Accounting Explanation
Understanding a company’s accounting can seem complex at first. This is because in some cases items are recorded that, although they are considered expenses, do not actually involve an outflow of cash. This is known as an accounting expense.
There are also metrics that act as leading indicators, such as Working Capital, which make it possible to anticipate potential financial difficulties before they directly affect the business.
Although it may seem like rocket science to you right now, the truth is that you already know how to analyze a company—you just haven’t realized it yet.
Pepe and a company’s accounting
To illustrate accounting concepts in a simple way, we will use an everyday example: Pepe’s personal finances.
Through his case, we will draw a parallel with company accounting. Although some examples may not be common in real life, the purpose is to understand the principles.
In the real world, accounting is governed by stricter and more detailed rules; here we will focus solely on understanding the metrics and values essential for analyzing a company, leaving out everything that is not strictly necessary.
Without further ado… let’s get started!
The three financial statements
Every company is analyzed through three main financial statements:
- P&L – Profit and Loss
- Balance Sheet
- Cash Flow