- A -
Accounts Payable. Trade accounts of businesses
representing amounts owed for goods or services received.
Accounts Receivable. Trade accounts of businesses representing amounts due for
goods sold or services rendered.
Accounting. The recording, classifying, summarizing, and interpreting of events
of a financial character. These events can
include income, expenses, and cash flow.
Accrual-Basis Accounting. An accounting system in which income is recorded when
it is earned rather than when it is paid, and
expenses are recorded when an obligation is established rather than when the
money is paid.
Acid-test ratio. Also called the quick ratio, the ratio of current assets minus
inventories, accruals, and prepaid items to
Addendum. An attachment or exhibit to a written document, such as a contract.
Agent. A person granted the authority to act on behalf of another person or
entity, known as the "principal." The actions and
decisions of the agent can be binding on the principal.
Age Discrimination in Employment Act (ADEA). A federal law that prohibits
employers from discriminating against individuals
age 40 or more. This law generally applies to companies with 20 or more
Aging schedule. A table of accounts receivable broken down into age categories
(such as 0-30 days, 30-60 days, and 60-90
days), which is used to see whether customer payments are keeping close to
Alternative Dispute Resolution (ADR). An approach to conflict resolution
designed to avoid court proceedings. ADR
traditionally encompasses two main forms: arbitration and mediation.
Americans with Disabilities Act (ADA). A federal law that prohibits
discrimination against those with physical or mental
disabilities in employment, public services and public places, such as
restaurants, hotels and shops. The ADA requires
companies with 15 or more employees to make reasonable accommodations to enable
qualified disabled employees to perform their
Amortization. Paying off debt in regular installments over a period of time, or
deducting certain capitalized expenditures
over a specified period of time.
Appreciation. The increase in the value of an asset.
Arbitration. A form of alternative dispute resolution in which a neutral third
party (an arbitrator) considers the competing
parties´ arguments and evidence and renders a decision or award. Arbitration can
be binding or non-binding.
Asset. Any possession that has value in an exchange.
Assets. A firm's productive resources.
Audit. A review or examination of an individual´s or organization´s records to
determine legal compliance or proper record
Award. A decision rendered by a court or arbitrator that one party in a dispute
is owed money and that the other party or
parties are liable.
- B -
Also called the statement of financial condition, it is a summary of the assets,
liabilities, and owners' equity.
State of being unable to pay debts. Thus, the ownership of the firm's assets is
transferred from the stockholders to the
An analysis of the level of sales at which a project would make zero profit.
A detailed schedule of financial activity, such as an advertising budget, a
sales budget, or a capital budget.
Bonds. Securities issued by the U.S. government, corporations, federal agencies,
or state or local municipalities. Bonds are
sometimes further classified as follows:
Corporate bonds - Debt instruments issued by corporations, as distinct from ones
issued by a government agency, typically
interest-bearing with a fixed maturity.
High-Yield Bonds - A bond that has a rating of BB or lower and pays a higher
yield to compensate for the greater credit risk.
Long-Term Government Bonds - Securities issued by the US government and debt
issues of federal agencies having a maturity of
10 years or more.
Mortgage-Backed Bonds - Securities backed by mortgages issued by FMLMC and FNMA
or guaranteed by GNMA. Investors receive
payments out of the interest and principal on the underlying mortgages.
Municipal bonds - Debt obligation of a state or local government entity. The
funds may support general government needs or
fund special projects. The interest on these bonds is typically exempt from
federal income taxes, and most state and local
Bonus. A cash award granted to employees by the employer, usually based on
personal and/or company performance. Bonuses can
also come in the form of extra vacation time, gifts and other nonmonetary
Breach of Contract. A violation of or failure to perform according to the terms
and conditions of an agreement.
Business Plan. A planning document that describes a company, its market, its
management team, its potential, its competitors,
and all other relevant information about its business and its prospects.
- C -
Cash. The value of
assets that can be converted into cash immediately.
Cash flow from operations. The sum of net income plus non-cash expenses that
were deducted in calculating net income.
Cash Equivalents - Investments of high liquidity and safety with a known market
value and a very short-term maturity.
Examples include Treasury bills and money market funds.
CDs - CDs, or certificates of deposit, are interest-bearing debt instruments
issued by banks with maturities from a few weeks
to several years.
Fixed Annuities - Investment contract sold by an insurance company that
guarantees fixed payments, either for life or for a
specified period, to the annuitant. The insurer takes both the investment risk
and the mortality risk.
T-Notes - T-Notes are negotiable debt obligations of the US government with
maturities of 1 to 10 years.
Capital. (1) Assets less liabilities, representing the ownership interest in a
business, (2) a stock of accumulated goods,
especially at a specified time and in contrast to income received during a
specified time period, (3) accumulated goods
devoted to the production of goods, and (4) accumulated possessions calculated
to bring income.
Capital Expenditures. Business spending on additional plant equipment and
Cash Discount. An incentive offered by the seller to encourage a buyer to pay
within a stipulated time. For example, if the
terms are 1%/10/net 30, the buyer may deduct 1 percent from the amount of the
invoice (if paid with 10 days); otherwise the
full amount is due within 30 days.
Cash Flow. An accounting presentation showing how much of the cash generated by
a business remains after both expenses
(including interest) and principal repayment on loans are paid. A projected cash
flow statement indicates whether the
business will have cash to pay its expenses, loans, and make a profit. Cash
flows can be calculated for any given period of
time, normally done on a monthly basis or yearly basis.
Circulation. The number of copies that a publication distributes or sells. Also
refers to the number of people who have an
opportunity to observe a piece of outdoor advertising, such as a billboard or
Collateral. Something of value pledged to support the repayment of an obligation
or loan. Examples include real estate and
certificates of deposit.
Collateral Document. A legal document covering the item(s) pledged as collateral
on a loan.
Close. The point during the sales process when the customer agrees to buy a
product or service.
Closing. Actions and procedures required to effect the successful conclusion of
a business transaction, such as a real estate
purchase or loan consummation.
Cold Call. An unscheduled contact, either on the phone or in person, between a
seller and a prospective customer.
Common Law. Law made by judges in individual cases, rather than by the
Compensation. Direct and indirect monetary and nonmonetary rewards given to
employees based on the value of the job, their
personal contributions and their performance.
Compromise. The settlement of a dispute or claim.
Consideration. The inducement to a contract. Some right, interest, profit, or
benefit accruing to one party, or some
forbearance, detriment, loss, or responsibility given, suffered, or undertaken
by the other.
Contingency Fee. A common legal fee arrangement that relies on the collection of
monetary damages for the plaintiff before
any legal fees are owed. Most common in litigation (such as in personal injury
lawsuits), it allows the client to receive
legal services while paying the attorney little or no money up front.
Contingent Liability. A potential obligation that may be incurred dependent upon
the occurrence of a future event. Two
examples are: (1) the liability of a guarantor of a promissory note if the
primary borrower fails to pay as agreed and (2)
the liability that would be incurred if a pending lawsuit is resolved in the
other party's favor.
Controlled Circulation. Publications, generally business oriented, delivered
only to readers who have some special
qualifications. Generally, these publications are free to the qualified
recipients, who must complete registration
questionnaires in order to receive them. Also called "qualified circulation."
Copyright. An exclusive ownership interest in an artistic or literary work. The
term "literary work" includes computer
software and other information stored in electronic form. Copyright is often
noted by the following example: "Copyright© 2006
Corporation. A form of organization that provides its owners and shareholders
with certain rights and privileges, including
protection from personal liability, if proper steps are followed. Corporations
may take a number of forms, depending on the
goals and objectives of the founders. Types include C, S and nonprofit
corporations. Corporations are regarded as "persons"
in the eyes of the law and may thus sue and be sued, own property, borrow money
and hire employees.
Cost of Goods Sold. This term represents the cost of buying raw materials and
producing the goods that a company sells. It
also includes the cost of the company´s labor force and overhead costs.
Credit Rating. A formal evaluation of an individual or a company´s credit
history and capability of repaying debt.
Credit Score. A statistical summary of the individual pieces of information on a
credit report. A credit score predicts how
likely it is that a company or individual will repay debts. Lenders use credit
scores to determine whether to extend credit
and at what interest rate. Also called a risk score.
Current Ratio. The ratio of the company´s current assets to its current
liabilities. A current ratio of less than 1-to-1
typically indicates a poor credit risk. A current ratio of greater than 2-to-1
typically indicates a good credit risk.
Customer. Someone who has bought or made the decision to buy a product or
Cyclical Industry. An industry that has natural high and low sales periods based
on the time of year, season or other
C Corporation. A corporation where the entity is taxed separately from its
owners under subchapter C of the Internal Revenue
- D -
Damages. A cash
compensation ordered by a court or arbitrator to offset losses or suffering
caused by another´s fault or
negligence. Damages are a typical request made of a court or arbitrator when
persons sue for breach of contract or tort.
Debenture. Debt instrument evidencing the holder's right to receive interest and
principal installments from the debtor.
Debt Financing. The provision of long term loans to small business concerns in
exchange for debt securities or a note.
Decision Maker. The person within a company who ultimately decides which
products or services to buy.
Deed of Trust. A document that, when properly delivered, transfers a security
interest in real property.
Defaults. The nonpayment of principal and/or interest on the due date as
provided by the terms and conditions of a promissory
note or loan agreement.
Demand Letter. A letter from a lawyer on behalf of a client that demands payment
or some other action. Demand letters often
threaten litigation if the other party does not perform.
Demographic. A descriptive classification for consumers, such as age, sex,
income, education, household size, home ownership
or other defining characteristics.
Depreciation. An accounting procedure that spreads the cost of purchasing an
asset over the useful lifetime of the asset.
Direct Mail. Marketing or advertising materials sent directly to a prospective
customer via the US Postal Service or a
private delivery company.
Direct Marketing. The process of sending promotional messages directly to
individual consumers, rather than via a mass
medium. Includes methods such as direct mail and telemarketing.
Disability Benefits. Benefits paid to an employee who cannot work because of
disability, usually limited to what is not
covered by workers compensation. Disability benefits are usually a percentage of
the employee´s prior income and generally
run for a limited time.
Doing Business As (DBA). A situation in which a business owner operates a
company under a different name than the one under
which it is incorporated. The owner typically must file a fictitious name
statement or similar document with the appropriate
county or state agency.
- E -
before interest, taxes, depreciation, and amortization.
Employee Retirement Income Security Act (ERISA). A broad-reaching law that
establishes the rights of pension plan
participants, standards for the investment of pension plan assets, and
requirements for the disclosure of plan provisions and
Employee Manual. A handbook that describes a company´s personnel procedures,
policies and benefits.
Employer ID Number (EIN). An identification number assigned to businesses for
taxpaying purposes by the IRS or state taxing
authorities. An Employer ID Number is required for partnerships, corporations,
and trusts, and it may be required for sole
proprietorships that have employees. Also called a Federal ID Number or Taxpayer
Employment Agreement. An agreement that sets forth the rights and obligations of
employees and employers. Typical employment
agreements oblige employees to keep trade secrets confidential and to not
solicit other employees after their departure.
Entrepreneur. One who assumes the financial risk of the initiation, operation,
and management of a given business
Equal Employment Opportunity (EEO). Federal legislation prohibiting employment
discrimination based on age, race, sex,
religion or ethnic background.
Equal Employment Opportunity Commission (EEOC). The federal agency responsible
for handling workplace discrimination
complaints. Many states have comparable agencies.
Equal Pay Act. Federal legislation that prohibits certain employers from paying
different wages to men and women who perform
the same work in similar working conditions.
Equity. An ownership interest in a business. For example, stock in a corporation
represents equity in the corporation.
Equity Financing. The provision of funds for capital or operating expenses in
exchange for capital stock, stock purchase
warrants, and/or options in the business financed, without any guaranteed
return, but with the opportunity to share in the
ESOP (Employee Stock Ownership Plan). A retirement-type plan in which a trust
holds stock in the employees´ names. Employees
receive cash from the stock only when they leave the company or perhaps when the
company is sold.
Exempt Employee. Employees who are not bound to overtime regulations and minimum
wage laws. Who is exempt depends on level of
responsibility or professional status.
Exit Interview. An interview conducted at the end of an employee´s term of
employment to obtain employment feedback and to
remind the employee of his or her confidentiality obligations.
- F -
401(k) Plan. A
tax-deferred retirement plan designed to encourage long-term retirement savings.
Some companies provide
contributions as an employee benefit.
Fair Debt Collection Practices Act. A federal law that specifies what debt
collectors can and cannot do to try to collect
Fair Labor Standards Act (FLSA). A federal law that defines the 40-hour
workweek, the federal minimum wage, overtime pay,
record keeping and child labor standards affecting private sector, federal,
state and local government workers.
Fair Use. A legal doctrine that authorizes use of copyrighted materials for
certain purposes without the copyright owner´s
Family and Medical Leave Act (FMLA). A federal law requiring employers to
provide eligible employees with unpaid leave during
a year´s time for the birth or adoption of a child, family health needs or
personal illness. The FMLA generally applies to
all public agencies, including state, local and federal employers; private
companies that employ 50 or more people; and
FICA (Federal Insurance Contributions Act). A payroll deduction for Social
Security required by the federal government.
Financial Reports. Reports concerning the financial aspects of a business, such
(1) Balance Sheet - A report of the status of a firm's assets, liabilities and
owner's equity at a given time.
(2) Income Statement - A report of revenue and expense which shows the results
of business operations or net income for a
specified period of time.
(3) Cash Flow - A report which analyzes the actual or projected source and
disposition of cash during a past or future
Financing. New funds provided to a business, either by way of equity infusion,
Fixed Costs. Costs of doing business, such as rent and utilities that remain
generally the same regardless of the amount of
sales of goods or services.
Flow Chart. A graphical representation for the definition, analysis, or solution
of a problem, in which symbols are used to
represent operations, data, flow, equipment, etc.
Foot Traffic. Consumer activity produced by visitors at stores, trade show
exhibits or by popular retail locations.
Foreclosure. The act by the mortgagee or trustee upon default, in the payment of
interest or principal of a mortgage of
enforcing payment of the debt by selling the underlying secured property.
Form W4, Employee's Withholding Allowance Certificate. An IRS form completed by
the employee and used by the employer to
determine the amount of income tax to withhold.
Franchising. A relationship in which the franchisor provides a licensed
privilege to the franchise to do business and offers
assistance in organizing, training, merchandising, marketing, and managing in
return for a consideration. Examples of
franchises include Burger King and Taco Bell.
Freedom of Information Act. The FOIA, enacted in 1966, generally provides that
any person has a right of access to federal
- G -
Guarantee. A promise
to step in and perform another´s obligation if that person should fail or
Guarantor. A person who makes a legally binding promise either to pay another
person´s obligation or to perform another
person´s duty if that person defaults or fails to perform.
- H -
Organization. A system of managed health care in which patients must see
approved health care providers.
HMOs typically offer coverage with no deductibles and low per-visit fees.
- I -
Incentive Stock Options (ISOs). Stock options
granted to employees that are taxed as capital gains rather than income if the
employee meets the required holding period before selling them. Also called
statutory stock options and qualified stock
Income Statement. A record of the financial performance of a company over a
period of time. It records all the income
generated by the business during the period and deducts all its expenses for the
same period to arrive at net income, or the
profit for the period.
Independent Contractor. A worker who works on a specific project for a specified
period of time. Independent contractors are
not subject to tax withholdings and usually don´t receive benefits granted to
Infringement (of copyright). Any unauthorized use of a copyrighted work other
than fair use.
Infringement (of patent). Violation of a patent through production, use or sale
of a patented invention or its functional
equivalent without the patent holder´s permission.
Infringement (of trademark). Unauthorized use of a protected trademark or
service mark or use of a confusingly similar mark.
Inquiries. Consumer response to a company´s advertising, or to other promotional
activities such as coupons. Used to measure
the effectiveness of promotions.
Inserts. Extra printed pages inserted loosely into printed pieces. Often inserts
are advertising supplements to a newspaper
Internal Revenue Service (IRS). The federal agency that collects income taxes in
the United States.
INS Form I-9. The form used by the Immigration and Naturalization Service to
verify an employee´s eligibility to work in the
Insolvency. The inability of a borrower to meet financial obligations as they
mature, or having insufficient assets to pay
Interest. (1) An amount paid a lender for the use of funds, or (2) cost of using
credit or another person´s or company´s
money. Interest is usually calculated as a rate per a period of time, typically
Interest Rate. Percentage of a sum of money charged for the use of the money.
Borrowing $100 for one year at a 10 percent
simple interest rate would cost $10.
Internet. A network of networks, built upon a set of widely used software
protocols that links millions of computers around
the world. Services such as email and the Web use the Internet to transfer data.
Intranet. A private corporate network built with Internet-based protocols and
Invoice. A bill prepared by the seller of goods or services. Invoices tell
purchasers how much they owe.
IRS Form 1099-MISC. The tax form sent to the IRS and the independent contractor
at the end of the year when an independent
contractor´s annual wages meet or exceed $600.
IRS Form W-4. The IRS form used to record filing status and withholding
allowances. Also known as the Employee Withholding
- J -
Joint Venture. An agreement between two or more partners ("joint venturers") to
pursue collaboratively a particular project
or business, with a sharing of profits or losses.
Judgment. Judicial determination of the existence of an indebtedness or other
Judgment by Confession. The act of debtors permitting judgment to be entered
against them for a given sum with a statement to
that effect, without the institution of legal proceedings.
Jurisdiction. The authority of a court to hear and decide a case. For a decision
to be valid, a court must have both "subject
matter jurisdiction" (the ability to hear the type of case at issue) and
"personal jurisdiction" (authority over the
Key Person Insurance - Business-owned life insurance
contract typically on the lives of principal officers.
Lease. A contract by which a tenant (the "lessee")
takes possession of office space, furniture, equipment or other property
for a specified rent and specified amount of time. At the end of a lease, the
property reverts back to its owner (the
Lessee. The renter or tenant.
Lessor. The landlord or owner.
Letter of Credit. A document issued by a bank guaranteeing payment of a
customer´s debt up to a set amount over a set period
of time. Letters of credit are used extensively in international trade.
Letter of Intent (LOI). An agreement, usually nonbinding, documenting the
general terms of a proposed business relationship.
Often used as a prelude to a binding, definitive agreement.
Liability. Any debt or obligation due now or potentially in the future.
Liability is synonymous with legal responsibility.
Lien. A charge upon or security interest in real or personal property maintained
to ensure the satisfaction of a debt or duty
ordinarily arising by operation of law.
Limited Liability Company (LLC). A flexible business structure, popular with
small businesses, offering owners the advantage
of limited personal liability and the choice of being taxed like a partnership
or a corporation.
Limited Liability Partnership (LLP). A type of partnership recognized in many
states that protects individual partners from
personal liability for negligent acts committed by other partners and employees
not under their direct control. Some states
restrict this type of partnership to professionals, such as lawyers, accountants
List Broker. A person or company who prepares, rents and maintains mailing
Litigation. Lawsuits instituted through the judicial process.
Loan Agreement. An agreement for the borrowing of money, typically containing
pertinent terms, conditions, covenants and
Logo. A symbol that a company uses to represent itself or its brand.
Long-Term Debt. Obligations or liabilities that a company owes in one year or
Marketing Plan. A company plan for marketing
products and services and increasing sales.
Market Share. The percentage of a product category´s sales, in dollars or units,
that a particular brand, product line or
Marketing Communications. The process and techniques involved in marketing,
promoting or selling products or services through
creative, visual or written communications. Also known as "marcom."
Maturity. In general, the period and date when payment of a loan is due. As
applied to securities and commercial paper, the
period and date when payment of principal is due.
Maturity Extension. Extension of payment beyond the original date established
for repayment of a loan.
Mediation. A form of alternative dispute resolution in which a neutral party (a
mediator) seeks to promote and negotiate a
settlement between opposing parties in a dispute. There is no mechanism to
compel the parties to settle; they must
voluntarily agree to any settlement.
Medium. A type of publication or communications method that conveys news,
entertainment and advertising to an audience.
Examples include newspapers, television, magazines, radio, billboards and the
Merger. Typically, a combination of two or more corporations into one
Mortgage. An instrument giving legal title to secure the repayment of a loan
made by the mortgagee (lender).
Nondisclosure Agreement (NDA). A contract in which a
person or business agrees to maintain the confidentiality of proprietary
information or trade secrets and not disclose such information without
authorization. Employees, consultants, business
partners and investors are often asked to sign nondisclosure agreements.
Nonexempt Employee. Employees who are protected by wage laws that mandate
payment for every hour of overtime worked.
Nonprofit Corporation. A form of corporation in which no stockholder or trustee
shares in profits or losses and which usually
exists to accomplish some charitable or educational function. These
organizations are exempt from corporate income taxes, and
donations to these groups may be tax deductible.
Nonqualified Stock Options (NSOs). Nonqualified stock options may be granted to
employees, consultants, contractors and
others. When nonqualified stock options are exercised the holder must pay
ordinary income tax on them, even if the shares
have not yet been sold.
Notes Receivable. A secured or unsecured receivable evidenced by a note.
Parent Company. A company that owns a majority stake
(51 percent or more) of another company´s shares. It may have its own
operations, or it may have been set up solely for the purpose of owning the
Partnership. A legal relationship existing between two or more persons or
entitites contractually associated as joint
principals in a business.
Patent. A patent secures to an inventor the exclusive right to make, use and
sell an invention for a designated period of
Pay Period. The frequency with which payroll is processed and paychecks are
Performance Review. A mechanism for regular discussion and evaluation of an
employee´s job performance.
Power of Attorney. A written authorization that lets one person act as an agent
for another and to make binding decisions for
the principal. A power of attorney can be limited to specific types of decisions
or it can be general.
Preferred Stock. A class of stock with a liquidation preference before payment
is made to the common stock holders. Preferred
stock is the security most used by venture capital investors.
Prime Rate Interest rate which is charged business borrowers having the highest
credit ratings, for short term borrowing.
Profit Sharing. Employee incentives in which a company distributes or receives a
portion of the business´s profits to
Proprietorship. The most common legal form of business ownership; about 85
percent of all small businesses are
proprietorships. The liability of the owner is unlimited in this form of
Proxy. A right given to an agent, most often in the context of shareholder
voting in corporations.
Public Domain. A copyright term that means a particular work is free for all to
use without permission. Works in the public
domain include those that were never copyrighted, those for which the copyright
has expired and public documents.
Publicity. Information with news value used to promote a product, service or
idea in the media.
Public Relations. Communication with various sectors of the public to influence
their attitudes and opinions in the interest
of promoting a person, product or idea.
Purchase Order. A form that contains pricing, quantity and other purchasing
Qualified Opinion - AUDIT opinion that states,
except for the effect of a matter to which a qualification relates, the
FINANCIAL STATEMENTS are fairly presented in accordance with GENERALLY ACCEPTED
ACCOUNTING PRINCIPLES (GAAP). The auditor is required to qualify when there is a
Quasi-Reorganization - Type of reorganization in which, with shareholder
approval, the management revalues ASSETS and eliminates the DEFICIT (increased
by asset devaluations if any) by charging it to other EQUITY accounts without
the creation of a new corporate entity or without court intervention.
Return on Investment. The amount of profit (return)
based on the amount of resources (funds) used to produce it. Also, the
ability of a given investment to earn a return for its use.
SBA. The US Small Business Administration (SBA),
created by Congress in 1953 to help America's entrepreneurs form successful
small business enterprises. See www.SBA.gov.
Salary. Regular compensation paid to an employee as a condition of employment.
Salary is generally computed on an annual or a
Sexual Harassment. Uninvited sexual advances or related conduct that creates an
intimidating, hostile or offensive work
environment. Sexual harassment is prohibited by the federal Civil Rights Act of
1991 as well as by various state laws.
Shareholder Agreement. A written agreement between a corporation and its
shareholders governing the nature of the
relationship and the conduct of certain corporate activities (such as
distribution of profits and resolution of shareholder
Small Claims Court. A court intended to simplify and expedite the resolution of
Social Security Tax. Provides benefits for retired workers and their dependents
as well as for the disabled and their
Stock Option. A right to buy a given amount of company stock at a given price
for a given period of time.
Sublease. The act of a tenant leasing the property it is leasing to yet another
tenant, called a sublessee.
Subsidiary. A company owned by a parent company, a subsidiary is a separate
legal entity listed as a corporation or LLC that
is required to file its own taxes.
S Corporation. A form of corporate organization where the profits of the entity
pass through to shareholders and are taxed on
their personal returns under subchapter S of the Internal Revenue Code.
Temporary Employee. An employee, often hired and
paid by a third party, who fills in staffing shortages caused by special
projects, seasonal coverage, leaves of absence or other reasons.
Tenant Improvements. Refurbishing a rental space for a new tenant.
Tort. A civil wrong or injury that results in a legal action for damages to
rectify the wrong.
Trademark. A name, phrase, logo, image or combination of images used to identify
and distinguish a business from others in
Venture Capital. Money used to support new or
unusual commercial undertakings; equity, risk or speculative capital.
Working Capital - Excess of CURRENT ASSETS over CURRENT LIABILITIES.
ALTMAN, EDWARD developed the "ALTMAN Z-SCORE" by examining 85 manufacturing
companies. Later, additional "Z-Scores" were developed for private manufacturing
companies (Z-Score - Model A) and another for general/service firms (Z-Score -
Model B). JaxWorks selects the "Z-Score" appropriate for each firm based upon
the questionnaire input from the listing company. A "Z-Score" is only as valid
as the data from which it was derived i.e. if a company has altered or falsified
their financial records/books, a "Z-Score" derived from those "cooked books" is
of lesser use.
ORIGINAL "Z-SCORE" [For Public Manufacturer] If the "Z-Score" is 3.0 or above -
bankruptcy is not likely. If the "Z-Score" is 1.8 or less - bankruptcy is
likely. A score between 1.8 and 3.0 is the gray area. Probabilities of
bankruptcy within the above ranges are 95% for one year and 70% within two
years. Obviously, a higher "Z-Score" is desirable.
MODEL A "Z-SCORE" [For Private Manufacturer] "Model A" of Altman's Z-Score is
appropriate for a private manufacturing firm. "Model A" should not be applied to
other companies. A "Z-Score of 2.90 or above indicates that bankruptcy is not
likely, but a "Z-Score" of 1.23 or below is a strong indicator that bankruptcy
is likely. Probabilities of bankruptcy in the above ranges are 95% for one year
and 70% within two years. Obviously, a higher "Z-Score" is desirable.
Model B "Z-SCORE" [For Private General Firm] Edward Altman developed this
version of the "ALTMAN Z-SCORE" to predict the likelihood of a privately owned
non-manufacturing company going bankrupt within one or two years. "Model B" of
Altman's "Z-Score" is appropriate for a private general (non-manufacturing)
firm. Model B should not be applied to other companies. A "Z-Score" of 1.10 or
lower indicates that bankruptcy is likely, while a score of 2.60 or above can be
an indicator that bankruptcy is not likely. A score between the two is the gray
area. Probabilities of bankruptcy in the above ranges are 95% for one year and
70% within two years. Again, obviously, a higher "Z-Score" is desirable.
ALTMAN Z-SCORE reliably predicts whether or not a company is likely to enter
into bankruptcy within one or two years:
If the Z-Score is 3.0 or above - bankruptcy is not likely.
If the Z-Score is 1.8 or less - bankruptcy is likely.
A score between 1.8 and 3.0 is the gray area, i.e., a high degree of caution
should be used.
Probabilities of bankruptcy within the above ranges are 95% within one year and
70% within two years; obviously, a higher Z-Score is desirable. It is best to
assess each individual company's Z-Score against that of the industry. In low
margin industries it is possible for Z-Scores to fall below the above. In such
cases a trend comparison to the industry over consecutive time periods may be a
It should be remembered that a Z-Score is only as valid as the data from which
it was derived i.e. if a company has altered or falsified their financial
records/books, a Z-Score derived from those "cooked books" is of lesser use.
CPA = Certified Public Accountant
EDP = electronic data processing
EPS = earnings per share
FASB = Financial Accounting Standards Board
FICA = Federal Insurance Contributions Act
FOB = free-on-board
FCPA = Foreign Corrupt Practices Act
GAAP = generally accepted accounting principles
GAAS = generally accepted auditing standards
JIT = just-in-time inventory
LIFO = last-in, first-out
LCM = lower cost or market
MACRS = modified accelerated cost recovery system
NSF = not sufficient funds
P/E = price-earnings
ROI = return on investment
SEC = Securities and Exchange Commission
SYD = sum-of-the-years-digits (depreciation method)
Ratios and Formulas in Customer Financial Analysis
Financial statement analysis is a judgmental process. One of the primary objectives is identification of major changes in trends, and relationships and the investigation of the reasons underlying those changes. The judgment process can be improved by experience and the use of analytical tools. Probably the most widely used financial analysis technique is ratio analysis, the analysis of relationships between two or more line items on the financial statement. Financial ratios are usually expressed in percentage or times. Generally, financial ratios are calculated for the purpose of evaluating aspects of a company's operations and fall into the following categories:
liquidity ratios measure a firm's ability to meet its current obligations.
profitability ratios measure management's ability to control expenses and to earn a return on the resources committed to the business.
leverage ratios measure the degree of protection of suppliers of long-term funds and can also aid in judging a firm's ability to raise additional debt and its capacity to pay its liabilities on time.
efficiency, activity or turnover ratios provide information about management's ability to control expenses and to earn a return on the resources committed to the business.
A ratio can be computed from any pair of numbers. Given the large quantity of variables included in financial statements, a very long list of meaningful ratios can be derived. A standard list of ratios or standard computation of them does not exist. The following ratio presentation includes ratios that are most often used when evaluating the credit worthiness of a customer. Ratio analysis becomes a very personal or company driven procedure. Analysts are drawn to and use the ones they are comfortable with and understand.
Working capital compares current assets to current liabilities, and serves as the liquid reserve available to satisfy contingencies and uncertainties. A high working capital balance is mandated if the entity is unable to borrow on short notice. The ratio indicates the short-term solvency of a business and in determining if a firm can pay its current liabilities when due.
Current Assets - Current Liabilities
Acid Test or Quick Ratio
A measurement of the liquidity position of the business. The quick ratio compares the cash plus cash equivalents and accounts receivable to the current liabilities. The primary difference between the current ratio and the quick ratio is the quick ratio does not include inventory and prepaid expenses in the calculation. Consequently, a business's quick ratio will be lower than its current ratio. It is a stringent test of liquidity.
Cash + Marketable Securities + Accounts Receivable
Provides an indication of the liquidity of the business by comparing the amount of current assets to current liabilities. A business's current assets generally consist of cash, marketable securities, accounts receivable, and inventories. Current liabilities include accounts payable, current maturities of long-term debt, accrued income taxes, and other accrued expenses that are due within one year. In general, businesses prefer to have at least one dollar of current assets for every dollar of current liabilities. However, the normal current ratio fluctuates from industry to industry. A current ratio significantly higher than the industry average could indicate the existence of redundant assets. Conversely, a current ratio significantly lower than the industry average could indicate a lack of liquidity.
Indicates a conservative view of liquidity such as when a company has pledged its receivables and its inventory, or the analyst suspects severe liquidity problems with inventory and receivables.
Cash Equivalents + Marketable Securities
Net Profit Margin (Return on Sales)
A measure of net income dollars generated by each dollar of sales.
Net Income *
* Refinements to the net income figure can make it more accurate than this ratio computation. They could include removal of equity earnings from investments, "other income" and "other expense" items as well as minority share of earnings and nonrecuring items.
Return on Assets
Measures the company's ability to utilize its assets to create profits.
Net Income *
(Beginning + Ending Total Assets) / 2
Operating Income Margin
A measure of the operating income generated by each dollar of sales.
Return on Investment
Measures the income earned on the invested capital.
Net Income *
Long-term Liabilities + Equity
Return on Equity
Measures the income earned on the shareholder's investment in the business.
Net Income *
Du Pont Return on Assets
A combination of financial ratios in a series to evaluate investment return. The benefit of the method is that it provides an understanding of how the company generates its return.
Net Income *
Gross Profit Margin
Indicates the relationship between net sales revenue and the cost of goods sold. This ratio should be compared with industry data as it may indicate insufficient volume and excessive purchasing or labor costs.
Financial Leverage Ratio
Total Debts to Assets
Provides information about the company's ability to absorb asset reductions arising from losses without jeopardizing the interest of creditors.
Indicates long-term debt usage.
Long-Term Debt + Owners' Equity
Debt to Equity
Indicates how well creditors are protected in case of the company's insolvency.
Interest Coverage Ratio (Times Interest Earned)
Indicates a company's capacity to meet interest payments. Uses EBIT (Earnings Before Income and Taxes)
Long-term Debt to Net Working Capital
Provides insight into the ability to pay long term debt from current assets after paying current liabilities.
Current Assets - Current Liabilities
Measures how effective a company is utilizing its cash.
Sales to Working Capital (Net Working Capital Turnover)
Indicates the turnover in working capital per year. A low ratio indicates inefficiency, while a high level implies that the company's working capital is working too hard.
Average Working Capital
Total Asset Turnover
Measures the activity of the assets and the ability of the business to generate sales through the use of the assets.
Average Total Assets
Fixed Asset Turnover
Measures the capacity utilization and the quality of fixed assets.
Net Fixed Assets
Days' Sales in Receivables
Indicates the average time in days, that receivables are outstanding (DSO). It helps determine if a change in receivables is due to a change in sales, or to another factor such as a change in selling terms. An analyst might compare the days' sales in receivables with the company's credit terms as an indication of how efficiently the company manages its receivables.
Annual Net Sales / 365
Accounts Receivable Turnover
Indicates the liquidity of the company's receivables.
Average Gross Receivables
Accounts Receivable Turnover in Days
Indicates the liquidity of the company's receivables in days.
Average Gross Receivables
Annual Net Sales / 365
Days' Sales in Inventory
Indicates the length of time that it will take to use up the inventory through sales.
Cost of Goods Sold / 365
Indicates the liquidity of the inventory.
Cost of Goods Sold
Inventory Turnover in Days
Indicates the liquidity of the inventory in days.
Cost of Goods Sold / 365
Indicates the time between the acquisition of inventory and the realization of cash from sales of inventory. For most companies the operating cycle is less than one year, but in some industries it is longer.
Accounts Receivable Turnover in Days
+ Inventory Turnover in Day
Days' Payables Outstanding
Indicates how the firm handles obligations of its suppliers.
Ending Accounts Payable
Purchases / 365
Indicates the liquidity of the firm's payables.
Average Accounts Payable
Payables Turnover in Days
Indicates the liquidity of the firm's payables in days.
Average Accounts Payable
Purchases / 365
The Z-score model is a quantitative model developed in 1968 by Edward Altman to predict bankruptcy (financial distress) of a business, using a blend of the traditional financial ratios and a statistical method known as multiple
The Z-score is known to be about 90% accurate in forecasting business failure one year into the future and about 80% accurate in forecasting it two years into the future.
See Altman Z-score Calculators.
(Working Capital / Total Assets)
(Retained Earnings / Total Assets)
(Market Value of Equity / Book Value of Debt)
(Sales / Total Assets)
(EBIT / Total Assets)
Probability of Failure
less than 1.8
greater than 1.81 but less than 2.99
greater than 3.0
Bad-Debt to Accounts Receivable Ratio
Bad-debt to Accounts Receivable ratio measures expected
uncollectible credit sales. An increase in bad debts is a negative sign, since it indicates greater realization risk in accounts receivable and possible future write-offs.
Bad-Debt to Sales Ratio
Bad-debt ratios measure expected
uncollectible credit sales. An increase in bad debts is a negative sign, since it indicates greater realization risk in accounts receivable and possible future write-offs.
Book Value per Common Share
Book value per common share is the net assets available to common stockholders divided by the shares outstanding, where net assets represent stockholders' equity less preferred stock. Book value per share tells what each share is worth per the books based on historical cost.
(Total Stockholders' Equity - Liquidation Value of Preferred Stocks - Preferred Dividends in Arrears) divided by:
Common Shares Outstanding
Common Size Analysis
In vertical analysis of financial statements, an item is used as a base value and all other accounts in the financial statement are compared to this base value.
On the balance sheet, total assets equal 100% and each asset is stated as a percentage of total assets. Similarly, total liabilities and stockholder's equity are assigned 100%, with a given liability or equity account stated as a percentage of total liabilities and stockholder's equity.
On the income statement, 100% is assigned to net sales, with all revenue and expense accounts then related to it.
Cost of Credit
The cost of credit is the cost of not taking credit terms extended for a business transaction. Credit terms usually express the amount of the cash discount, the date of its expiration, and the due date. A typical credit term is 2 / 10, net / 30. If payment is made within 10 days, a 2 percent cash discount is allowed: otherwise, the entire amount is due in 30 days. The cost of not taking the cash discount can be substantial.
100 - % Discount
Credit Period - Discount Period
On a $1,000 invoice with terms of 2 /10 net 30, the customer can either pay at the end of the 10 day discount period or wait for the full 30 days and pay the full amount. By waiting the full 30 days, the customer effectively borrows the discounted amount for 20 days.
$1,000 x (1 - .02) = $980
This gives the amount paid in interest as:
This information can be used to compute the credit cost of borrowing this money.
100 - % Discount
Credit Period - Discount Period
As this example illustrates, the annual percentage cost of offering a 2/10, net/30 trade discount is almost 37%.
Current-liability ratios indicate the degree to which current debt payments will be required within the year. Understanding a company's liability is critical, since if it is unable to meet current debt, a liquidity crisis looms. The following ratios are compared to industry norms.
Current to Non-current
Current to Total
Rule of 72
A rule of thumb method used to calculate the number of years it takes to double
Rate of Return
Paul bought securities
yielding an annual return of 9.25%. This investment will double in less than
eight years because,