Financial Terms – Glossary

Foundational Financial Concepts

Assets: Assets are resources a company owns or controls that have economic value, such as cash, equipment, or buildings.
Cash Flow: Cash flow is the movement of cash into and out of a business from operating, investing, and financing activities.
Debt: Debt is money a company borrows and must repay, often with interest, such as bank loans or bonds.
Dividends: Dividends are payments a company makes to shareholders from its earnings, usually in cash or additional shares.
Earnings: Earnings are a company’s profits after expenses are deducted from revenue; often used interchangeably with net income.
Equity: Equity represents the residual interest in a company’s assets after liabilities are subtracted. It reflects owners’ stake in the business.
Expenses: Expenses are the costs a company incurs to generate revenue, such as wages, rent, and materials.
Liabilities: Liabilities are financial obligations a company owes to others, such as loans, accounts payable, or unpaid bills.
Market Value: Market value is the current price at which an asset or company can be bought or sold in the marketplace.
Profit: Profit is the amount remaining after expenses are subtracted from revenue. It shows how much value the company has created for owners.
Revenue: Revenue is the total amount of money a company earns from selling goods or services before expenses are deducted.

Profitability Metrics

Gross Profit Margin (%): Gross profit margin shows how much revenue remains after direct production costs, a major category of expenses. It reflects pricing power and production efficiency.

Formula: (Revenue – Cost of goods sold) / Revenue.

Example: Teddy’s Bear Store sells a plush bear for $100 that costs $60 to make, giving it a 40% gross margin.
Net Profit Margin (Return on Sales): Net profit margin measures how much of each dollar of revenue becomes net profit. It reflects overall profitability after all expenses.

Formula: Net income / Revenue.

Example: Lucky Lantern Bakery earns $1M on $10M in revenue, resulting in a 10% net margin.
Operating Margin: Operating margin measures the percentage of revenue left after operating expenses. It reflects the profitability of core operations.

Formula: Operating income / Revenue.

Example: WhiskerWorks Cat Furniture earns $5M in operating income on $25M in revenue, giving it a 20% operating margin.
Return on Assets (ROA): ROA measures how efficiently a company uses its assets to generate profit. It is useful for comparing companies with different capital structures.

Formula: Net income / Total assets.

Example: Bumbleberry Orchard earns $500K in net income on $10M in assets, giving it a 5% ROA.
Return on Equity (ROE): ROE measures how much profit a company generates relative to shareholders’ equity. It reflects management’s effectiveness in using owners’ capital.

Formula: Net income / Equity.

Example: Firefly Lantern Co. earns $800K on $4M in equity, producing a 20% ROE.
Return on Investment (ROI): ROI evaluates the gain or loss generated relative to the amount invested. It is used to compare the efficiency of different investments in generating profit.

Formula: (Gain – Cost) / Cost.

Example: Cloudberry Comics invests $10,000 in a new printing system and earns $12,000 back, yielding a 20% ROI.

Cash Flow & Efficiency Metrics

Cash Flow Margin (%): Cash flow margin measures how much operating cash flow is generated per dollar of revenue. It reflects the company’s ability to convert sales into cash.

Formula: Operating cash flow / Revenue.

Example: Pinecone Paper Co. generates $3M in operating cash flow on $15M in revenue, giving it a 20% cash flow margin.
Cash Flow Statement: The cash flow statement reports cash flow from operating, investing, and financing activities. It reveals how cash actually moves through the business.

Example: Honeydrop Apiaries shows positive net income but negative cash flow because customers take too long to pay invoices.
EBITDA: EBITDA stands for earnings before interest, taxes, depreciation, and amortization. It approximates operating cash flow before capital spending.

Interpretation: Useful for comparing companies with different debt levels and tax situations.

Pitfall: Can overstate financial health because it excludes capital expenditures.

Example: Snapdragon Smoothies reports $10M in EBITDA and $2M in depreciation, resulting in $8M in operating income.
Free Cash Flow: Free cash flow (FCF) is the cash left after operating expenses and capital expenditures. It represents money available for dividends, buybacks, or reducing debt.

Formula: Operating cash flow – Capital expenditures.

Example: Moonbeam Candles generates $50M in operating cash flow and spends $20M on new wax‑melting machines, leaving $30M in free cash flow.

Liquidity & Solvency Metrics

Balance Sheet: The balance sheet shows a company’s assets, liabilities, and equity at a specific point in time. It provides a snapshot of financial strength and capital structure.

Example: Blueberry Bridge Books reports $20M in assets and $12M in liabilities, leaving $8M in equity.
Current Ratio: The current ratio measures a company’s ability to pay short-term obligations using short-term assets. It is a basic liquidity indicator.

Formula: Current assets / Current liabilities.

Example: Marshmallow Mountain Toys has $200K in current assets and $100K in current liabilities, giving it a current ratio of 2.0.
Long-Term Debt to Equity (%): This ratio compares long-term debt to shareholders’ equity. It measures financial leverage and long-term solvency.

Formula: Long-term debt / Equity.

Example: Velvet Vineyards carries $5M in long-term debt and $10M in equity, resulting in a 50% ratio.
Net Worth: Net worth is the difference between total assets and total liabilities. For companies, it corresponds to shareholders’ equity.

Example: Golden Giraffe Games has $2M in assets and $1.2M in liabilities, giving it $800K in net worth.
Quick Ratio: The quick ratio measures liquidity using only the most liquid assets. It excludes inventory to provide a stricter solvency test.

Formula: (Cash + Marketable securities + Receivables) / Current liabilities.

Example: Silver Acorn Stationery holds $50K in cash, $20K in receivables, and $30K in liabilities, giving it a quick ratio of 2.33.

Valuation Metrics

Enterprise Value: Enterprise value (EV) represents the total market value of a company, including debt and cash adjustments. It is used in valuation ratios like EV/EBITDA.

Formula: Market cap + Total debt – Cash.

Example: Peppercorn Pickle Co. has a $300M market cap, $50M in debt, and $20M in cash, giving it an EV of $330M.
Market Capitalization (Market Cap): Market cap is the total market value of a company’s outstanding shares. It is used to classify companies by size and compare their scale.

Formula: Share price × Shares outstanding.

Example: Starhopper Scooters has 10M shares trading at $25, giving it a market cap of $250M.
PEG Ratio (Price-to-Earnings/Growth): The PEG ratio compares a stock’s P/E ratio to its expected earnings growth. It helps evaluate whether a stock is overvalued or undervalued relative to growth.

Formula: P/E ratio / Earnings growth rate.

Example: Lavender Llama Logistics has a P/E of 20 and growth of 10%, giving it a PEG of 2.
Price-Sales Ratio: The price-sales ratio compares a company’s market value to its revenue. It is useful for valuing companies with low or inconsistent earnings.

Formula: Market cap / Revenue.

Example: Dandelion Denim Co. has a $100M market cap and $20M in revenue, giving it a P/S ratio of 5.
Price-to-Tangible-Book Ratio: This ratio compares a company’s market value to its tangible equity, excluding intangible assets. It helps investors evaluate how much they are paying for physical net assets.

Formula: Market cap / Tangible book value.

Example: Redwood Rocket Labs has $50M in tangible equity and a $150M market cap, giving it a ratio of 3.

Dividend & Income Metrics

Annual Dividend Yield: Annual dividend yield is the percentage of a stock’s market value paid out in dividends over a year. It helps investors estimate income relative to the current share price.

Formula: Annual dividends per share / Share price.

Example: Sunbeam Soap Co. pays $2 per share annually and trades at $40, giving it a 5% yield.
Dividend Coverage Ratio (%): This ratio compares earnings or cash flow to dividends paid. It indicates how safely a company can maintain its dividend.

Formula: Earnings per share / Dividends per share.

Example: Poppyseed Pretzel Works earns $3 per share and pays $1 in dividends, giving it a coverage ratio of 3.
Ex-Dividend Date: The ex-dividend date is when a stock begins trading without the right to receive the next dividends. Buyers on or after this date do not receive the upcoming payout.

Example: If the ex-dividend date for Glitterbug Greeting Cards is April 10, buying on April 11 means missing the dividend.
Payout Ratio (%): The payout ratio shows the percentage of earnings paid out as dividends. It helps assess dividend sustainability.

Formula: Dividends per share / Earnings per share.

Example: Maple Marshmallow Co. earns $4 per share and pays $1 in dividends, giving it a 25% payout ratio.

Core Financial Statements

Balance Sheet: The balance sheet shows a company’s assets, liabilities, and equity at a specific point in time. It provides a snapshot of financial strength and capital structure.

Example: Blueberry Bridge Books reports $20M in assets and $12M in liabilities, leaving $8M in equity.
Cash Flow Statement: The cash flow statement reports cash flow from operating, investing, and financing activities. It reveals how cash actually moves through the business.

Example: Honeydrop Apiaries may show positive net income but negative cash flow if customers delay payments.
Income Statement (Profit and Loss Statement): The income statement summarizes revenue, expenses, and profit over a period. It shows how effectively a company generates profit from operations.

Example: Rainbow River Rafts reports $10M in revenue and $2M in net income, giving it a 20% net margin.

Competitive Advantage / Strategic Quality

Economic Moat: An economic moat is a durable competitive advantage that protects a company’s profit and market value. Examples include brand power, patents, and network effects.

Example: Starlit Carousel Toys enjoys a moat because children insist on its signature glow‑in‑the‑dark figurines.