Understanding financial jargon can be overwhelming, but it doesn’t have to be. Here are 26 financial terms explained as simply and clearly as possible to help you grasp essential financial concepts:
1. Balance Sheets:
A balance sheet is a financial statement that shows what a company owns (assets) and what it owes (liabilities). The formula is: Assets = Liabilities + Equity.
2. Liquidity:
Liquidity refers to how quickly an asset can be converted into cash. Cash is the most liquid asset, followed by stocks. Land and real estate are among the least liquid.
3. GAAP (Generally Accepted Accounting Principles):
GAAP is a set of accounting rules that govern how companies report their finances. Companies can report their earnings as GAAP or non-GAAP, the latter often used for more flexibility.
4. Capital Gains:
Capital gains represent the increase in value of an asset over what you paid for it. Gains are unrealized until the asset is sold, and you only pay taxes on realized capital gains.
5. Net Income:
Net income is total revenue minus expenses—a company’s profit.
6. Equity:
Equity is the value left after subtracting debts from the total value of an asset, such as a home or stock. Negative equity occurs when debts exceed the asset’s value.
7. Depreciation:
Depreciation is the decline in an asset’s value over time. Most physical assets depreciate, but real estate is often an exception.
8. EPS (Earnings Per Share):
EPS is a company’s net income divided by the number of outstanding shares. It’s a common measure of profitability.
9. Net Worth:
Net worth is the value of everything you own minus what you owe.
10. Amortization:
Amortization spreads the cost of an intangible asset, like a patent, over time.
11. Capital Markets:
Capital markets are where buyers and sellers trade financial assets like stocks and bonds. Participants include companies, mutual funds, and hedge funds.
12. Profit Margin:
Profit margin is net income divided by revenue, showing how much profit a company makes relative to its sales.
13. EBITDA (Earnings Before Interest, Taxes, Depreciation, and Amortization):
EBITDA reflects a company’s cash flow before deducting interest, taxes, depreciation, and amortization.
14. FICO Score:
Your FICO score is a credit score ranging from 300 to 850, calculated based on your payment history, credit length, and amount owed.
15. Stock Options:
Stock options give employees the right to buy company shares at a set price, which can be valuable if the stock price increases.
16. Bonds:
Bonds are loans that investors give to governments or companies. The bond issuer repays the loan with interest over time.
17. Stocks:
Stocks are shares in a company. Owning stock means you own a portion of that company.
18. Cash and Cash Equivalents:
These are assets that can easily be converted into cash, making them highly liquid.
19. Income Statement:
An income statement (also called a profit and loss statement) summarizes a company’s income and expenses over a period of time.
20. ROI (Return on Investment):
ROI measures the profitability of an investment. It’s calculated by dividing the profit by the initial cost and multiplying by 100 to get a percentage.
21. Cash Flow:
Cash flow is the net amount of cash moving in and out of a company. It’s divided into operating, investing, and financing activities.
22. Compound Interest:
Compound interest is interest earned on both the initial principal and the interest that has already been added to it.
23. Valuation:
Valuation is the process of determining the worth of an asset or company, usually by analyzing income, revenue, and cash flow.
24. Liabilities:
Liabilities are debts or financial obligations a company owes. This includes wages, loans, and payments due to suppliers.
25. Working Capital:
Working capital is the difference between a company’s assets and liabilities, representing the cash available for daily operations.
26. Term Life Insurance:
Term life insurance covers a specific period of time. If the insured person dies during that term, the beneficiaries receive the payout. If they outlive the term, the policy expires without value.