Accountancy Key terms

ABC system of inventories control

A method of applying different levels of inventories control, based on the value of each category of inventories.

Absorption costing

Deducing the total direct and indirect (overhead) costs of pursuing some activity or objective, in which an appropriate share of the total manufacturing/service provision overhead cost is included.

Accounting

The process of identifying, measuring and communicating information to permit informed judgements and decisions by users of the information.

Accounting conventions

One of the generally accepted rules that accountants tend to follow when preparing financial statements. These have evolved over time to deal with practical problems rather than to reflect some theoretical ideal.

Accounting information system

The system used within a business to identify, record, analyse and report accounting information.

Accounting rate of return

(ARR) An investment appraisal technique based on the average profit from an investment, expressed as a percentage of the average investment made.

Accruals accounting

The system of accounting that follows the accruals convention. This is the system followed in drawing up the statement of financial position and the income statement.

Accruals convention

The convention of accounting that asserts that profit is the excess of revenue over expenses, not the excess of cash receipts over cash payments.

Accrued expenses

An expense that is outstanding (unpaid) at the end of a reporting period.

Acid test ratio

A liquidity ratio that relates the liquid assets (usually defined as current assets less inventories) to the current liabilities.

Activity-based costing

(ABC) A technique for relating overheads to specific production or provision of a service. It is based on acceptance of the fact that overheads do not just occur but are caused by activities, such as holding products in stores, which 'drive' the costs.

Adverse variance

A difference between planned and actual performance, usually where the difference will cause the actual profit to be lower than the budgeted profit.

Ageing schedule of trade receivables

A report analysing receivables into categories, according to the length of time outstanding.

Allotted share capital

That part of the share capital that has been issued to shareholders. Also known as 'allotted share capital'.

Alternative Investment Market

(AIM) A stock market for the shares of smaller businesses. AIM is a junior market to the main London Stock Exchange market. It is cheaper for a business to enter and has a lighter regulatory regime.

Amortisation

A measure of that portion of the cost (or fair value) of a non-current asset that has been consumed during a reporting period. The word 'amortisation' tends to be used where the particular non-current asset is an intangible one, whereas 'depreciation' is normally used with tangible assets.

Assets

Resources held by a business that have certain characteristics, such as the potential to provide economic benefits.

Auditors

Professionals whose main duty is to make a report to shareholders as to whether, in their opinion, the financial statements of a company show a true and fair view of performance and position and comply with statutory and financial reporting standard requirements.

Average inventories turnover period ratio

An efficiency ratio that measures the average period for which inventories are held by a business.

Average settlement period for trade payables ratio

An efficiency ratio that measures the average time taken for a business to pay its trade payables.

Average settlement period for trade receivables ratio

An efficiency ratio that measures the average time taken for trade receivables to pay the amounts owing.

Bank overdraft

A flexible form of borrowing that allows an individual or business to have a negative current account balance.

Batch costing

A technique for identifying full cost, where the production of many types of goods and services, particularly goods, involves producing a batch of identical or nearly identical units of output, but where each batch is distinctly different from other batches.

Bonds

Long-term borrowings usually made by limited companies.

Bonus shares

Reserves that are converted into shares and issued 'free' to existing shareholders.

Break-even analysis

The activity of deducing the break-even point of some activity by analysing the relationship between cost, volume and revenue.

Break-even chart

A graphical representation of the cost and sales revenue of some activity, at various levels, that enables the break-even point to be identified.

Break-even point

(BEP) A level of activity where revenue will exactly equal total cost, so there is neither profit nor loss.

Budget

A financial plan for the short term, typically one year or less.

Budgetary control

Using the budget as a yardstick against which the effectiveness of actual performance may be assessed.

Business angels

An individual who supplies finance (usually equity finance) and management expertise to start-up businesses or small businesses wishing to expand. Usually the amount of finance supplied falls between £10,000 and £750,000.

Business entity convention

The convention that holds that, for accounting purposes, the business and its owner(s) are treated as quite separate and distinct.

Called-up share capital

That part of a company's share capital for which the shareholders have been asked to pay the agreed amount. It is part of the claim of the owners against the business.

Capital reserves

A reserve that arises from an unrealised 'capital' profits or gains, or as a result of issuing new shares at a price above their nominal value, rather than from normal realised trading activities.

Carrying amount

The difference between the cost (or fair value) of a non-current asset and the accumulated depreciation relating to the asset. The carrying amount is also referred to as the written-down value (WDV) and the net book value (NBV).

Cash discount

A reduction in the amount due for goods or services sold on credit in return for prompt payment.

Claims

Obligations on the part of a business to provide cash or some other benefit to outside parties.

Comparability

The quality that helps users to identify similarities and differences between items of information. It enhances the usefulness of accounting information.

Consistency convention

The accounting convention that holds that, when a particular method of accounting is selected to deal with a transaction, this method should be applied consistently over time.

Consolidating

Changing the nominal value of shares to a higher figure (from, say, £0.50 to £1.00) and then reducing the number of shares in issue so that each shareholder has the same total nominal value of shares as before.

Contribution margin ratio

The contribution from an activity expressed as a percentage of the sales revenue.

Contribution per unit

Sales revenue per unit less variable cost per unit.

Control

Compelling events to conform to plan.

Convertible loan notes

A loan note that give investors the right to convert it into ordinary shares at a specified price and a given future date (or range of dates).

Corporate governance

Matters concerned with directing and controlling a company.

Corporation tax

Taxation that a limited company is liable to pay on its profits.

Cost

An amount of resources, usually measured in monetary terms, sacrificed to achieve a particular objective.

Cost behaviour

How costs alter in the face of changes in volume of output.

Cost centre

Some area, object, person or activity for which elements of cost are separately collected.

Cost drivers

An activity that causes cost in an ABC setting.

Cost of capital

The cost to a business of finance needed to fund its investments.

Cost of sales

The cost of the goods sold during a period. Cost of sales can be derived by adding the opening inventories held to the inventories purchases for the period and then deducting the closing inventories held.

Cost pool

The sum of the overhead costs that are seen as being caused by the same cost driver.

Cost unit

The objective for which the cost is being deduced, usually a product or service.

Cost-plus pricing

An approach to pricing output that is based on full cost plus a percentage profit loading.

Creative accounting

Adopting accounting policies to achieve a particular view of performance and position that preparers would like users to see rather than what is a true and fair view.

Crowdfunding

Raising equity funds, typically by small businesses, from a large number of investors often with each investor providing a relatively small sum. A commercial crowdfunding platform usually provides an Internet interface between borrower and lenders.

Current assets

An asset that is held for sale or consumption during the business's normal operating cycle, or is expected to be sold within twelve months of the financial position date, or is held principally for trading, or is cash or near cash.

Current liabilities

A liability that is expected to be settled within the normal course of the business's operating cycle or within twelve months of the statement of financial position date, or which are held primarily for trading purposes, or for which the business does not have the right to defer settlement beyond twelve months of the statement of financial position date.

Current ratio

A liquidity ratio that relates the current assets of the business to the current liabilities.

Debt factoring

A service offered by a financial institution (a factor) that involves the factor taking over the management of the trade receivables of the business. The factor is often prepared to make an advance to the business, based on the amount of trade receivables outstanding.

Depreciation

A measure of that portion of the cost (or fair value) of a non-current asset that has been consumed during a reporting period.

Direct cost

A cost that can be identified with a specific cost unit, to the extent that the effect of the cost can be measured in respect of that cost unit.

Direct method

An approach to deducing the cash flows from operating activities, in a statement of cash flows, by analysing the business's cash records.

Directors

An individual appointed (normally by being elected by the shareholders) to act as part of the most senior level of management of a company (board of directors).

Directors' report

A report containing information of a financial and non-financial nature that the directors must produce as part of the annual financial report to shareholders.

Discount factor

The rate applied to future cash flows to derive the present value of those cash flows.

Discounting

Applying the discount factor to a project's cash flows to take account of the time period involved and the cost of capital. It is, in effect, charging the project with the cost of financing it.

Dividend

The transfer of assets (usually cash) made by a company to its shareholders.

Dividend cover ratio

An investment ratio that relates the earnings available for dividends to the dividend announced, to indicate how many times the former covers the latter.

Dividend payout ratio

An investment ratio that relates the dividends announced for the period to the earnings available for dividends that were generated in that period.

Dividend per share

An investment ratio that relates the dividends announced for a period to the number of shares in issue.

Dividend yield ratio

An investment ratio that relates the cash return from a share to its current market value.

Dual aspect convention

The accounting convention that holds that each transaction has two aspects and that each aspect must be recorded in the financial statements.

Earnings per share

(EPS) An investment ratio that relates the earnings generated by the business during a period, and available to shareholders, to the number of shares in issue.

Economic order quantity

(EOQ) The quantity of inventories that should be bought with each order so as to minimise the sum of inventories ordering and carrying costs.

Efficient capital market

A capital market (for example, a Stock Exchange) whose prices rapidly and rationally take account of all relevant information.

Equity

The owners' claim on the business. In the case of a limited company, it comprises the sum of shares and reserves.

Eurobonds

A form of long-term borrowing where the finance is raised on an international basis. Eurobonds are issued in a currency that is not that of the country in which the bonds are issued.

Expenses

A measure of the outflow of assets (or increase in liabilities) incurred in pursuit of generating revenue.

Fair values

The value ascribed to an asset as an alternative to historic cost.

Current market values

The exchange values in an arm's-length transaction.

Faithful representation

The ability of information to be relied on to represent what it purports to represent.

Favourable variance

The difference between planned and actual performance, usually where the difference will cause the actual profit to be higher than the budgeted profit.

Final accounts

The income statement, statement of cash flows and statement of financial position taken together.

Finance

The study of how businesses raise funds and select appropriate investments.

Finance lease

A financial arrangement where the asset title remains with the owner (the lessor) but the lease agreement transfers virtually all the rewards and risks to the business (the lessee).

Financial accounting

The identification, measurement and communication of accounting information for external users.

Financial derivative

Any form of financial instrument, based on share capital or borrowings, which can be used by investors either to increase their returns or to decrease their exposure to risk.

Financial gearing

The existence of fixed-payment-bearing sources of finance in the capital structure of a business.

Financial management

The study of how businesses raise funds and select appropriate investments.

First in, first out (FIFO)

A method of inventories costing that deals with issues of inventories as if the inventories acquired earliest are used first.

Five Cs of credit

A checklist of factors to be taken into account when assessing the creditworthiness of a customer.

Fixed charge

Where specific assets are pledged as security for a loan.

Fixed costs

A cost that stays the same when changes occur to the volume of activity.

Fixed interest rate

An interest rate on borrowings that will remain unchanged over the period of the loan.

Flexible budgets

A budget that is adjusted to what it would have been had the planned level of output been different.

Flexing the budget

Revising a budget to what it would have been had the planned level of output been different.

Floating charge

Where all a business's assets are pledged as security for a loan.

Floating interest rate

An interest rate on borrowings that will rise and fall with market rates of interest.