Every profession has its own set of words and acronyms, its everyday short forms and terms that everyone in that profession appears to understand. But those new to the profession or people who have to interact with those professionals, well, it can be very daunting indeed. You nod your head, smile and scribble notes to check later but when you are in a position of having to know and understand, that makes it very different indeed.
Bookkeeping and accounting terminology is full of terms that you have no doubt come across. But what do they mean? Which ones are the important ones for franchisors to really get their head around to help them to take control of their business?
Whether you are using a franchise bookkeeper or starting out with some cloud accounting software, the following important bookkeeping terminology includes the main terms that franchise owners need to understand.
1. Financial statements
There are three main financial statements that you will encounter when getting an overview of the financial status of your franchise business and these are the Balance Sheet, the Income Statement (which can also be known as the Profit & Loss Account), and the Cash Flow Statement. We are going to look at each of these in a bit more detail.
2. Balance sheet
The Balance Sheet summarises the financial health of a company; it is a view of a company’s financial position at a specific time showing how it is funded and how it has used the funding. It includes details of the company’s assets and also its liabilities and equity (the total capital employed in the company). It is called a ‘Balance Sheet’ because these should balance, ie, what the company owns (its assets) should equal its liabilities (the debts it owns) plus the Owner’s Equity.
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3. Assets
This includes all of the things that the business owns and is split into two types of assets. A company uses capital to invest in plant and machinery. buildings and so on – these are considered ‘fixed assets’ in that they cannot quickly be turned back into cash so have a lasting benefit. It will also have what is known as ‘current assets’ and these are either cash or can be turned into cash in the short term – this covers the obvious things like cash itself, monies in the bank and also the inventory/stock and supplies.
4. Liabilities
These are all the items on the other side – the debt of the company. It includes obligations that must be paid soon such as for loans or stock ordered. (This directly relates to the assets because the stock itself will sit in the asset column while the debt to pay for it sits in the liability column.)
5. Equity
This is the money that has been invested in the company and is available to acquire assets. In small businesses it tends to be the money the owner has invested and is shown in a Capital account. In larger businesses it will be shown as Shareholders’ Funds or stocks. Retained earnings are also included and this shows the company profits that have been reinvested rather than paid out.
6. Income Statement
This income statement, often known as the profit and loss statement, gives you a view of the profitability of a company over a given time period, showing the sales of the company compared to the costs of generating those sales. Income statements tend to cover periods of a month, a quarter or a year. It is calculated by taking the total revenue earned in that period, including sales of goods/services and money from other sources such as interest or sales of a fixed asset, and subtracting the expenses incurred in operating the company such as wages, advertising, business rates and any losses, for example if a fixed asset is sold for less than it was valued by the company.
If the income is more than the expenses/losses, the company is making a profit. What happens with the profit or loss will appear on the balance sheet.
7. Statement of Cash Flows
Cash flow statements show when cash is earned and when costs are incurred, not when the cash is physically paid. It enables you to see where the cash is coming from and where it is going over a given time period. The aim is to reconcile the profit made (as identified in the Income Statement) with the movement in the balance of cash in the same period.
It is divided into three sections:
- Cash profit from operations – from the day-to-day company operation
- Cash from investments – capital expenditure and investment in assets and cash from selling long term assets
- Cash from financing – looking at the effects of financing on cash balances of the company and shows loans taken and those paid off, interest paid, or shares issued or bought back.
Wrapping it up
This basic introduction will help you to understand what your franchise bookkeeper is doing for you and the Financial Statements they will prepare for you, allowing you to more effectively use them to understand what is happening from your perspective as a franchisor and also from your franchisees’ perspective.
