We must have seen common financial terms in the news, business articles, or bank documents; however, we might not always know their exact meanings.
For example, terms such as revenue, profit, turnover, and cash flow look similar, and we use them interchangeably without knowing what they actually mean.
We need to know the difference among these terms. Everyone, including job seekers, professionals, students, investors, and business owners, should know these financial terms.
In this blog, we will understand the most common and important financial terms in simple language.
Why Do We Need to Understand Financial Terms?
Financial terms are important for everyone, and understanding them helps us make everyday decisions easily.
Understanding financial terms is important for the following reasons:
- Helps make decisions beyond sales figures or assumptions.
- Helps in business expansion or investment decisions.
- Helps confidently understand personal finance and company reports.
- Helps in talking comfortably to the accountants, CAs, bank representatives, investors, or business partners.
- Helps in asking questions, instead of agreeing on everything.
- Helps avoid issues such as increased expenses, low profit, and cash shortage.
For all these reasons, it is important to understand the basic financial terms.
Common Financial Terms We Should Know
Financial terms might seem confusing when we read them for the first time; however, if we understand their basic meanings, it becomes easier for us to get involved in business discussions. Here are some common financial terms we must know.
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Revenue
Revenue means the total amount a business has earned from its sales. The revenue amount has no expense deductions. It is commonly known as “total sales” or “top line”.
Many of us think that revenue is the same as profit; however, that’s not true, as revenue shows only the earnings.
For example, a business earned ₹20,000 in a day. That’s the business’s revenue; any expenses will be deducted later on.
This term is commonly used in:
- Company annual reports
- Business news
- Business earnings
- Financial statements
It is important to know the business’s revenue, but the business’s performance doesn’t rely only on these numbers.
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Company Turnover
This is one of the most confusing financial terms. In India, company turnover is the total sales or revenue of a business in a financial year. However, the term has different meanings everywhere.
In many countries or industries, turnover might be employee turnover or inventory turnover; that’s why it is important to understand its context before using it.
Turnover can be easily understood with an example. A company made sales of goods worth ₹10 crore in a year; it means its turnover is ₹10 crore. Many of us misunderstand turnover as profit, but the terms are different. Profit is the amount the business has after deduction of expenses.
If you want to know a company’s turnover or other financial details, you can use platforms such as Tofler. It is a leading business intelligence platform for Indian companies. Once we understand the meaning of turnover, it becomes easier to understand the company’s financial numbers.
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Gross Profit
Gross profit shows the amount left with the business after selling goods and services and deducting direct costs such as raw materials, manufacturing, or packaging.
For example, a clothing store makes sales of ₹1,00,000 in a year; however, its direct cost is ₹60,000, its gross profit will be ₹40,000. If sales are increasing, it is good for a business, but if the cost of making the products is also increasing, then its gross profit will not increase.
Gross profit tells how effectively the company is earning through its sales. That’s why it is important to understand the business’s sales and direct costs.
Some important considerations:
- Gross profit helps make a business’s pricing strategy.
- Compare this figure at regular intervals.
- Control direct costs to have better gross profit.
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Net Profit
It is the amount a business has after deducting all expenses, taxes, interest, and other costs. That’s why net profit is generally known as a business’s actual earnings or “bottom line”. This shows how profitable the business is.
For example, business A and business B have sales of ₹10 lacs; however, business A spends less and earns a net profit of ₹2 lacs, but business B spends more and earns a net profit of ₹40,000.
Both businesses have the same revenue, but they differ in their performance. To understand the overall financial performance of the business, it is important to consider net profit and revenue.
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Cash Flow
Cash flow shows the record of how much cash flows in and out of the business in a financial year. A business might be profitable, but it should have cash when needed.
For example, a furniture company has an order worth ₹5 lacs, but the customer will make the payment after some days. The company might have to pay rent, salaries, and other things, but it doesn’t have cash.
Such situations create problems for businesses. Proper cash flow helps businesses operate easily and handle emergencies. Businesses should track cash flows and profits regularly.
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Expenses
Expenses are daily costs that are a part of business and can’t be avoided.
Basically, there are two types of expenses:
- Fixed expenses that remain more or less the same every month, irrespective of the sales amount.
- Variable expenses vary according to sales and business activity.
For example, a clothing store will have the same rent every month; that’s a fixed expense. The requirement for more raw materials is a variable expense.
It is important to track expenses individually to plan budgets, prices, and future strategies. When a business understands its expenses, it becomes easier for it to make financial decisions.
Conclusion
Knowing the meaning of financial terms is not only important for accountants or finance experts. Everyone should know their basic meanings. The common financial terms are revenue, turnover, gross profit, net profit, cash flow, and expenses. Revenue is the total amount a company earns from sales; however, turnover is the total sales from selling products worth a particular amount. Gross profit is the amount left with the business after selling the goods and services and deducting direct costs.
Net profit is the amount a business has after deducting all expenses, taxes, interest, and other costs. Cash flow records how much cash is flowing in and out. Expenses are daily costs of a business. Finance should be seen as a practical life skill. When we know the meaning of these terms, it becomes easier for us to understand business news, finance reports, and other related decisions.