With the finish line of the financial year in plain sight, it’s easy to get lost in a fog of financial terminology. Staying on top of your numbers can be difficult enough without having to translate the excess of incomprehensible language that comes around every April.
Rather than having to run your business with a dictionary in hand, we’ve put together a quick guide for all those who need to spot their dividends from their debenture. Here are the top eight accountancy terms that small business owners need to know around the turn of the financial year.
Term: Bank Reconciliation
Definition: A bank reconciliation is an action performed by a company to make sure that their company records correspond to their bank statement.
What you need to know: Monthly reconciliations can be extremely useful for small businesses. They flag any concerning or unexplained areas of the bank statement while helping spot problems in the company financial recording system.
Term: Current Ratio
Definition: At a basic level, the current ratio compares a company’s current assets to liabilities (excluding fixed assets and long term liabilities), revealing a firm’s ability to pay their financial obligations.
What you need to know: By contrasting assets to liabilities, a business can get a good view of their liquidity and overall financial health, which is important as it can act as a warning sign around its ability to pay upcoming bills. The current ratio can also give a small business a good idea of their overarching stability over the coming year.
Term: Financial Year
Definition: The accounting annual calendar.
What you need to know: If the financial year of your business is anything other than April – March, it could cause a disparity between your company and your customers and suppliers. This means that you’ll be working with out of date and unsynchronised data, which can stunt the growth of a business and cloud forecasts.
Term: Variable Expense
Definition: Any cost that fluctuates with production can be classed as a variable expense. Unlike fixed expenses – unchanging costs like rent, subscriptions and insurance – variable expenses, such as the cost of raw materials, stock orders, utility bills and in some cases, payroll, can change significantly from month-to-month and year-to-year.
What you need to know: In a small business, it’s crucial to be aware of variable expenses by forecasting the cost each month. Having an idea of how much a company is expected to pay in any given period can help to avoid nasty surprises and provide the confidence to make the most of any opportunities that present themselves.
Term: Double Entry Bookkeeping
Definition: There are different methods of accountancy a business can use. Cash basis is one example, which allows businesses to account for expenses when they receive payment. Another example is accrual, which gives a business the chance to account for expenses when they actually occur. Whatever accounting method is used overall, double entry bookkeeping will feature. The double entry system makes sure that financial records are continually balanced, meaning that the books will show that as one asset leaves the company, another enters. For instance, double entry bookkeeping will highlight when cash leaves the business and office supplies, for example, enter.
What you need to know: Double entry bookkeeping prevents mysterious assets appearing or vanishing from your company records. For an easy way to balance the books come the end of March, double entry bookkeeping is a tried and tested way to keep finances clean and simple.
Term: NPAT (Net profit after tax)
Definition: Often referred to as the ‘bottom line’, net profit after tax is one of the most useful metrics in business, showing the overall company profits.
What you need to know: Ultimately, the larger the net profit after tax, the better. Dividends are paid out of the NPAT and the remaining figure is known as the retained profit. Make sure you’re up to speed with legislative changes coming into force, such as the dividend tax allowance changes coming into force in April.
Term: Working Capital
Definition: Also known as ‘net current assets’, working capital can be found by subtracting the current liabilities from the current assets to give an indication of the cash available for day-to-day business operations.
What you need to know: Negative working capital is a red flag for a business – it means that the company is likely to struggle to fund its day-to-day operations. Keeping an eye on working capital can help to financially protect a small business.
Term: Cash Flow Statement
Definition: An analysis of cash flow over a defined period (traditionally either a month, a quarter or a year) that provides insight into where company money has come from and where it is destined to go.
What you need to know: Cash flow can often be tight in a small business, so it’s often beneficial to gain as much insight into the ins and outs of your accounts as possible. A full and detailed cash flow statement, completed regularly, can help you meet cash flow targets and ultimately be the key to a healthy business. While a traditional cash flow statement can give an idea of operations over a certain period, real time updates available on some technology platforms give firms a much-needed up to the minute picture.
Whether it’s calculating cash flow or knowing the NPAT, balancing the books at the end of the financial year doesn’t have to be the notorious task it’s famed to be. Especially if you can speak the language, or employ an accountant who speaks yours.
If you enjoyed that, why not read...