Glossary of Accounting Terms
Absorption costing A method of costing in which all fixed and variable production costs are charged to products or services using an allocation base (see also Allocation base).
Account An explanation or report in financial terms about the transactions of an organization.
Accountability The process of satisfying stakeholders in the organization that managers have acted in the best interests of the stakeholders, a result of the stewardship function of managers, which takes place through accounting.
Accounting A collection of systems and processes used to record, report and interpret business transactions.
Accounting equation The representation of the double-entry system of accounting such that assets are equal to liabilities plus equity.
Accounting period The period of time for which financial statements are produced – see also Financial year.
Accounting rate of return (ARR) A method of investment appraisal that measures the profit generated as a percentage of the investment – see also Return on investment.
Accounting standards See International Financial Reporting Standards (IFRS).
Accounting system A set of accounts that summarize the transactions of a business that have been recorded on source documents.
Accounts ‘Buckets’ within the ledger, part of the accounting system. Each account contains similar transactions (line items) that are used for the production of financial statements. ‘Accounts’ is also commonly used as an abbreviation for financial statements.
Accrual An expense for profit purposes even though no payment has been made.
Accruals accounting A method of accounting in which profit is calculated as the difference between income when it is earned and expenses when they are incurred. See also Matching principle.
Activity-based budgeting A method of budgeting that develops budgets based on expected activities and cost drivers – see also Activity-based costing.
Activity-based costing A method of costing that uses cost pools to accumulate the cost of significant business activities and then assigns the costs from the cost pools to products or services based on cost drivers (the causes of activity).
Allocation base A measure of activity or volume such as labour hours, machine hours or volume of production used to apportion overheads to products and services.
Amortization See Depreciation, but usually in relation to intangible assets such as goodwill, or to leased assets.
Annual Report The report required by the Stock Exchange for all listed companies, containing the company’s financial statements, chairman’s, statutory and audit reports.
Assets Things that the business owns. IASB definition: a resource controlled by an entity as a result of past events and from which future economic benefits are expected to flow to the entity. An entity acquires assets to produce goods or services capable of satisfying customer needs. Physical form is not essential.
Audit A periodic examination of the accounting records of a company carried out by an independent auditor to ensure that those records have been properly maintained and that the financial statements which are drawn up from those records comply with legislation and accounting standards, and give a true and fair view.
Avoidable costs Costs that are identifiable with and able to be influenced by decisions made at the business unit (e.g. division) level.
Backflush costing A method of costing that aims to eliminate detailed transaction processing. Rather than tracking each movement of materials, the output from the production process determines (based on the expected usage and cost of materials) the amount of materials to be transferred from raw materials to finished goods. See Lean accounting.
Balanced Scorecard A system of non-financial performance measurement that links innovation, customer and process measures with financial performance and strategy.
Balance Sheet See Statement of Financial Position.
Bank Money in a bank cheque account, the difference between receipts and payments.
Bank overdraft Money owed to the bank in a cheque account where payments exceed receipts.
Batch A group of similar products produced together.
Bill of materials A listing of all the materials and quantities that comprise a completed product.
Breakeven point The point at which total costs equal total revenue, i.e. where there is neither a profit nor a loss.
Budget A plan expressed in monetary terms covering a future period of time and based on a defined level of activity.
Budget cycle The annual period over which budgets are prepared.
Budgetary control The process of ensuring that actual financial results are in line with targets – see also Variance analysis.
Capacity The maximum volume of products or services that can be produced given limitations of space, people, equipment or financial resources.
Capacity utilization The proportion of capacity that is able to be utilized to fulfil customer demand for products or services.
Capital The shareholders’ investment in the business; the difference between the assets and liabilities of a business. See also Equity.
Capital employed The total of debt and equity, i.e. the total funds in the business, however financed.
Capital investment or capital expenditure (often abbreviated as ‘cap ex’) Spending money now in the hope of getting it back later through future cash flows – see Capitalize
Capitalize To make a payment that might otherwise be an expense (in the Income Statement) or an asset (in the Statement of Financial Position).
Capital market The market in which investors buy and sell shares of companies or debt, normally associated with a Stock Exchange.
Cash accounting A method of accounting in which profit (or surplus) is calculated as the difference between income when it is received and expenses when they are paid.
Cash cost The amount of cash expended for something.
Cash Flow Statement See Statement of Cash Flows.
Cash value added (CVA) A method of investment appraisal that calculates the ratio of the net present value of an investment to the initial capital investment.
Contribution The difference between the selling price and variable costs, which can be expressed either per unit or in total.
Contribution margin The contribution (see above) expressed as a percentage of the selling price.
Controllable profit The profit made by a division after deducting only those expenses that can be controlled by the divisional manager and ignoring those expenses that are outside the divisional manager’s control.
Corporate Governance Code A set of principles for corporate governance.
Cost A resource sacrificed or forgone to achieve a specific objective, usually defined in monetary terms.
Cost behaviour The idea that fixed costs and variable costs react differently to changes in the volume of products/services produced.
Cost centre A division or unit of an organization that is responsible for controlling costs.
Cost control The process of either reducing costs while maintaining the same level of productivity or maintaining costs while increasing productivity.
Cost driver The most significant cause of the cost of an activity, a measure of the demand for an activity by each product/service enabling the cost of activities to be assigned from cost pools to products/services. See also Activity-based costing.
Cost object Anything for which a measurement of cost is required – inputs, processes, outputs or business units.
Cost of capital The costs incurred by an organization to fund all its investments, comprising the risk-adjusted cost of equity and debt weighted by the mix of equity and debt.
Cost of goods sold See Cost of sales.
Cost of manufacture The cost of goods manufactured for subsequent sale.
Cost of quality The difference between the actual costs of production, selling and service and the costs that would be incurred if there were no failures during production or usage of products or services.
Cost of sales The manufacture or purchase price of goods sold in a period or the cost of providing a service.
Cost-plus pricing A method of pricing in which a mark-up is added to the total product/service cost.
Cost pool The costs of (cross-functional) business processes, irrespective of the organizational structure of the business. See also Activity-based costing.
Cost–volume–profit analysis (CVP) A method for understanding the relationship between revenue, cost and sales volume.
Credit Buying or selling goods or services now with the intention of payment following at some time in the future (as opposed to buying or selling goods or services for cash).
Creditors See Payables.
Current assets Amounts receivable by the business within a period of 12 months, including bank, receivables, inventory and prepayments.
Current liabilities Amounts due and payable by the business within a period of 12 months, e.g. bank overdraft, payables and accruals.
Debt Borrowings from financiers.
Debtors See Receivables.
Depreciation An expense that spreads the cost of an asset over its useful life.
Direct costs Costs that are readily traceable to particular products or services.
Discounted cash flow (DCF) A method of investment appraisal that discounts future cash flows to present value using a discount rate, which is the risk-adjusted weighted average cost of capital.
Dividend The payment of part of after-tax profits to shareholders as their share of the profits of the business for an accounting period.
Double entry The system of recording business transactions in two accounts in an accounting system.
Earnings before interest and tax (EBIT) The operating profit before deducting interest and taxes.
Earnings before interest, tax, depreciation and amortization (EBITA) The operating profit before deducting interest, taxes, depreciation and amortization.
Economic Value Added Operating profit, adjusted to remove distortions (EVATM) caused by certain accounting rules, less a charge to cover the cost of capital invested in the business.
Equity Funds raised from shareholders. The residual interest in the assets of the entity after deducting all its liabilities. See also Shareholders’ funds. See also Capital.
Expenses The costs incurred in buying, making or producing goods and services.
Feedback The retrospective process of measuring performance, comparing it with plan and taking corrective action.
Feedforward The process of determining prospectively whether strategies are likely to achieve the target results that are consistent with organizational goals.
Financial accounting The production of financial statements, primarily for those interested parties who are external to the business.
Financial statements A Statement of Financial Position, Income Statement, Statement of Comprehensive Income, Statement of Changes in Equity and Statement of Cash Flows together with explanatory Notes.
Financial year The accounting period adopted by a business for the production of its financial statements.
Finished goods Inventory that is ready for sale, either having been purchased as such or the result of a conversion from raw materials through a manufacturing process.
Fixed assets See Non-current assets.
Fixed costs Costs that do not change with increases or decreases in the volume of goods or services produced, within the relevant range.
Flexible budget A method of budgetary control that flexes, i.e. adjusts the original budget, by applying standard prices and costs per unit to the actual production volume.
Forecast A revised budget estimate or update, part-way through a budget period.
Full cost The cost of a product/service that includes an allocation of all the (production and non-production) costs of the business. See Absorption costing.
Framework for the Preparation and Presentation of Financial Statements Part of International Financial Reporting Standards (IFRS) that sets out the concepts underlying the preparation and presentation of financial statements for external users, including the objectives of financial statements, the qualitative characteristics that determine decision usefulness, and the definition, recognition and measurement of the elements from which financial statements are constructed.
Gains A form of income not in the ordinary course of business, such as income from the disposal of non-current assets or revaluations of investments.
Gearing A measure of the extent of long-term debt in comparison with shareholders’ funds.
Goodwill Goodwill arises where a company buys a business and pays more than the fair value of the tangible assets. Goodwill is an intangible asset and represents the value of brands, customer lists, location, reputation, etc. It is reflected in the expectation of future profits.
Governance Corporate governance is the system by which companies are directed and controlled by boards of directors.
Gross margin Gross profit, expressed as a percentage of sales.
Gross profit The difference between the price at which goods or services are sold and the cost of sales.
Income The revenue generated from the sale of goods or services.
Income Statement A financial statement measuring the profit or loss of a business – income less expenses – for an accounting period. Previously known as a Profit and Loss Account.
Incremental budget A budget that takes the previous year as a base and adds (or deducts) a percentage to arrive at the budget for the current year.
Indirect costs Costs that are necessary to produce a product/service but are not readily traceable to particular products or services – see Overhead.
Intangible assets Non-physical assets, e.g. customer goodwill or intellectual property (patents and trademarks).
Interest The cost of money, received on investments or paid on borrowings.
Internal control The whole system of internal controls, financial and otherwise, established in order to provide reasonable assurance of effective and efficient operation, internal financial control and compliance with laws and regulations.
Internal rate of return (IRR) A discounted cash flow technique used for (IRR)investment appraisal that calculates the effective cost of capital that produces a net present value of zero from a series of future cash flows and an initial capital investment.
International Financial Reporting Standards (IFRS) Standards that set out recognition, measurement, presentation and disclosure requirements dealing with transactions and events that are important in general purpose financial statements.
Inventory Goods bought or manufactured for resale but as yet unsold, comprising raw materials, work-in-progress and finished goods.
Investment centre A division or unit of an organization that is responsible for achieving an adequate return on the capital invested in the division or unit.
Job costing A method of accounting that accumulates the costs of a product/service that is produced either customized to meet a customer’s specification or in a batch of identical products/services.
Just-in-time (JIT) A method of purchasing that aims to improve productivity and eliminate waste by obtaining manufacturing components in the right quantity, at the right time and place to meet the demands of the manufacturing cycle with minimal inventory.
Kaizen A method of costing that involves making continual, incremental improvements to the production process during the manufacturing phase of the product/service lifecycle, typically involving setting targets for cost reduction.
Labour oncost The non-salary or wage costs that follow from the payment of salaries or wages, e.g. National Insurance (in the UK) and pension contributions.
Lean production A method of production that focuses on production processes as a continuous flow (in which products are manufactured in a continuous process), rather than on the hierarchical structures. This significantly reduces the cycle time from order to delivery which reduces the need for work-in-process inventory.
Lean accounting A method of accounting and costing that relies on value stream accounting rather than traditional management accounting tools like standard costing, activity-based costing, variance reporting, cost-plus pricing, transaction reporting systems, and financial statements that are often confusing to non-financial managers. See Value stream accounting.
Leasing A method of finance for equipment used by business organizations, in which a business needing equipment (the lessee) ‘rents’ that equipment from a financial institution (the lessor) which in turn pays the supplier for the equipment. The lessee pays a fixed monthly sum over a number of years to the lessor in payment of the debt.
Ledger A collection of all the different accounts of the business that summarize the transactions of the business.
Liabilities Debts that the business owns. IFRS definition: a present obligation of the entity arising from past events, the settlement of which is expected to result in an outflow from the entity of resources embodying economic benefits.
Lifecycle costing An approach to costing that estimates and accumulates the costs of a product/service over its entire lifecycle, i.e. from inception to abandonment.
Limiting factor The production resource that, as a result of scarce resources, limits the production of goods or services.
Line item Generic types of assets, liabilities, income or expense that are common to all businesses and used as the basis of financial reporting, e.g. rent, salaries, advertising.
Liquidity A measure of the ability of a business to pay its debts as they fall due – see also Working capital.
Losses A form of expense not arising from the ordinary course of business, such as those resulting from disasters such as fire and flood and following the disposal of non-current assets.
Make-ready See Set-up.
Management accounting The production of financial and non-financial information used in planning for the future; making decisions about products/services, prices and what costs to incur; and ensuring that plans are implemented and achieved.
Margin The amount that a lower figure is, expressed as a percentage of a higher figure, e.g. the margin that profit represents as a percentage of selling price.
Marginal cost The cost of producing one extra unit.
Margin of safety A measure of the difference between the anticipated and breakeven levels of activity.
Mark-up The amount added to a lower figure to reach a higher figure, expressed as a percentage of the lower figure, e.g. cost is marked up by a percentage to cover the desired profit to determine a selling price.
Matching The accruals basis of accounting under which income earned is matched with expenses incurred in earning that income during an accounting period.
Net assets On the Statement of Financial Position, the difference between total assets and total liabilities.
Net present value (NPV) A discounted cash flow technique used for investment appraisal that calculates the present value of future cash flows and deducts the initial capital investment.
Net profit See Operating profit.
Non-current assets Things that the business owns and are part of the business infrastructure – non-current assets may be tangible or intangible.
Non-current liabilities Amounts owing which do not have to be repaid within the next 12 months.
Non-production overhead A general term referring to period costs, such as selling, administration and financial expenses.
Operating and Financial Review (OFR) Part of the Annual Report. A report by directors to shareholders which discusses and analyses the business’s performance and the factors underlying its results and financial position, in order to assist users to assess for themselves the future potential of the business.
Operating margin Operating profit, expressed as a percentage of sales.
Operating profit The profit made by the business for an accounting period, equal to gross profit less selling, finance, administration etc. expenses, but before deducting interest or taxation.
Opportunity cost The opportunity foregone by making a choice among alternatives, which involves the inability to undertake the alternative not selected. The opportunity cost may be financial or non-financial.
Optimum selling price The price at which profit is maximized, which takes into account the cost behaviour of fixed and variable costs and the relationship between price and demand for a product/service.
Overhead Any cost other than a direct cost – may refer to an indirect production cost and/or to a non-production expense.
Overhead allocation The process of spreading production overhead equitably over the volume of production of goods or services.
Overhead rate The rate per unit of activity (often direct labour hours), used to allocate production overheads to particular products/services based on the unit of activity. May be calculated on a business-wide or cost centre basis.
Payables Purchases of goods or services from suppliers on credit to whom the debt is not yet paid.
Payback A method of investment appraisal that calculates the number of years taken for the cash flows from an investment to cover the initial capital outlay.
Period costs The costs that relate to a period of time, not to a product/service.
Planning, programming and budgeting system (PPBS) A method of budgeting in which budgets are allocated to projects or programmes rather than to responsibility centres.
Prepayment A payment made in advance of when it is treated as an expense for profit purposes.
Prime cost The total of all direct costs.
Priority-based budget A budget that allocates funds in line with strategies.
Process costing A method of costing for continuous manufacture in which costs for an accounting period are compared with production for the same period to determine a cost per unit produced.
Product cost The cost of goods or services produced.
Product market A business’s investment in technology, people and materials in order to make, buy and sell products or services to customers.
Product/service mix See Sales mix.
Production overhead A general term referring to indirect costs of production.
Profiling A method of budgeting that takes into account seasonal fluctuations and estimates of when revenues will be earned and costs will be incurred over each month in the budget period.
Profit The difference between income and expenses.
Profit and Loss account See Income Statement.
Profit before interest and taxes (PBIT) See EBIT.
Profit centre A division or unit of an organization that is responsible for achieving profit targets.
Profitability index See Cash value added.
Provision Estimates of possible future liabilities that may arise, but where there is uncertainty as to timing or the amount of money.
Ratio analysis A method of analysing financial reports to interpret trends and make comparisons by using ratios. A ratio is two numbers, with one generally expressed as a percentage of the other.
Raw materials Unprocessed goods bought for manufacture, part of inventory.
Receivables Sales to customers who have bought goods or services on credit but who have not yet paid their debt.
Relevant cost The cost that is relevant to a particular decision – future, incremental cash flows.
Relevant range The upper and lower levels of activity within which the business expects to be operating within the short-term planning horizon (the budget period).
Residual income (RI) The profit remaining after deducting from profit a notional cost of capital on the investment in a business or division of a business.
Responsibility centre A division or unit of an organization for which a manager is held responsible – may be a cost centre, profit centre or investment centre.
Retained earnings See Retained profits.
Retained profits The amount of profit after deducting interest, taxation and dividends that is retained by the business and is an addition to equity.
Return on capital employed (ROCE) The operating profit before interest and tax as a percentage of the total shareholders’ funds plus the long-term debt of the business.
Return on investment (ROI) The net profit after tax as a percentage of the shareholders’ investment in the business.
Revenue A form of income that arises in the ordinary course of business. Typically income earned from the sale of goods and services, including fees, interest, dividends, royalties and rent.
Rolling budgets A method of budgeting in which as each month passes, an additional budget month is added such that there is always a 12-month budget.
Routing A list of all the labour or machining processes and times required to convert raw materials into finished goods or to deliver a service.
Sales mix The mix of products/services offered by the business, each of which may be aimed at different customers, with each product/service having different prices and costs.
Semi-fixed costs Costs that are constant within a defined level of activity but that can increase or decrease when activity reaches upper and lower levels.
Semi-variable costs Costs that have both fixed and variable components.
Sensitivity analysis An approach to understanding how changes in one variable are affected by changes in the other variables, e.g. in cost–volume–profit analysis between selling price, costs and profit.
Set-up The time required to make ready a machine or process for production, e.g. changing equipment settings.
Share capital The original investment by shareholders. See Shareholders’ funds.
Shareholders’ funds The capital invested in a business by the shareholders, including retained profits. See also Equity.
Shareholder value Increasing the value of the business to its shareholders, achieved through a combination of dividend and capital growth in the value of the shares.
Shareholder value analysis The process of increasing shareholder value through new or redesigned products/services, cost management, performance management systems and improved decision making.
Source document The document that records a transaction and forms the basis for recording in a business’s accounting system.
Standard costs A budget cost for materials and labour used for decision making, usually expressed as a per unit cost that is applied to standard quantities from a bill of materials and to standard times from a routing.
Statement of Cash Flows A financial report that shows the movement in cash for a business during an accounting period.
Statement of Comprehensive Income The profit (or loss) of a business for a financial period (after income tax is deducted) together with other comprehensive income such as movements in the price or valuation of something resulting in a change in measurement
Statement of Financial Position A financial statement showing the financial position of a business – its assets, liabilities and equity – at the end of an accounting period.
Stock See Inventory.
Strategic management accounting The provision and analysis of management accounting data about a business and its competitors, which is of use in the development and monitoring of strategy.
Sunk costs Costs that have been incurred in the past.
Tangible fixed assets Physical assets that can be seen and touched, e.g. buildings, machinery, vehicles, computers.
Target costing A method of costing that is concerned with managing whole-of-life costs of a product/service during the product design phase – the difference between target price (to achieve market share) and the target profit margin.
Target rate of return pricing A method of pricing that estimates the desired return on investment to be achieved from the company’s total capital investment and includes that return in the price of a product/service.
Throughput contribution Sales revenue less the cost of materials.
Transaction The financial description of a business event.
Transfer price The price at which goods or services are bought and sold within divisions of the same organization, as opposed to an arm’s-length price at which sales may be made to an external customer.
True and fair view A judgement made by directors and auditors about the content and presentation of financial statements.
Turnover The business income or sales of goods and services.
Unavoidable costs A cost that cannot be influenced at the business unit level but is controllable at the corporate level.
Value added tax (VAT) A form of indirect taxation (in the UK), levied on the sale of most goods and services.
Value-based management A variety of approaches that emphasize increasing shareholder value as the primary goal of every business.
Value stream Everything done to create value for a customer that can reasonably be associated with a product or product group.
Value stream accounting Assigning employee and assets to a single value stream, rather than costs being allocated to a department or cost centre, or across multiple business processes. Performance measures are developed for each value stream and overhead costs are directed to specific value streams, resulting in less arbitrary overhead allocations. Value streams are the unit of financial reporting under lean accounting.
Value stream costing The measurement of how much value is added in each step of the production process, by costing the various value streams backwards from the customer to their source.
Variable cost A cost that increases or decreases in proportion with increases or decreases in the volume of production of goods or services.
Variable costing A method of costing in which only variable production costs are treated as product costs and in which all fixed (production and non-production) costs are treated as period costs.
Variance analysis A method of budgetary control that compares actual performance against plan, investigates the causes of the variance and takes corrective action to ensure that targets are achieved.
Weighted average cost of capital See Cost of capital.
Working capital Current assets less current liabilities. Money that revolves in the business as part of the process of buying, making and selling goods and services, particularly in relation to receivables, payables, inventory and bank.
Work-in-progress Goods or services that have commenced the production process but are incomplete and unable to be sold.
Zero-based budgeting A method of budgeting that ignores historical budgetary allocations and identifies the costs that are necessary to implement agreed strategies.