Introduction
Finance might seem complex at first, but once you understand key concepts, you can manage your investments, analyze financial statements, and make better financial decisions with confidence.
In this blog, we will explore 25 essential financial terms that every investor, business owner, and finance enthusiast must know. Whether you are managing your personal finances, running a business, or investing in the stock market, understanding these concepts will help you make informed decisions. Let’s dive in!
1. Asset
An asset is anything of value that a business or an individual owns that has economic worth. Assets can be used to generate income, pay expenses, or be sold in the future for financial benefit.
Example:
Imagine you own ABC Auto, a car repair business. If you buy ₹5 lakh worth of machinery, that machinery is an asset because it helps your business generate revenue. Assets can include cash, real estate, equipment, and investments.
2. Liabilities
Liabilities refer to financial obligations or debts that a business or an individual owes to another party.
Example:
If ABC Auto takes a ₹5 lakh loan to buy new equipment, that loan is a liability because it must be repaid.
Types of liabilities include:
✅ Short-term Liabilities – Bills payable, short-term loans.
✅ Long-term Liabilities – Bank loans, mortgages, bonds issued by the company.
3. Equity
Equity represents the ownership value in a business after subtracting liabilities from total assets.
Formula:
Equity = Assets – Liabilities
Example:
If ABC Auto has ₹10 lakh in total assets and ₹5 lakh in liabilities, then the equity is ₹5 lakh. Equity is what belongs to the owners or shareholders.
4. Balance Sheet
A Balance Sheet is a financial statement that provides a snapshot of a company’s financial position at a specific time. It shows:
✅ Assets – What the company owns
✅ Liabilities – What the company owes
✅ Equity – Ownership value
Example:
If ABC Auto owns ₹10 lakh worth of equipment and has ₹5 lakh in loans, the balance sheet will show these details. The fundamental equation is: Assets = Liabilities + Equity
5. Net Income
Net Income is the profit a company makes after deducting all expenses, taxes, and costs.
Formula:
Net Income = Revenue – Expenses
Example:
If ABC Auto earns ₹10 lakh in revenue and has ₹6 lakh in expenses, then the net income is ₹4 lakh.
6. Net Worth
Net Worth is the difference between total assets and total liabilities, indicating the financial health of an individual or business.
Example:
If ABC Auto owns assets worth ₹20 lakh and has liabilities of ₹10 lakh, the net worth is ₹10 lakh.
7. Liquidity
Liquidity refers to how easily an asset can be converted into cash without losing value.
Example:
Cash in a bank account is highly liquid, whereas a machine or a piece of land takes longer to sell, making them less liquid assets.
8. Depreciation
Depreciation is the reduction in the value of an asset over time due to wear and tear.
Example:
If ABC Auto buys a ₹5 lakh machine, its value decreases every year as it gets used. This decrease in value is called depreciation.
9. Amortization
Amortization refers to the gradual repayment of a loan through scheduled payments over time.
Example:
If ABC Auto takes a ₹2 lakh loan and repays it through monthly EMIs, this process is called amortization.
10. EBITDA
EBITDA (Earnings Before Interest, Taxes, Depreciation, and Amortization) measures a company’s core profitability before deducting these expenses.
11. Cash and Cash Equivalents
Cash and easily accessible financial assets, such as savings in a bank, are known as cash and cash equivalents.
12. ROI (Return on Investment)
ROI measures how much profit an investment generates compared to its cost.
Formula:
ROI = (Profit / Investment) × 100
Example:
If you invest ₹1 lakh in new machinery and it helps generate ₹1.5 lakh, the ROI is 50%.
13. Cash Flow
Cash Flow tracks money movement in and out of a business.
Example:
If ABC Auto earns ₹10 lakh in revenue and has ₹8 lakh in expenses, the cash flow is ₹2 lakh.
14. Profit Margin
Profit Margin measures how much of total revenue is profit.
Formula:
Profit Margin (%) = (Net Profit / Revenue) × 100
Example:
If ABC Auto makes ₹10 lakh revenue and ₹2 lakh profit, the profit margin is 20%.
15. Working Capital
Working Capital measures short-term financial health.
Formula:
Working Capital = Current Assets – Current Liabilities
16. Capital Gains
Capital Gains occur when an asset is sold for more than its purchase price.
Example:
If you buy shares for ₹2 lakh and sell them for ₹3 lakh, the ₹1 lakh profit is a capital gain.
17. Capital Markets (Stock Market)
The capital market, commonly known as the stock market, is a financial marketplace where individuals and institutions buy and sell financial securities such as stocks, bonds, and derivatives. It serves as a platform for companies to raise funds by issuing shares and for investors to trade these shares to earn profits.
Example:
Imagine you own ABC Auto, and you want to expand your business. Instead of taking a loan, you can sell shares of your company to investors through the stock market. Investors buy these shares expecting your company to grow, increasing the value of their investment.
Key Components of Capital Markets:
✅ Primary Market – Companies sell new shares to investors (e.g., IPOs).
✅ Secondary Market – Investors trade existing shares among themselves.
18. IPO (Initial Public Offering)
An IPO (Initial Public Offering) is the process where a private company offers its shares to the public for the first time to raise capital. Once a company is listed on a stock exchange, its shares can be bought and sold by investors.
Example:
If ABC Auto wants to expand its operations, it can issue shares through an IPO. Investors who buy these shares become part-owners of the company.
Why Companies Go for IPOs?
- To raise funds for expansion.
- To gain credibility and brand recognition.
- To allow early investors and founders to cash out.
19. Stock
A stock represents ownership in a company. When you buy a stock, you become a part-owner (shareholder) of that company and can benefit from its growth.
Example:
If you buy 100 shares of ABC Auto, you now own a portion of the company. If ABC Auto grows and its stock price rises, your investment gains value.
Types of Stocks:
✅ Common Stocks – Provide voting rights and dividends.
✅ Preferred Stocks – Higher claim on earnings but no voting rights.
20. Bonds
A bond is a fixed-income investment where an investor lends money to a company or government for a specified time at a fixed interest rate. Bonds are considered safer than stocks because they provide guaranteed returns.
Example:
If you buy a ₹10,000 government bond with a 5% annual interest rate, you will earn ₹500 per year, and after 5 years, you will get your ₹10,000 principal back.
Key Features of Bonds:
✅ Issuer – Government or corporate entity.
✅ Interest Rate (Coupon) – Fixed or variable.
✅ Maturity Date – When the bondholder receives the principal amount.
21. Earnings Per Share (EPS)
Earnings Per Share (EPS) measures how much profit a company generates per outstanding share.
Formula:
EPS = Net Profit / Total Shares Outstanding
Example:
If ABC Auto earns ₹10 lakh in net profit and has 10,000 shares outstanding, then EPS = ₹100 per share.
A higher EPS indicates a company is generating strong profits relative to the number of shares.
22. Dividend
A dividend is a portion of a company’s earnings that is distributed to shareholders, usually in cash or additional shares.
Example:
If you own 100 shares of ABC Auto and the company declares a dividend of ₹5 per share, you will receive ₹500 as a dividend.
Why Do Companies Pay Dividends?
✅ To reward investors for holding shares.
✅ To attract more investors by offering regular returns.
✅ To signal financial stability and profitability.
23. Buyback
A buyback occurs when a company repurchases its own shares from the stock market. This reduces the number of shares available in the market, often increasing the stock’s value.
Example:
If ABC Auto believes its shares are undervalued, it may buy back 1 lakh shares from the market. This decreases the number of outstanding shares, potentially increasing the value of remaining shares.
Reasons for Buybacks:
✅ To boost stock prices.
✅ To improve earnings per share (EPS).
✅ To show confidence in the company’s future growth.
24. ROE (Return on Equity)
Return on Equity (ROE) measures how efficiently a company generates profits from shareholders’ equity.
Formula:
ROE = (Net Income / Shareholders’ Equity) × 100
Example:
If ABC Auto has ₹10 lakh in net income and ₹50 lakh in shareholders’ equity, then ROE = 20%.
A higher ROE indicates that a company is using its shareholders’ investments efficiently to generate profits.
25. ROCE (Return on Capital Employed)
Return on Capital Employed (ROCE) measures how efficiently a company is generating profit from both equity and debt.
Formula:
ROCE = (Earnings Before Interest & Tax / Capital Employed) × 100
Example:
If ABC Auto has ₹20 lakh in profit and ₹1 crore in total capital (equity + debt), then ROCE = 20%.
ROCE helps investors understand how effectively a company is using its total capital to generate profits.
Conclusion
Understanding these 25 financial terms will help you navigate the stock market, make informed investment decisions, and manage your business finances effectively. If you are a beginner, focus on these fundamentals before diving deeper into complex financial strategies.
FAQs
1. Why is understanding financial terms important for investors?
Financial terms help investors analyze companies, assess risks, and make informed investment decisions.
2. How does ROI help in investment decisions?
ROI measures how profitable an investment is compared to its cost, helping investors decide where to invest.
3. What is the difference between stocks and bonds?
- Stocks represent ownership in a company.
- Bonds are loans given to companies or governments for fixed returns.
4. Why is liquidity important?
Liquidity ensures that an asset can be quickly converted into cash without significant loss.
5. How can I improve my financial knowledge?
- Read finance blogs and books
- Follow market news
- Take investment courses
- Practice by managing small investments
If you have any questions, leave a comment, and we’ll cover them in future posts! 🚀
