Common Accounting Words: Translated So You Can Understand Your Bean Counter!
If you have read my blog before, you know that I think it is your accountant's duty to speak your language. That means your accountant has to learn your industry jargon and explain their craft in the same language you learned in school.
But. Sometimes accountants just don't do that. Some accountants think that this helps secure their role with you. If only they understand it, you will need them.
I am here to tell you that you have to beat them at this game. As important as it is for your accountant/bookkeeper/finance person to speak in your language, it doesn't hurt for you to have some key phrases down so that you can ask questions using their language. Keep them on their toes! And, make sure that when they do explain things to you....it is what you were looking to understand.
Here are some common accounting terms. I'll give you some watchouts to help you really keep on top of your finance partner.
ACCRUAL: Recording the cost of something even though there is no invoice in your hand. If you would pay for it, you would accrue for (record) it. Since you would not pay an invoice if you haven't received the product, you don't accrue for (record) it then either. Employees have come to work, but you have paid them yet.....accrue it!
WATCHOUT: Figures don't lie, but liars, they do figure.
Understanding what items your finance partner did (or did not) include will help you make the assessment of how your business performed.
BALANCE SHEET: The financial statement that shows you the things the business OWNS and the things that the business OWES.
WATCHOUT: This is probably not a good measure of what your business is worth.
Accountants use what you paid for the asset as the basis for how they show the assets (what you own). So, if you bought a property and the value went up, the "went up" does not show on your balance sheet. Your liabilities (what you owe) are not going to show future interest payments or other terms of the loans. So, to pay-out your debt may not be properly effected. Understanding the changes in your balance sheet is the key to understanding (with all of these caveats in mind)!
COST: What does it cost? That is one of the most open ended questions that a business owner can ask. Cost is not something that is defined in a book and we all know what it means. How cost is reported depends on what decision are you making? Things that may be included in cost are: materials, labour and overhead. There may be some estimates for yield losses or inventory shrink.
WATCHOUT: A better question from What does it cost? is What have you included in your costing? or What does it cost when you consider material and labour only? (As an example). This is one area, as the business owner, where you need to take control. Things that may have to be included in your financial statements for tax or other reporting are not necessarily what you need to understand your business. Costs which are understood can be controlled. Make sure you understand what are included in your costs and make sure it makes sense for your business and the decisions you are trying to make.
DEPRECIATION: Accountants take the cost of the things you OWN (assets) and spread that cost over several years. It is supposed to help show the business that assets lose value over time.
WATCHOUT: Depreciation will show up in your expenses, but the cash that you used to buy the asset likely happened in a different year. The value of the depreciation does not reflect the actual decrease in value of that asset. Cars lose 50% of their value as soon as you drive off the lot. An accountant will ask you how long you will keep that car and spread the cost over time. The actual value of the car is too expensive to get appraised each year for an accounting exercise...just don't look at the balance sheet to find out what you could sell the car for.
GENERAL LEDGER (The "GL"): This is just the list of accounting records. It really is nothing more than a database that holds all of the items that make up your financial statements.
WATCHOUT: Any questions you ask should be (ultimately) balanced to the accounting system. Asking the simple question Does this reconcile to the GL? will allow you to make sure that your accountant/bookkeeper/finance partner is on top of things. Even if you don't want to look at "the GL", make sure that your finance partner is!
INCOME STATEMENT (The "P&L"): Sometimes called the profit and loss statement this is the report that tells you whether you made a profit or suffered a loss.
WATCHOUT: Understanding the ACCRUALS and DEPRECIATION are just some of the examples of knowing whether the assessment of how well did the business do is fair. Tying the profit and loss statement back to your cash flow is one way to understand how these items are impacting your results. Over a longer time period (year over year) the trends that exist can help to flag some things that you need to look at. Just be sure to ask lots of questions to understand if the trend is as a result of the business changes or accounting changes. At the end of the day, the results in the P&L should align to what you are seeing in your business activity.
There are so many different accounting terms that this really just scratches the surface.
What terms are causing you confusion? (Maybe I can address in a future blog!)
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