Definition:

Interest is associated with a loan or debt, and is the cost of borrowing the money. It is an amount that must be paid on top of the original amount borrowed (which is known as the principal).

Example:

A bank lends money to your business. They lend you $10,000 at 10% annual interest. For every year you borrow the money you must pay them £1000 in interest, and eventually also pay back the $10,000 borrowed.

Why it matters:

Debt can be a useful way of financing a company (alongside Equity). However, the interest cost limits the amount that can be borrowed. Too much debt will reduce profitability and could make future financing difficult (particularly when interest rates are increasing).