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Business Accounting: Some Key Terms You Must Understand

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It is easy for the Small Business Owner to feel completely overwhelmed in the strive to manage the finances of the business.

This should not be. It is possible to learn the need-to-know fundamentals of accounting, enough to make the Small Business Owner feel prepared for the task of successfully take charge of a commercial enterprise. Here is a glossary of terms and a quick primer on the basics of business accounting.

As the Small Business Owner grapples with the challenge of financial management, which must be embraced, there is the inevitable encounter with the buzzwords that have become tools of the trade. The Small Business Owner must come terms with the meanings of these words, otherwise reading the finances of the business will be like trying to read a foreign language that has not been learnt.

Presuming that the Small Business Owner has never taken an accounting class, the journey to financial literacy must begin with an understanding of some basic and key accounting terms that must be learn by heart:

  1. Gross Revenue: Gross revenue is the total amount of sales made by the business within a reporting period.

Sometimes referred to as total revenue, it is the sum of all monies that the business received from customers in exchange for its products and services, as recorded before any such deductions or expenses as rent, cost of goods sold, taxes, etc.

While the gross revenue of the business expresses its capacity to sell goods and services, it does not guarantee its ability to generate profit.

  1. Expenses: In its simplest term, expenses are made up of monies spent or costs incurred as the business engages in activities that aim to create revenue.

Expenses represent the cost of doing business and include anything that prevents the gross revenue of the business from going straight into its bottom line. They consist of items like salaries and wages, rent, utilities, costs of inputs for goods sold, taxes, interest on debt, and sundry operating costs.

Expenses could be cash payments, like salaries and wages; calculated expired portions of assets, like depreciation; or monies deducted from earnings, like bad debts.

  1. Net Profit/Loss: Net Profit or Net Loss is the amount by which income from sales is greater or lesser than total expenses. It is the amount that results after the business subtracts its expenses from its revenues.

When the amount representing this net earning of the business is positive, meaning revenue is greater than expenses, the business is profitable. If the reverse is the case, and the amount is negative, meaning that revenue is lesser than expenses, the business has made a loss and is not profitable.

  1. Cash Flow: Cash is the blood that flows in the veins of the business. Cash comes into the business from sales of products and services, from sale of assets, from loans, etc. Cash goes out of the business to pay for operating and incidental costs, acquire assets, service debts, etc.

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Cash Flow is mirroring of the match between monies available in the business and monies the business must pay out to meet its commitments at various times during the accounting period.

Profitability aside, having or not having enough cash in hand can make or break the business. The business will be severely challenged if it does not have cash to settle its bills as and when due.

  1. Break Even Point: The break even point of the business is the level of production (and sales) where total revenues equal total expenses. This is the point where the business generates an amount of revenue that levels with its cost of achieving that result.

This is a critical point for a start-up business which usually records losses in the first several months of its existence, during which its expenses outpace its total revenue.

The business achieves an important milestone when it reaches its break even point. It marks its turning point to profitability.

The above-listed indicators of the financial performance of a business must be monitored and reported, cumulatively, over given periods of the financial year, say monthly, quarterly, half year and full year.

The essence of the foregoing is to leverage the insight originating from this understanding to manage the business for profit.

Do you need help in understanding and organising the finances of your business? Visit the SME Clinic at https://smefinance.org/smeclinic/

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