cost of sales is subtracted from sales, before any operating expenses are subtracted. Operating profit is the profit from the primary operations of a business and is sales minus cost of sales minus operating expenses. Net profit before taxes is operating profit minus non-operating expenses and plus non-operating income. Net profit after taxes is the bottom line, after everything has been subtracted. Also called income, net income, earnings. Not the same as cash flow and does not represent spendable dollars.
Retained earnings -- profits not distributed to shareholders as dividends, the accumulation of a company's profits less any dividends paid out. Retained earnings are not spendable cash.
Return on investment (ROI) -- a measure of the effectiveness and efficiency with which managers use the resources available to them, expressed as a percentage. Return on equity is usually net profit after taxes divided by the shareholders' equity. Return on invested capital is usually net profit after taxes plus interest paid on long-term debt divided by the equity plus the long-term debt. Return on assets used is usually the operating profit divided by the assets used to produce the profit. Typically used to evaluate divisions or subsidiaries. ROI is very useful but can only be used to compare consistent entities -- similar companies in the same industry or the same company over a period of time. Different companies and different industries have different ROIs.
Revenue -- the amounts received by or due a company for goods or services it provides to customers. Receipts are cash revenues. Revenues can also be represented by accounts receivable.
Risk -- the possibility of loss; inherent in all business activities. High risk requires high return. All business decisions must consider the amount of risk involved.
Sales -- amounts received or due for goods or services sold to customers. Gross sales are total sales before any returns or adjustments. Net sales are after accounting for returns and adjustments.
Stock -- a certificate (or electronic or other record) that indicates ownership of a portion of a corporation; a share of stock. Preferred stock promises its owner a dividend that is usually fixed in amount or percent. Preferred shareholders get paid first out of any profits. They have preference. Common stock has no preference and no fixed rate of return. Treasury stock was originally issued to shareholders but has been subsequently acquired by the corporation . Authorized by unissued stock is stock which official corporate action has authorized but has not sold or issued. (Stock also means the stock of goods, the stock on hand, the inventory of a company.)
Sunk costs -- money already spent and gone, which will not be recovered no matter what course of action is taken. Bad decisions are made when managers attempt to recoup sunk costs.
Trial balance -- at the close of an accounting period, the transactions posted in the ledger are added up. A test or trial balance sheet is prepared with assets on one side and liabilities and capital on the other. The two sides should balance. If they don't, the accountants must search through the transactions to find out why. They keep making trial balances until the balance sheet balances.
Variable cost -- a cost that changes as sales or production change. If a business is producing nothing and selling nothing, the variable cost should be zero. However, there will probably be fixed costs.
Working capital -- current assets minus current liabilities. In most businesses the major components of working capital are cash, accounts receivable, and inventory minus accounts payable. As a business grows it will have larger accounts receivable and more inventory. Thus the need for working capital will increase.
Write-down -- the partial reduction in the value of an asset, recognizing obsolescence or other losses in value.
Write-off -- the total reduction in the value of an asset, recognizing that it no longer has any value. Write-downs and write-offs are non-cash expenses that affect profits.
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