Common Finance Terms Every Newbie Needs to Know

We are discussing some of the common finance terms that you should know. Learn these terminologies to strengthen your basics in finance.

Whenever you plan to learn a new language, course or skill, the most fundamental step in the process is to learn its terminologies. If you directly start learning concepts and skip the basics, you would find it difficult to understand the concept due to the inability to understand basic terms. This is why it is an important fundamental step in your journey to learn that skill. In this article, you would be learning some of the most common Finance terms every newbie needs to know. Let us go through these terms one by one.

Common Finance Terms For Newbies

1. Accounting/Accountancy: It is the recording process of business-related financial transactions. Accounting includes analysis, summarising and reporting of the transactions to authorities. Bookkeepers and accountants are responsible for performing this process. 

2. Accounts Payable (A/P or AP): It refers to the short or long term monetary obligations of a business to its lenders, creditors and suppliers.

3. Accounts Receivable (A/R or AR): It is the opposite of accounts payable. It is a monetary obligation of others towards the business. In simple terms, it is the money that the business will collect from others. 

4. Accruals: It is the amount that has been calculated for a task but still needs to be invoiced. Companies perform invoicing at the end of a financial period. 

5. Accrual Basis of Accounting: It is a method of recording income and expenses when a transaction actually occurs. Large scale businesses use the accrual basis of accounting for maintaining and recording transactions.

6. Asset: It is a tangible or intangible resource that has value for the business which owns it. An asset can be cash, property, inventory or any other resource. Basically, it is a resource with liquidity. Mainly, assets are categorized as tangible assets and intangible assets.

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7. Accounting Rate of Return: It is the expected rate of return on an asset or investment during its lifetime. Companies use ARR in the case of multiple projects to calculate the rate of return for each project.

ARR = Asset’s average revenue/Company’s initial investment

8. Asset Turnover Ratio: It refers to revenues generated by the company through its assets. It is a metric that helps investors in determining how companies are optimising assets to generate sales. 

 Asset Turnover Ratio= Total revenue/Average assets

9. Balance Sheet: It is a company’s financial statement that provides details related to its assets, liabilities and shareholder equity. It is one of the three main financial statements that showcase what the company owns and owes to others. It is based on the fundamental equation: Assets = Liabilities + Equity.

10. Bookkeeping: It is one of the most common finance terms that every newbie needs to know while starting out. Bookkeeping is a part of recording financial transactions on a daily basis. It is done in the form of source documents for transactions, business events and operations. It is a method of getting accurate and up to date financial information of the business. 

11. Balloon Loan: It is a loan in which the lump sum amount can be paid at any point of the loan term. The debtor pays this lump sum amount at loan maturity. It does not reduce during the loan term. The final payment is large in balloon loans.

12. Bankruptcy: This is a term used by individuals or businesses that are unable to pay off their debts due to financial incapacity. A business or individual declares itself as bankrupt when they want legal support in the repayment of debts over time.

13. Bootstrapping: Starting a business through your own money is known as bootstrapping. Anyone who is bootstrapping is investing their own funds in the business. In short, the investor and business owner are the same person.

14. Bonds: A bond is a fixed-income instrument that represents loan made by investors to borrowers. Bond is an I.O.U between lender and borrower with details for loans and payments. These financial instruments are traded in bond market.

15. Collateral: It is an asset that is offered to the lender as security in lieu of a loan. It is a form of protection for the lender in case the debtor is unable to repay the loan. The lender can sell the collateral to recover the principal. Usually, the value of the collateral is equivalent to that of the loan amount. 

16. Credit limit: It is the maximum amount that a financial institution offers to the debtor. The credit limit is based on a number of factors including the credit history, repayment ability and the earnings of the debtor. 

17. Capital: It is the amount being put into work for the purpose of running a business, production and investment purposes. Capital can be any financial asset that any business or individual owns. 

18. Cash Flow: It is the movement of cash and cash equivalents in and out of a company. Cash inflow and outflow are two types of cash flow.

19. Cash Basis of Accounting: It is a method of recording revenues and expenses whenever the cash is actually received or paid. It does not recognize income from credit accounts. Only those who deal exclusively in cash use this basis of accounting. It is not acceptable under IFRS and GAAP. 

20. Debt financing: It occurs whenever a business sells debt instruments to investors to raise money for working capital or expenditures. 

21. Depreciation: Another finance term that you should be aware of is depreciation. It refers to the decrease in the asset’s value over time which can happen due to a number of reasons. It might be due to the asset’s age, market conditions, demand, damage, etc. Businesses use this concept for accounting and taxation purposes. 

22. Equity: It is equal to the difference between total number of assets and liabilities that are represented in company's balance sheet.

23. Fixed assets: These are tangible assets that cannot be easily converted into cash. These assets are long term in nature which means that these have a useful life of more than a year. Property, machinery, land, furniture or vehicle are some examples of fixed assets. 

24. Income Statement: It is a financial statement that helps in understanding the financial health of the company. It displays the income and expenditure as well as the profit or loss incurred by the company in a given time period. 

25. Intangible assets: These assets are non-physical which means that these cannot be touched. Goodwill, patents, copyrights, trademarks, franchises are some examples of intangible assets. 

26. Liability: It is the legal obligation that a business or an individual owes to others and is liable to repay over time. Liabilities may include loans, mortgages, accounts repayable, bonds, deferred revenues and warranties. Liabilities are on the right side of the balance sheet.

27. Liquidity: Liquidity refers to the ease of converting assets into cash. Different assets have different liquidity levels. You can easily convert bonds and stocks into cash and therefore these are very liquid. On the contrary, the land is less liquid since it can take months to sell or lease it. 

28. Market Capitalization: The total value of a publicly traded company’s outstanding shares of stock, calculated by multiplying the stock’s current market price by the number of shares.

29. Maturity Date: The date when a financial instrument, such as a bond or certificate of deposit, becomes due for repayment, including the return of the principal amount.

30. Mutual Fund: An investment vehicle where money is pooled from multiple investors for investing in a diversified portfolio of stocks, bonds, or other securities, professionally managed by fund managers.

31. Net Income: Also known as profit or earnings, it represents a company’s total revenue minus all its expenses, taxes, and interest over a specific period, reflecting its profitability.

32. Options: Financial derivatives that give the holder with right rather than obligation, to buy (call option) or sell (put option) an underlying asset at the predetermined price within a specified timeframe.

33. Portfolio Diversification: The strategy of spreading investments across various asset classes including bonds, stocks, and real estate, to reduce risk and enhance potential returns.

34. Private Equity: Investments into privately held companies or non-publicly traded assets by private equity firms, often involving buyouts, mergers, and acquisitions.

35. Return on Investment (ROI): A measure of profitability of the investment that is calculated by dividing the net gain or loss by the initial investment amount, usually expressed as a percentage.

36. Stock Market: A marketplace where buyers and sellers trade shares of publicly listed companies, reflecting the supply and demand for those shares, influencing their prices.

37. Treasury Bonds: Long-term government debt securities issued by the U.S. Department of the Treasury, typically offering fixed interest payments until maturity and considered low-risk investments.