Accounting ABC

Question 1

What are assets in financial terms?

Answer 1

• Assets are resources owned by a company that have economic value and can be used to meet its financial obligations or commitments.
• Example: Cash, accounts receivable, inventory, property, plant, and equipment are all examples of assets.

Question 2

What is a balance sheet?

Answer 2

• Zu Deutsch: Bilanz
• A balance sheet is a financial statement that provides a snapshot of what a company owns (assets), what it owes (liabilities), and the value of the owner’s investment (equity) at a specific point in time.
• Example: On December 31, 2023, Company A’s balance sheet shows assets of $500,000, liabilities of $300,000, and owner’s equity of $200,000.

Question 3

What are obligations?

Answer 3

• Zu Deutsch: Verpflichtungen
• Obligations encompass any commitment (Verpflichtung, Hingabe, Bekenntnis) that requires the company to transfer resources in the future.
• Obligations can include both legal and moral commitments.
• Obligations are not neccessarily of financial nature
• Obligations are a broader term compared to liabilities.
• Not all obligations can be quantified and reported on the balance sheet as liabilities.
• For instance, a company may feel obliged to make charitable contributions as part of its corporate social responsibility. This is an obligation but not a liability, as it’s not necessarily a legal requirement.

Question 4

What are financial obligations?

Answer 4

• Financial Obligations are financial commitments that a company has entered and that require the company to pay an amount of money in the future
• Financial obligations refer to any amount of money that a person or a company is required to pay in the future.
• Financial Obligations represent commitments made today or in the past that require an outflow of money in the future
• For instance, a lease agreement on a piece of equipment might be a financial obligation because the company has agreed to make lease payments over a certain period (Example 1).
• Similarly, salaries to employees, utility bills, taxes, etc., are all financial obligations because the company is obliged to pay these amounts in the future (Example 2).

Question 5

What are debts?

Answer 5

• In accounting, debt usually refers to money borrowed from another party under an agreement to pay it back with interest.
• Debts are a type of financial obligation.
• The borrower receives cash, goods or services now and agrees to pay the lender back in the future, usually with interest.
• Examples of debt include loans from banks, bonds issued by a company, or notes payable.

Question 6

What are liabilities?

Answer 6

• In accounting, a liability is a quantifiable and legally binding financial responsibility that the company is required to fulfill in the future.
• Liabilties are quantifiable and are usually money that a business owes to others. This could be as a result of past transactions or events, such as the receipt of goods or services that haven’t been paid for yet.
• Examples include accounts payable, notes payable, salaries payable, and accrued expenses.

Question 7

How do liabilities and obligations differ from each other?

Answer 7

• The primary difference between liabilities and obligations lies in their scope and quantifiability.
• All liabilities are obligations because they represent amounts that have to be paid in the future. However, not all obligations are liabilities because some obligations may not be legally enforceable or quantifiable in monetary terms.
• Liabilities are legally binding and can be measured in monetary terms, making them recordable on a company’s balance sheet. On the other hand, obligations can be both legal and moral and are not always quantifiable or legally enforceable.

Question 8

How do financial obligations and debts differ from each other?

Answer 8

• The primary difference lies in the scope: All debts are financial obligations as they represent amounts that have to be repaid in the future, but not all financial obligations are debts.
• Financial obligations include any kind of future payout, including non-borrowed expenses like salaries, taxes, and utilities, whereas debts specifically refer to borrowed money to be repaid.
• For example, if a company takes a loan from a bank, it becomes a debt for the company. The company is obligated to pay the principal amount along with the agreed interest, which becomes its financial obligation. On the other hand, if the same company has to pay salaries to its employees at the end of the month, it is a financial obligation but not a debt as it doesn’t involve borrowed money.

Question 9

Provide examples to illustrate the difference between financial obligations and debts!

Answer 9

A restaurant’s financial obligations might include:
- Payment to food suppliers
- Salaries to staff
- Rent for the premises
- Utility bills like electricity and water
Taxes
These are all financial obligations but they are not considered debts.

However, if the restaurant borrows money from a bank to expand its business, or issues bonds to raise money for a new location, these would be considered debts. The repayment of the principal and the interest on these borrowings are financial obligations, but they also represent debt because they involve borrowed money.

Question 10

How do financial obligations and liabilities differ from each other?

Answer 10

• The primary difference between financial obligations and liabilities lies in their scope and the nature of their enforceability.
• Liabilities are a subset of financial obligations. All liabilities are financial obligations, as they are commitments to pay in the future. However, not all financial obligations are liabilities.
• Financial obligations cover a broad range of future payouts, which may not always be legally enforceable or quantifiable. For instance, a company may commit to contributing a certain amount to charity every year. This is a financial obligation, but it might not be considered a liability, as it is not legally enforceable.
• On the other hand, liabilities are specifically those obligations that are legally enforceable and are measurable in monetary terms.
• Liabilities are recordable on a company’s balance sheet, because they are enforcable and quantifiable in monetary terms.

Question 11

Provide examples to illustrate the difference between obligations and liabilities!

Answer 11

Consider a manufacturing company. This company’s liabilities might include:
- Money owed to suppliers (accounts payable)
- Bank loans (notes payable)
- Salaries owed to employees (salaries payable)
- Taxes owed to the government (tax payable)
These are all legally enforceable, quantifiable, and therefore, recordable on the balance sheet as liabilities.

Consider some obligations. The company might have an obligation to:
- Maintain a safe working environment for employees.
- Dispose of its waste in a manner that minimizes environmental impact.
- Make charitable contributions to local communities.
While they may be quantifiable, they are not legally binding

Question 12

Provide examples to illustrate the differences between financial obligations and liabilities!

Answer 12

Consider a software company.
The company’s financial obligations might include:
- Payment for software license renewals
- Salaries and bonuses to employees
- Rent for the office space
- Future charitable contributions as part of its corporate social responsibility program
While these are all financial obligations, not all of them are considered liabilities.

However, if the software company takes out a loan for business expansion, the money owed to the bank, along with interest, becomes a liability because it is a legally binding obligation that is quantifiable in monetary terms. Similarly, the amounts owed to employees as salaries and bonuses, and rent payable to the landlord, are also liabilities, as they are legally enforceable and quantifiable.

Question 13

What is depreciation?

Answer 13

• Depreciation is the method of allocating the cost of a tangible asset over its useful life.
• It’s a way of recognizing that the value of an asset decreases over time.
• Example: If a company buys a machine for $10,000 and expects it to have a useful life of 10 years, it might depreciate the machine at a rate of $1,000 per year.

Question 14

What is cash flow?

Answer 14

• Cash flow is the movement of money into or out of a business, project, or financial product.
• Cash flow is usually measured during a specified, limited period of time.
• Example: A company’s cash flow statement might show $100,000 in cash inflows from operating activities, $50,000 in cash outflows for investing activities, and $20,000 in cash inflows from financing activities.

Question 15

What is EBITDA?

Answer 15

• EBITDA stands for Earnings Before Interest, Taxes, Depreciation, and Amortization.
• It’s a measure of a company’s operating performance.
• Example: If a company has net income of $50,000, interest of $10,000, taxes of $5,000, depreciation of $3,000, and amortization of $2,000, its EBITDA would be $70,000.

Question 16

What is GAAP?

Answer 16

• GAAP stands for Generally Accepted Accounting Principles.
• It’s a common set of accounting principles, standards, and procedures that companies must follow when they compile their financial statements.
• Example: Under US-GAAP, companies in the U.S. are required to report earnings per share (EPS) on their income statements.

Question 17

What is historical cost?

Answer 17

• Historical cost is a measure of value used in accounting
• The price of an asset on the balance sheet is based on its nominal or original cost when acquired by the company.
• Example: If a company bought a building for $200,000 five years ago and the market value today is $300,000, the company still reports the building at the historical cost of $200,000 on its balance sheet.

Question 18

What is an income statement?

Answer 18

• Zu Deutsch: Gewinn- und Verlustrechnung
• An income statement is a financial statement that shows a company’s revenues and expenses over a specific period
• An income statement provides a picture of its financial performance and profitability.
• Example: Company C’s income statement for 2023 shows revenues of $600,000, cost of goods sold of $300,000, and operating expenses of $200,000, leading to a net income of $100,000 (Total Expenses = COGS + OPEX)

Question 19

What are journal entries in accounting?

Answer 19

• Zu Deutsch: Buch-Einträge
• Journal entries are the first step in the accounting cycle and are used to record all business transactions and events in the accounting system.
• Example: If a company pays $500 for rent, it would debit (increase) rent expense by $500 and credit (decrease) cash by $500 in its journal entries.

Question 20

What is a KPI?

Answer 20

• KPI stands for Key Performance Indicator, and is a measurable value that demonstrates how effectively a company is achieving key business objectives.
• For a sales team, a potential KPI might be monthly sales growth.

Question 21

What are Liabilities in accounting?

Answer 21

• Zu Deutsch: Verbindlichkeiten
• Also called “passives”
• Liabilities are financial obligations (Verpflichtungen) or debts that a company owes.
• Example: Bank loans and accounts payable are common types of liabilities.

Question 22

What is the Matching Principle in accounting?

Answer 22

• The Matching Principle requires that expenses are reported in the same period as the revenues they helped to earn.
• Example: If a company sells goods in December, but doesn’t pay the supplier until January, the cost of those goods is still recorded as an expense in December.

Question 23

What is Net Income?

Answer 23

• Net Income is a company’s total earnings (or profit)
• Net Income is calculated by subtracting total expenses from total revenues.
• Example: If a company has $500,000 in revenue and $400,000 in expenses, its net income is $100,000.

Question 24

What is Owners Equity?

Answer 24

• Zu Deutsch: Eigenkapital
• Owners Equity is the amount of money that would be returned to a company’s owners if all of the assets were liquidated and all of the company’s debts were paid off (liabilities were settled).
• Example: If a company’s total assets are $500,000 and total liabilities are $300,000, the owner’s equity is $200,000.

Question 25

What is Profit?

Answer 25

• Profit is the financial gain realized when revenue exceeds expenses over a given period.
• Example: If a company earns $100,000 in revenue and incurs $80,000 in expenses, the profit is $20,000.

Question 26

What is the Quick Ratio?

Answer 26

• The Quick Ratio is a measure of a company’s ability to meet its short-term financial liabilities with its most liquid assets.
• The Quick Ratio is a KPI. It measures a companies’ liquidity
• The Quick Ratio is calculated as
  Quick Ratio = (Cash and Cash Equivalents + Marketable Securities + Accounts Receivable) / Current Liabilities
• Example: If a company’s liquid assets are $50,000 and its current liabilities are $40,000, the quick ratio is 1.25.

Question 27

What is Revenue?

Answer 27

• Revenue is the income generated from normal business operations and includes discounts and deductions for returned merchandise.
• Example: The money a retail company earns from selling clothing is its revenue.

Question 28

Who are Shareholders?

Answer 28

• Shareholders are individuals or institutions that legally own one or more shares of stock in a public or private corporation.
• Example: If you buy shares in Apple Inc., you become a shareholder in that company.

Question 29

What are Taxes in the context of a business?

Answer 29

• Taxes are compulsory financial charges imposed by a government to fund various public expenditures.
• Example: Corporate income tax is a direct tax levied by a government on the earnings of a company.

Question 30

What is Unearned Revenue?

Answer 30

• Unearned Revenue is money received by an individual or company for a service or product that has yet to be provided or delivered.
• Example: If a magazine company receives payment for a one-year subscription, but has only sent the first month’s issue, the rest of the payment is considered unearned revenue.

Question 31

What is Valuation?

Answer 31

• Zu Deutsch: Unternehmensbewertung
• Valuation is the analytical process of determining the current (or projected) worth of an asset or a company.
• Example: A company might be valued at $10 million based on its assets, earnings, market value of shares, and other factors.

Question 32

What is Working Capital?

Answer 32

• Working Capital is a measure of both a company’s operational efficiency and its short-term financial health.
• It’s calculated as current assets minus current liabilities.
• Example: If a company has current assets of $1 million and current liabilities of $500,000, its working capital is $500,000.

Question 33

What are Expenses in accounting?

Answer 33

• Expenses are the costs incurred in the process of generating revenue.
• Example: Rent, salaries, and utilities are typical examples of business expenses.

Question 34

What is Yield in finance?

Answer 34

• Yield refers to the earnings generated and realized on an investment over a particular period of time, and is expressed as a percentage based on the invested amount or on the current market value of the investment.
• Example: If a bond costs $2,000 and pays $100 annually, its yield is 5%.

Question 35

What is Zero-based Budgeting?

Answer 35

• Zero-based Budgeting is a method of budgeting in which all expenses must be justified for each new period.
• It starts from a “zero base” and every function within an organization is analyzed for its needs and costs.
• Example: Instead of adjusting last year’s budget for the marketing department, the company analyzes the needs and costs of the marketing department from scratch and creates a budget based on those needs.