acid test

A stern measure oI a company's ability to pay its short term debts, in that stock is excluded Irom
asset value. (liquid assets/current liabilities) Also reIerred to as the Quick Ratio.
assets
Anything owned by the company having a monetary value; eg, 'Iixed' assets like buildings, plant
and machinery, vehicles (these are not assets iI rentedand not owned) and potentially including
intangibles like trade marks and brand names, and 'current' assets, such as stock, debtors and
cash.
asset turnover
Measure oI operational eIIiciency - shows how much revenue is produced per oI assets
available to the business. (sales revenue/total assets less current liabilities)
balance sheet
The Balance Sheet is one oI the three essential measurement reports Ior the perIormance and
health oI a company along with the ProIit and Loss Account and the CashIlow Statement. The
Balance Sheet is a 'snapshot' in time oI who owns what in the company, and what assets and
debts represent the value oI the company. (It can only ever nbe a snapshot because the picture is
always changing.) The Balance Sheet is where to look Ior inIormation about short-term and
long-term debts, gearing (the ratio oI debt to equity), reserves, stock values (materials and
Iinsished goods), capital assets, cash on hand, along with the value oI shareholders' Iunds. The
term 'balance sheet' is derived Irom the simple purpose oI detailing where the money came Irom,
and where it is now. The balance sheet equation is Iundamentally: (where the money came Irom)
Capital Liabilities Assets (where the money is now). Hence the term 'double entry' - Ior
every change on one side oI the balance sheet, so there must be a corresponding change on the
other side - it must always balance. The Balance Sheet does not show how much proIit the
company is making (the P&L does this), although pervious years' retained proIits will add to the
company's reserves, which are shown in the balance sheet.
capital employed
The value oI all resources available to the company, typically comprising share capital, retained
proIits and reserves, long-term loans and deIerred taxation. Viewed Irom the other side oI the
balance sheet, capital employed comprises Iixed assets, investments and the net investment in
working capital (current assets less current liabilities). In other words: the total long-term Iunds
invested in or lent to the business and used by it in carrying out its operations.
cashflow
The movement oI cash in and out oI a business Irom day-to-day direct trading and other non-
trading or indirect eIIects, such as capital expenditure, tax and dividend payments.
cashflow statement
One oI the three essential reporting and measurement systems Ior any company. The cashIlow
statement provides a third perspective alongside the ProIit and Loss account and Balance Sheet.
The CashIlow statement shows the movement and availability oI cash through and to the
business over a given period, certainly Ior a trading year, and oIten also monthly and
cumulatively. The availability oI cash in a company that is necessary to meet payments to
suppliers, staII and other creditors is essential Ior any business to survive, and so the reliable
Iorecasting and reporting oI cash movement and availability is crucial.
cost of debt ratio (average cost of debt ratio)
Despite the diIIerent variations used Ior this term (cost oI debt, cost oI debt ratio, average cost oI
debt ratio, etc) the term normally and simply reIers to the interest expense over a given period as
a percentage oI the average outstanding debt over the same period, ie., cost oI interest divided by
average outstanding debt.
cost of goods sold (COGS)
The directly attributable costs oI products or services sold, (usually materials, labour, and direct
production costs). Sales less COGS gross proIit. EIIetively the same as cost oI sales (COS) see
below Ior Iuller explanation.
cost of sales (COS)
Commonly arrived at via the Iormula: opening stock stock purchased - closing stock.
Cost oI sales is the value, at cost, oI the goods or services sold during the period in question,
usually the Iinancial year, as shown in a ProIit and Loss Account (P&L). In all accounts,
particularly the P&L (trading account) it's important that costs are attributed reliably to the
relevant revenues, or the report is distorted and potentially meaningless. To use simply the total
value oI stock purchases during the period in question would not produce the correct and
relevant Iigure, as some product sold was already held in stock beIore the period began, and
some product bought during the period remains unsold at the end oI it. Some stock held beIore
the period oIten remains unsold at the end oI it too. The Iormula is the most logical way oI
calculating the value at cost oI all goods sold, irrespective oI when the stock was purchased. The
value oI the stock attributable to the sales in the period (cost oI sales) is the total oI what we
started with in stock (opening stock), and what we purchased (stock purchases), minus what
stock we have leIt over at the end oI the period (closing stock).
current assets
Cash and anything that is expected to be converted into cash within twelve months oI the balance
sheet date.
current ratio
The relationship between current assets and current liabilities, indicating the liquidity oI a
business, ie its ability to meet its short-term obligations. Also reIerred to as the Liquidity Ratio.
current liabilities
Money owed by the business that is generally due Ior payment within 12 months oI balance sheet
date. Examples: creditors, bank overdraIt, taxation.
depreciation
The apportionment oI cost oI a (usually large) capital item over an agreed period, (based on liIe
expectancy or obsolescence), Ior example, a piece oI equipment costing 10k having a liIe oI
Iive years might be depreciated over Iive years at a cost oI 2k per year. (In which case the P&L
would show a depreciation cost oI 2k per year; the balance sheet would show an asset value oI
8k at the end oI year one, reducing by 2k per year; and the cashIlow statement would show all
10k being used to pay Ior it in year one.)
dividend
A dividend is a payment made per share, to a company's shareholders by a company, based on
the proIits oI the year, but not necessarily all oI the proIits, arrived at by the directors and voted
at the company's annual general meeting. A company can choose to pay a dividend Irom reserves
Iollowing a loss-making year, and conversely a company can choose to pay no dividend aIter a
proIit-making year, depending on what is believed to be in the best interests oI the company.
Keeping shareholders happy and committed to their investment is always an issue in deciding
dividend payments. Along with the increase in value oI a stock or share, the annual dividend
provides the shareholder with a return on the shareholding investment.
earnings before..
There are several 'Earnings BeIore..' ratios and acronyms: EBT Earnings BeIore Taxes; EBIT
Earnings BeIore Interest and Taxes; EBIAT Earnings BeIore Interest aIter Taxes; EBITD
Earnings BeIore Interest, Taxes and Depreciation; and EBITDA Earnings BeIore Interest,
Taxes, Depreciation, and Amortization. (Earnings operating and non-operating proIits (eg
interest, dividends received Irom other investments). Depreciation is the non-cash charge to the
balance sheet which is made in writing oII an asset over a period. Amortisation is the payment oI
a loan in instalments.
fixed assets
Assets held Ior use by the business rather than Ior sale or conversion into cash, eg, Iixtures and
Iittings, equipment, buildings.
fixed cost
A cost which does not vary with changing sales or production volumes, eg, building lease costs,
permanent staII wages, rates, depreciation oI capital items.
goodwill
Any surplus money paid to acquire a company that exceeds its net tangible assets value.
gross profit
Sales less cost oI goods or services sold. Also reIerred to as gross proIit margin, or gross proIit,
and oIten abbreviated to simply 'margin'. See also 'net proIit'.
initial public offering (ipo)
An Initial Public OIIering (IPO being the Stock Exchange and corporate acronym) is the Iirst
sale oI privately owned equity (stock or shares) in a company via the issue oI shares to the public
and other investing institutions. In other words an IPO is the Iirst sale oI stock by a private
company to the public. IPOs typically involve small, young companies raising capital to Iinance
growth. For investors IPO's can risky as it is diIIicult to predict the value oI the stock (shares)
when they open Ior trading. An IPO is eIIectively 'going public' or 'taking a company public'.
liabilities
General term Ior what the business owes. Liabilities are long-term loans oI the type used to
Iinance the business and short-term debts or money owing as a result oI trading activities to date
. Long term liabilities, along with Share Capital and Reserves make up one side oI the balance
sheet equation showing where the money came Irom. The other side oI the balance sheet will
show Current Liabilities along with various Assets, showing where the money is now.
liquidity ratio
Indicates the company's ability to pay its short term debts, by measuring the relationship between
current assets (ie those which can be turned into cash) against the short-term debt value. (current
assets/current liabilities) Also reIerred to as the Current Ratio.
net assets (also called total net assets)
Total assets (Iixed and current) less current liabilities and long-term liabilities that have not been
capitalised (eg, short-term loans).
net current assets
Current Assets less Current Liabilities.
net present value (npv)
NPV is a signiIicant measurement in business investment decisions. NPV is essentially a
measurement oI all Iuture cashIlow (revenues minus costs, also reIerred to as net beneIits) that
will be derived Irom a particular investment (whether in the Iorm oI a project, a new product
line, a proposition, or an entire business), minus the cost oI the investment. Logically iI a
proposition has a positive NPV then it is proIitable and is worthy oI consideration. II negative
then it's unproIitable and should not be pursued. While there are many other Iactors besides a
positive NPV which inIluence investment decisions; NPV provides a consistent method oI
comparing propositions and investment opportunities Irom a simple capital/investment/proIit
perspective. There are diIIerent and complex ways to construct NPV Iormulae, largely due to the
interpretation oI the 'discount rate' used in the calculations to enable Iuture values to be shown as
a present value. Corporations generally develop their own rules Ior NPV calculations, including
discount rate. NPV is not easy to understand Ior non-Iinancial people - wikipedia seems to
provide a good detailed explanation iI you need one.
net profit
Net proIit can mean diIIerent things so it always needs clariIying. Net strictly means 'aIter all
deductions' (as opposed to just certain deductions used to arrive at a gross proIit or margin). Net
proIit normally reIers to proIit aIter deduction oI all operating expenses, notably aIter deduction
oI Iixed costs or Iixed overheads. This contrasts with the term 'gross proIit' which normally
reIers to the diIIerence between sales and direct cost oI product or service sold (also reIerred to
as gross margin or gross proIit margin) and certainly beIore the deduction oI operating costs or
overheads. Net proIit normally reIers to the proIit Iigure beIore deduction oI corporation tax, in
which case the term is oIten extended to 'net proIit beIore tax' or PBT.
profit and loss account (P&L)
One oI the three principal business reporting and measuring tools (along with the balance sheet
and cashIlow statement). The P&L is essentially a trading account Ior a period, usually a year,
but also can be monthly and cumulative. It shows proIit perIormance, which oIten has little to do
with cash, stocks and assets (which must be viewed Irom a separate perspective using balance
sheet and cashIlow statement). The P&L typically shows sales revenues, cost oI sales/cost oI
goods sold, generally a gross proIit margin (sometimes called 'contribution'), Iixed overheads
and or operating expenses, and then a proIit beIore tax Iigure (PBT). A Iully detailed P&L can be
highly complex, but only because oI all the weird and wonderIul policies and conventions that
the company employs. Basically the P&L shows how well the company has perIormed in its
trading activities.
overhead
An expense that cannot be attributed to any one single part oI the company's activities.
quick ratio
Same as the Acid Test. The relationship between current assets readily convertible into cash
(usually current assets less stock) and current liabilities. A sterner test oI liquidity.
reserves
The accumulated and retained diIIerence between proIits and losses year on year since the
company's Iormation.
share capital
The balance sheet nominal value paid into the company by shareholders at the time(s) shares
were issued.
shareholders' funds
A measure oI the shareholders' total interest in the company represented by the total share capital
plus reserves.
variable cost
A cost which varies with sales or operational volumes, eg materials, Iuel, commission payments.
working capital
Current assets less current liabilities, representing the required investment, continually
circulating, to Iinance stock, debtors, and work in progress.


2
abnormal return
1he dlfference beLween Lhe reLurn on a sLock (or enLlre porLfollo) and Lhe performance of an lndex such
as Lhe S 300 1he abnormal reLurn ls equal Lo Lhe markeL reLurn Lhe normal reLurn lor example a
sLock LhaL provlded a reLurn of 10 over Lhe same perlod of Llme ln whlch an lndex provlded a 6
reLurn would have an abnormal reLurn of 10 6 4 lf Lhe abnormal reLurn ls negaLlve Lhen lL has
underperformed Lhe lndex
Accelerated Depreciation
A depreclaLlon meLhod whlch allows fasLer wrlLeoffs Lhan Lhe sLralghL llne meLhod 1hese meLhods
provlde a greaLer Lax shleld effecL Lhan sLralghL llne depreclaLlon and so companles wlLh large Lax
burdens mlghL llke Lo use acceleraLed depreclaLlon meLhods even lf lL reduces Lhe lncome shown on
flnanclal sLaLemenL AcceleraLed depreclaLlon meLhods are popular for wrlLlngoff equlpmenL LhaL mlghL
be replaced before Lhe end of lLs useful llfe slnce Lhe equlpmenL mlghL be obsoleLe (eg compuLers)
Cne example of an acceleraLed depreclaLlon meLhod ls Lhe Modlfled AcceleraLed CosL 8ecovery SysLem
(MAC8S)
accounting cycle
The steps used in an accounting transaction Irom the time it occurs to its occurrence on the
Iinancial statement sheets.
accounting entity
A business or other unit that is being accounted Ior separately. Systems oI accounts are
maintained Ior each entity. These can include corporations, trusts, partnerships, and others.

accounting equation
The Iundamental balance sheet equation: namely, assets liabilities net worth.
accounting method
A process used by a business to report income and expenses. Companies must choose between
two methods acceptable to the IRS, cash accounting or accrual accounting. Cash accounting
records income in the year it is received and expenses as they are paid. The accrual method
records the income in the year it is earned even though it has not yet been received, and expenses
are recorded as they are incurred even iI they haven't been paid.

accounting period
When a company uses an appropriate amount oI time to Iile Iinancial statements. The amount oI
time can reported as an annual, quarterly, or monthly statement.

accounts payable
Money whlch a company owes Lo vendors for producLs and servlces purchased on credlL 1hls lLem
appears on Lhe companys balance sheeL as a currenL llablllLy slnce Lhe expecLaLlon ls LhaL Lhe llablllLy
wlll be fulfllled ln less Lhan a year When accounLs payable are pald off lL represenLs a negaLlve cash
flow for Lhe company
accounts receivable
Money whlch ls owed Lo a company by a cusLomer for producLs and servlces provlded on credlL 1hls ls
ofLen LreaLed as a currenL asseL on a balance sheeL A speclflc sale ls generally only LreaLed as an
accounL recelvable afLer Lhe cusLomer ls senL an lnvolce
ccounting insolvency
Total liabilities exceed total assets. A Iirm with a negative net worth is insolvent on the books.
ccounting liquidity
The ease and quickness with which assets can be converted to cash
ccounts payable
Money owed to suppliers.
ccounts receivable
Money owed by customers.
ccounts receivable turnover
The ratio oI net credit sales to average accounts receivable, a measure oI how quickly customers pay their
bills.