Posted 21 Apr 2020, Editor's Desk
Everything You Need To Know About Small Business Accounting
How often do you end a call with your accountant feeling more confused than you were before?
If you response is “almost every time” have no fear!
We’ve compiled a list of 5 most crucial accounting terms for small business, along with the technique to understand them with regards to your business
1. Cash Flow
Cash Flow = Money Flowing In & Out Of Your Business
Most of the small businesses fail not because of the lack of sales or profit, but because of lack of cash in their business.
Cash is not the same thing as revenue. Sales occur when a business sells a product or renders a service, but the cash comes in the business when the company collects payment from the customer.
Being cash flow positive i.e. having excess cash in the business means:
The activities that affect the cash flow of business are:
2. Variable & Fixed Expenses
Variable & fixed expenses are very simple but extremely important accounting terms for small businesses.
Variable expenses can increase or decrease depending upon the company’s production output in a month i.e. they rise as production increases and reduces as production decreases.
Fixed expenses remain the same regardless of the production output in a month (e.g. office rent, employee salary, etc.)
Many business owners feel that depreciation is a complicated accounting term, which is a completely wrong perception.
Depreciation is the decrease in the value of an asset over time due to its wear and tear, new technology or market conditions.
Depreciation is an income tax deduction. By decreasing the value of the asset, your overall taxable income lowers, and hence, your tax liability decreases.
COGS or Cost of goods sold refers to the expenses that are directly related to the creation of the product or service of the business.
In simple language, the accounting term COGS refers to the direct costs of producing the goods sold by a company.
COGS includes cost of the material & labour directly used to create the goods or services, and excludes indirect expenses such as distribution costs and sales force costs.
How COGS affects Business Income:
Accounting term Cost of goods sold is a business expense, just as cost of doing business. As COGS increases, the company’s profit decreases, resulting in reduction in the tax liability.
But a business owner should keep in mind that increasing COGS means that the business doesn’t make much money overall, hence COGS should be managed efficiently to increase profits.
5. Gross Profit Vs Net Profit
Profit is the amount of money your business makes. The difference between gross and net profit is that expenses when subtracted form gross profit gives us the net profit earned.
To calculate net profit, you must know gross profit of your business. Small business owners should always try to increase their gross profit by reducing their cost of goods sold.
Accounting terms, Gross & net profit are both key indicators for measuring performance of a business as an industry benchmark or its competitors.
If you understand these 5 key accounting terms for small businesses, it can help you manage your accounting in a more efficient manner helping you build your enterprise.
Taking the time out to understand these accounting terms for small businesses is well worth your while and can set you up for future success.