Glossary

In this document, which is part of the Value Investing Bootcamp video course on Udemy, you find the
most commonly used accounting terminology explained in understandable language. Where
necessary, formulas are included. The document is broken down into the three main financial
statements and ends with a section about financial ratios.

Balance Sheet
The balance sheet is one of the main financial statements. It represents a snapshot in time and
presents what a company owns today, assets, what a company owes today, liabilities, and what a
company is worth today, shareholders' equity.

Assets
Assets are everything you've got, like cash, inventory, machines, buildings, a 10ft tall Darth Vader
action figure etc. Assets are worth something. They have value. There are three types of assets:

1. Current assets: assets that are expected to be converted into cash in less than 1 year, like
cash, inventory, and accounts receivable. Accounts receivable are any bills that are not yet
paid by customers.
2. Fixed assets: these are long term assets, like land, buildings, machines, furniture etc. These
fixed assets are subject to depreciation. Depreciation means the cost to purchase the fixed
asset, like a machine, are spread out over its useful life, which is how long you can
reasonably expect to use that particular asset. Note that no cash is spent here, the spreading
out of costs is merely an accounting measure. The company still has to pay up like normal.
3. Intangible assets: things of value which are not physical, like patents, copyright, a brand
name. All of these have significant value for a business, but you cannot hold them in your
hands. These assets are rather hard to value.

Liabilities
Liabilities are obligations a company has to pay money to someone. So if I owe you money for paying
my cab ride home after a night out, then it is my obligation to pay you back. This is a liability for me
and an asset for you. This side of the balance sheet consists of several pieces:

1. Current liabilities: all bills that must be paid within 1 year. Current liabilities include money
owed to suppliers, accounts payable, owed to employees, accrued expenses, owed to
lenders, current debt, and owed to the government, taxes.
2. Long-term debt: any loan which the company needs to repay in more than 1 year time. This
includes mortgages and bank loans.
3. Shareholders' equity: the difference between total assets and total liabilities. Sometimes
called stockholders' equity or book value. It represents the total amount of money invested
into the company. This includes the initial money invested in a company's stocks, capital
stock, and all the earnings the company has reinvested into its business instead of paying it
out as a dividend to shareholders, retained earnings.

1 www.valueinvestingbootcamp.com
Income Statement
The income statement shows investors how profitable a company is. The income statement gives an
overview of how much was sold, sales, how much cost it hat to make, costs, and how much money
was left after these costs were paid, net income.

Sales
Sales are recorded the moment a company ships products to customers. Customers now have the
obligation to pay and the company has the right to collect this payment. Sales are often called
revenue or "top line", because revenue is located at the top of the income statement.

Costs
Costs are everything a company has to pay for to produce products, like raw materials, employee
salaries, manufacturing overhead etc. When a company sells a product, it records the costs that were
required to manufacture this product as cost of goods sold.

Gross profit
If you subtract cost of goods sold from sales, you are left with the gross profit. In this case, "gross"
does not refer to the feeling you have after visiting Mc Donald's for the 4th day in a row.

Gross profit = sales - cost of goods sold

Operating expenses
While costs are money spent on manufacturing products, expenses are money spent on developing
and selling products. These expenses include:

1. Sales, general & administrative (SG&A) expense

2. Research & development (R&D) expenses

Net income
This is the item most investors drool over. Net income, sometimes called profits or earnings or
bottom line, shows how much money a company has left after it has paid all its costs, expenses, and
taxes. This is the number one profitability ratio used by investors. Remember though that income is
not the same as cash, and that the income figure is fairly easy to manipulate through shady
management practices.

Net income = sales - costs - operating expenses - taxes

2 www.valueinvestingbootcamp.com
Cash Flow Statement
The final major financial statement is called the cash flow statement. This statement shows where a
company received its cash from, and where it spent its cash on. Cash enters a company when a
customer pays its bills, not when it places an order. In the same way, cash leaves a company when
the company actually pays its suppliers, not when it places an order. The cash flow statement
consists of three main parts: cash from operations, cash from investing activities, and cash from
financing activities.

Cash from operations

This is the cash earned through the normal day-to-day activities of receiving money from customers
and paying money to suppliers. Cash from operations is sometimes called operating cash flow or cash
from operating activities.

Cash from investing activities

This includes money spent on investments in long-term assets, like a factory, machinery, or entire
businesses. Such investments in property, plant & equipment are often referred to on the cash flow
statement as capital expenditures or capex. Investments lower cash levels, but allow a company to
grow over time.

Cash from financing activities

This includes financial activities which bring in cash, like selling new stocks to investors or borrowing
money, and which lower cash, like paying dividends or paying Uncle Sam its taxes.

Free cash flow (FCF)

This is a very important metric for value investors, but it is not reported on the cash flow statement.
Free cash flow is the cash a company has left after spending all the money that is required to keep
the business running, like maintenance costs. This cash can theoretically be taken out of a business
without disrupting it. Free cash flow is required for the often used Discounted Cash Flow valuation
model.

FCF = cash from operations - capital expenditures

3 www.valueinvestingbootcamp.com
Ratios
Here I will describe some of the most commonly used financial ratios, including formulas.

Earnings per share (EPS)

How much profit a company makes per stock it has issued.

EPS = net income / shares outstanding

Price/earnings ratio (P/E)

The current price investors are willing to pay for a stock per dollar of income. While this ratio is a
valuation metric, it does not give you an accurate picture of whether or not a company is
undervalued with respect to its intrinsic value. Besides, this ratio differs greatly per industry.

P/E ratio = current stock price / earnings per share

Net margin
The percentage of sales that ends up as net income. It is a profitability metric, but just as the
previous ratio, the net margin differs greatly per industry.

Net margin = net income / revenue

Book value per share

The theoretical value of a company's total assets minus total liabilities per share. This value does not
accurately reflect the true market value, but looking at this value over time can still give you an idea
whether or not a company is creating value or destroying value.

Book value per share = shareholders' equity / shares outstanding

Return on equity (ROE)

This is a profitability measure which shows you how efficient a company uses its equity capital to
generate income.

Return on equity = net income / shareholders' equity

Debt-to-equity
The amount of long-term debt a company has in relation to its equity. It shows you whether a
company is able to self-fund its growth or if it relies heavily on debt. The latter case can be rather
dangerous.

Debt-to-equity = long-term debt / shareholders' equity

Current ratio
A liquidity ratio which presents a company's ability to pay its short-term bills. Very important.

Current ratio = current assets / current liabilities

4 www.valueinvestingbootcamp.com
Etc.
Some general terms which did not fit any of the other categories. You'll always have some outsiders..

Generally Accepted Accounting Principles (GAAP)

The GAAP are a set of basic accounting rules and standards to make sure all companies report their
financial figures in a relatively consistent way. This makes it easier for investors to compare figures
from different companies. However, these standards are not watertight and allow some room for
tinkering.

Securities and Exchange Commission (SEC)

The SEC is a government commission whose job it is to regulate the securities markets and protect
investors. All companies listed on the US stock exchanges have to report their financial figures and
other business documents to the SEC. Also, if you happen to find a pot of gold and decide to
purchase 5% or more of a publicly traded company, you have to report this to the SEC as well. This is
partly why sites like GuruFocus are able to track what the biggest investors in the world are buying.

Author: Nick Kraakman

Created: June 2014

5 www.valueinvestingbootcamp.com