Generally Accepted Accounting Principles (GAAP)
Generally Accepted Accounting Principles (GAAP) is the standard framework of guidelines for financial accounting. It includes the standards, conventions, and rules accountants follow in recording and summarizing transactions, and in the preparation of financial statements.
Generally Accepted Accounting Principles (GAAP) is the standard framework of guidelines for financial accounting. It includes the standards, conventions, and rules accountants follow in recording and summarizing transactions, and in the preparation of financial statements.
One key aspect of GAAP is an emphasis on the term "general", since not all accounting exercises employ the same method and generate the same results. GAAP accommodates variation in applied accounting methods as long as the methods generally adhere to its set of broadly-defined principles.
GAAP also creates an environment in which financial reporting results can vary depending on purpose. One company may produce different reports for the same fiscal year, all completed within GAAP, for different audiences or different purposes, and all of these reports can be considered correct.
A company may report financial performance considered acceptable by the accounting firm producing the review, yet upon closer investigation, irregularities may be revealed. This may require a restatement of all or part of the report. Recently (2006 - 2007), well known corporations such as Apple and Research In Motion had to restate parts of their financial reports in which adherence to certain "best practices" was questionable.
Financial accounting information must be assembled and reported objectively. Third-parties who must rely on such information have a right to be assured that the data are free from bias and inconsistency, whether deliberate or not. For this reason, financial accounting relies on certain standards or guides that are called "Generally Accepted Accounting Principles" (GAAP).
Principles derive from tradition, such as the concept of matching. In any report of financial statements (audit, compilation, review, etc.), the preparer/auditor must indicate to the reader whether or not the information contained within the statements complies with GAAP.
To achieve basic objectives and implement fundamental qualities GAAP has four basic assumptions, four basic principles, and four basic constraints.
GAAP also creates an environment in which financial reporting results can vary depending on purpose. One company may produce different reports for the same fiscal year, all completed within GAAP, for different audiences or different purposes, and all of these reports can be considered correct.
A company may report financial performance considered acceptable by the accounting firm producing the review, yet upon closer investigation, irregularities may be revealed. This may require a restatement of all or part of the report. Recently (2006 - 2007), well known corporations such as Apple and Research In Motion had to restate parts of their financial reports in which adherence to certain "best practices" was questionable.
Financial accounting information must be assembled and reported objectively. Third-parties who must rely on such information have a right to be assured that the data are free from bias and inconsistency, whether deliberate or not. For this reason, financial accounting relies on certain standards or guides that are called "Generally Accepted Accounting Principles" (GAAP).
Principles derive from tradition, such as the concept of matching. In any report of financial statements (audit, compilation, review, etc.), the preparer/auditor must indicate to the reader whether or not the information contained within the statements complies with GAAP.
- Principle of regularity: Regularity can be defined as conformity to enforced rules and laws. This principle is also known as the Principle of Consistency.
- Principle of sincerity: According to this principle, the accounting unit should reflect in good faith the reality of the company's financial status.
- Principle of the permanence of methods: This principle aims at allowing the coherence and comparison of the financial information published by the company.
- Principle of non-compensation: One should show the full details of the financial information and not seek to compensate a debt with an asset, a revenue with an expense, etc.
- Principle of prudence: This principle aims at showing the reality "as is" : one should not try to make things look prettier than they are. Typically, a revenue should be recorded only when it is certain and a provision should be entered for an expense which is probable.
- Principle of continuity: When stating financial information, one should assume that the business will not be interrupted. This principle mitigates the principle of prudence: assets do not have to be accounted at their disposable value, but it is accepted that they are at their historical value (see depreciation).
- Principle of periodicity: Each accounting entry should be allocated to a given period, and split accordingly if it covers several periods. If a client pre-pays a subscription (or lease, etc.), the given revenue should be split to the entire time-span and not counted for entirely on the date of the transaction.
Assumptions
- Business Entity: assumes that the business is separate from its owners or other businesses. Revenues and expenses should be kept separate from personal expenses.
- Going Concern: assumes that the business will be in operation indefinitely. This validates the methods of asset capitalization, depreciation, and amortization. Only when liquidation is certain this assumption is not applicable.
- Monetary Unit principle: assumes a stable currency is going to be the unit of record. The FASB accepts the nominal value of the US Dollar as the monetary unit of record unadjusted for inflation.
- The Time-period principle implies that the economic activities of an enterprise can be divided into artificial time periods.
Principles
- Cost principle requires companies to account and report based on acquisition costs rather than fair market value for most assets and liabilities. This principle provides information that is reliable (removing opportunity to provide subjective and potentially biased market values), but not very relevant. Thus there is a trend to use fair values. Most debts and securities are now reported at market values.
- Revenue principle requires companies to record when revenue is (1) realized or realizable and (2) earned, not when cash is received. This way of accounting is called accrual basis accounting.
- Matching principle. Expenses have to be matched with revenues as long as it is reasonable to do so. Expenses are recognized not when the work is performed, or when a product is produced, but when the work or the product actually makes its contribution to revenue. Only if no connection with revenue can be established, may cost be charged as expenses to the current period (e.g. office salaries and other administrative expenses). This principle allows greater evaluation of actual profitability and performance (shows how much was spent to earn revenue). Depreciation and Cost of Goods Sold are good examples of application of this principle.
- Disclosure principle. Amount and kinds of information disclosed should be decided based on trade-off analysis as a larger amount of information costs more to prepare and use. Information disclosed should be enough to make a judgment while keeping costs reasonable. Information is presented in the main body of financial statements, in the notes or as supplementary information
Constraints
- Objectivity principle: the company financial statements provided by the accountants should base on objective evidence
- Materiality principle: the significance of an item should be considered when it is reported. An item is considered significant when it would affect the decision of a reasonable individual.
- Consistency principle: accounting procedures should follow industry practices.
- Prudent principle: when choosing between two solutions, the one that will be least likely to overstate assets and income should be picked. sional accounting organization (e.g., a CGA, CMA
or CA).
Accountant
Accountant
● an individual trained and knowledgeable in the profession of accountancy; and
● p
Accountant’s Communication
● the accountant’s written communication that prefaces the financial statements;
and
● additionally, see Auditors’ Report, Review Engagement Report and Notice to Reader.
Accounting (Accountancy)
● functions include analyzing, interpreting and examining the results of the
bookkeeping process; and
● information system design and development of controls and procedures.
Accounting Equation
● a description of the relationship between a company’s assets, liabilities and equity; expressed as Assets = Liabilities + Owner’s Equity; and
● also known as the balance sheet equation.
Accrued Expense
● liability, created by consumption of economic benefit that has not been invoiced
and does not require payment until a later date (e.g., accrued property taxes).
Accrued Revenue
● an asset, created by realization of economic benefit, which normally is not due
or invoiced until a later date (e.g., accrued interest income).
Amortization
● systematic allocation of cost over a related time period
● the expensing of both tangible and intangible assets; and
● often referred to as “depreciation.”
Annuity
● a sequence of equal payments, usually made at regular intervals of time.
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Articles of Incorporation
● legal documents that recognize a corporation as a legal entity
● additionally, are granted by the federal or provincial jurisdiction in which the
company is incorporated; and
● the documents would include the name of the company, the nature of business
activities, and the number and types of capital stock it can sell.
Asset
● anything of value owned or controlled by a corporation or individual—may be
tangible or intangible; and
● anything owned by the company that provides a future benefit.
Audit
● an examination of records or financial accounts to verify their accuracy; and
● additionally, see Audit (External); Compliance Audit; Environmental Audit;
Forensic Audit; Internal Audit; and Operational Audit.
Auditor
● see External Auditor; and
● see Internal Auditor.
Auditors’ Report
● the report that prefaces financial statements and expresses the opinion of the
external auditor as to the fairness of the financial statements attached.
Balance
● amount arrived at by adding all debits and subtracting all credits; and
● to ensure total debits equal total credits.
Balance Sheet
● statement, at a particular point in time, of the financial position of a business
or organization—divided into three parts—assets, liabilities and ownership
(equity); and
● also known as statement of financial position.
Bank Indebtedness
● balance of a bank account when funds withdrawn exceed funds deposited.
Bank Reconciliation
● analysis that accounts for the difference between the balance shown on the
bank statement and the balance shown in the accounting records on a given
date.
A/B
ABCs OF ACCOUNTING: ACCOUNTING DEFINITIONS ❘ 7
Bankrupt
● legal status of a person or corporation who/that is unable to pay his/her/its
debts as they become due and who/that has made a transfer of property or of a
right or interest in property to a trustee for the benefit of creditors.
Bankruptcy
● the state of being bankrupt.
Benchmarks
● high standards established by other similar companies in an industry; and
● are used as a comparison base by individual companies to identify activities with
the greatest room for improvement.
Bill of Lading
● written document issued by the carrier of goods
● both a receipt for goods and a contract to deliver goods; and
● title to the goods may be passed by transfer of the bill of lading.
Bond
● certificate of indebtedness issued by a government or corporation
● written obligation, sometimes supported by collateral, given by one to another to
pay damages or indemnify against losses caused by a third party (e.g., an
insurance company agrees to indemnify a company for actions of the
company’s employees); and
● the status of goods stored in a warehouse on which duties are unpaid.
Book of Original Entry
● a journal in which transactions are recorded for the first time before
summarizing and/or posting to ledger accounts (e.g., purchase journal, cash
receipts journal, accounts payable journal, disbursements journal, general
journal and payroll journal); and
● additionally, see General Journal and Journal.
Bookkeeping
● the recording of financial transactions, electronically or manually; and
● all work in support of the accounting process, including verification of accuracy.
Branch Accounting
● complete set of records kept separately by a branch operation for which a
controlling account is maintained in the records of the main operation.
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Budget
● monetary plan—that may be simple or very detailed—with a forecast of cash
flows, revenue, expenses and profit or loss over a future period, usually one year
or one operating cycle; and
● a plan of action expressed in financial terms.
By-laws
● the internal rules formally approved by the owners or members of an
organization to regulate the method of operation.
Canada Revenue Agency (CRA)
● the federal body responsible for interpreting and applying tax laws and
regulations and collecting the tax from individuals, corporations and trusts in
Canada; and
● previously known as Canada Customs and Revenue Agency and (before that)
Revenue Canada.
Capital (or Equity)
● the interest of business owner(s) in the assets of a business, generally
represented by the excess of total assets over total liabilities due to outside
interests.
Capital Asset
● assets of either a tangible or intangible nature, owned or held by a business,
which are expected to be used or held over several fiscal periods; and
● additionally, see Fixed Asset.
Capital Cost Allowance (CCA)
● systematic write off of capital assets as provided by rules under income tax
legislation; and
● CCA replaces amortization and depreciation in tax calculations.
Capital Gain
● profit or gain realized from the sale or disposal of a capital asset; and
● under income tax legislation, the term has a special meaning.
Capital Loss
● loss realized from the sale or disposal of a capital asset; and
● under income tax legislation, the term has a special meaning.
Capital Stock
● see Stock.
B/C
ABCs OF ACCOUNTING: ACCOUNTING DEFINITIONS ❘ 9
Certified General Accountant
● a professional accountant who is a member of the Certified General Accountants
Association of Canada
● this nationally recognized designation is given to those who successfully
complete its program of professional studies and other academic and experience
requirements; and
● the designation acquired is CGA.
Certified Management Accountant
● a professional accountant who is a member of the Society of Management
Accountants of Canada; and
● the designation acquired is CMA.
Chartered Accountant
● a professional accountant who is a member of the Canadian Institute of
Chartered Accountants; and
● the designation acquired is CA.
Chartered Certified Accountant
● a professional accountant who is a member of the Association of Chartered
Certified Accountants, the world’s largest and fastest-growing global
professional accounting body; and
● the designation acquired is ACCA.
Commitment/Encumbrance Accounting
● often used by not-for-profit organizations, an accounting concept where
expenses are recorded when goods or services are ordered, rather than when the
organization receives the good/service; and
● the end result generally reduces the possibility of overspending the budget.
Compliance Audit
● an audit performed with the purpose of determining whether the party being
audited is following specific procedures or rules set down by a higher authority; and
● an example would be reviewing wage rate paid by an employer to see if it is in
accordance with minimum wage laws.
Compilation Engagement
● the compiling of unaudited financial information into financial statements,
schedules or reports, based on information provided by the accountant’s client;
and
● basically, client information is arranged in the form of a financial statement,
without performing an audit or a review.
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Compilation Report
● the ‘Notice to Reader’ that appears on each page or prefaces the financial
statements, schedules or reports, warning readers of the very limited
involvement of the accountant in a compilation engagement.
Compound Interest
● the interest calculated on both the principal amount invested and the previously
accumulated unpaid interest.
Comprehensive Income
● the change in net assets that results from all transactions other than those of
the shareholders.
Consignee
● a person who receives goods that belong to someone else, for future sale or
another purpose; and
● although consignees are not the owners of the goods, they are accountable for
them.
Consignment
● goods that are in the hands of someone other than the owner for future sale or
another purpose.
Consignor
● the owner of goods that are in someone else’s hands for future sale or another
purpose.
Consolidated Financial Statements
● financial statements that show the results of all operations under the parent
company’s control, including those of any subsidiaries.
Control
● is assumed to exist where the acquiring corporation has acquired more than
50 per cent of the voting shares of another (acquired) corporation.
Controlling Interest
● direct or indirect ownership of voting shares sufficient to elect the majority of
the board of directors of a corporation.
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ABCs OF ACCOUNTING: ACCOUNTING DEFINITIONS ❘ 11
Corporation
● legal entity formed under the authority of either provincial or federal statutes
● usually formed to make a profit
● liabilities of shareholders (owners) are generally limited to the amount of their
investment; and
● the name of a corporation ends with Limited, Ltd., Incorporated, Inc., Corporation
or Corp.
CRA Auditor
● an individual hired by the Canada Revenue Agency who is responsible for
performing compliance audits on individuals, corporations and trusts; and
● this individual audits taxpayers on behalf of the federal government.
Credit
● entry recording an increase to a liability or owner’s equity or revenue or a
reduction to an asset or expense
● credits are recorded in the right hand column of an account or a two-column
book; and
● the opposite of debit.
Credit Note
● issued by a seller to a purchaser to record the reduction of a bill because of an
allowance, return or cancellation; and
● the opposite of an invoice.
Current Asset
● unrestricted cash, or other asset, which is expected to be converted into cash or
consumed in the production of income within the greater of one year and the
normal operating cycle.
Current Liability
● liability expected to be liquidated in the greater of one year and the normal
operating cycle, excluding any liability otherwise classified as current, which will
be settled from other than current assets.
Customer Relationship Management (CRM)
● covers methods and technologies that analyze the accounting sales data, which
allows the business to better track and manage (or anticipate) the needs of
customers or clients
● CRM works to ensure ongoing loyalty by generating or anticipating marketing
preferences based on customer information; and
● improving the company’s ability to meet or exceed customer expectations.
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Debenture
● an unsecured bond.
Debit
● entry recording an increase to an asset or expense or a reduction to a liability,
revenue or owner’s equity
● debits are recorded in the left hand column of an account or a two-column book;
and
● the opposite of credit.
Deficit
● a negative amount (debit balance) of retained earnings caused by cumulative
losses and dividend distributions exceeding cumulative net income.
Demand Loan
● loan repayable upon demand of creditor.
Depletion
● gradual using up or consumption of a natural resource; and
● charge to an accounting period that reflects the cost of the portion of wasting
assets consumed or used (e.g., timber resources).
Depreciation
● see Amortization.
Direct Cost
● any cost that can be easily and efficiently traced directly to the product (e.g.,
wheels in the production of wagons or labour in the production of custom
cabinetry).
Discount
● an amount paid below the face value (e.g., purchase of $100 bond at a cost
of $96).
Dividend
● portion of the earnings of the company distributed to shareholders by
declaration of the board of directors.
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ABCs OF ACCOUNTING: ACCOUNTING DEFINITIONS ❘ 13
E-commerce
● the ability for consumers, businesses and others to order products and services
electronically (e.g., via the Internet).
Economic Value
● the value of an asset deriving from its ability to generate income.
Economic Value Added (EVA)
● the monetary value of an entity at the end of any time period, minus the
monetary value of that same entity at the beginning of that time period.
Electronic Approval/Signature
● in electronic purchase-order or payment systems, the process where an order is
approved by a code or password, rather than a conventional signature.
Electronic Data Interchange (EDI)
● the ability for businesses to place, process, receive and pay for orders of
merchandise through computers, thus reducing the cost and need for paper
invoices and data entry time; and
● this system is often found with Just-In-Time (JIT) inventory systems.
Electronic Funds Transfer (EFT)
● in banking, a term that represents the transfer of funds from one entity’s bank
account to another’s, without a traditional paper-based cheque.
Engagement
● the work performed for a specific client is referred to as an engagement; normally
this refers to an audit engagement or, in the case of a non-audit engagement, to
one of either a review engagement or a compilation engagement.
Engagement Letter
● written communication between an accountant and a client with respect to a
professional engagement, which outlines the scope of the accountant’s
responsibilities and arrangement agreed upon.
Enterprise Resource Planning systems (ERP)
● software stemming from an organization’s computerized accounting system that
allows for increased automation and processing of orders, their fulfilment and
payment.
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14 ❘
Environmental Audit
● examination to evaluate environmental protection policies and procedures
including, in pertinent circumstances, an assessment of the viability of past and
present methods for disposal of soil, water and air contaminants and/or search
for their presence.
Equity
● see Capital.
Ethics
● evaluation of conflicting alternatives, in order to achieve the greatest good or
cause the least harm.
Expenditure
● consumption of an asset or payment for an expense; and
● incurring a liability.
External Auditor
● an independent accountant engaged to determine if the financial statements of
an entity present fairly (without any material misstatements) the economic
events that occurred during the period audited (referred to as the attest
function); and
● the external audit is for the shareholders/owners (rather than for management).
Fair Market Value
● the highest price available in an open and unrestricted market between
informed, prudent parties, acting at arm’s length and under no compulsion to
transact, expressed in terms of money or money’s worth.
Financial instruments
● anything of monetary value, including currency, stock, bonds and promissory
notes.
Financial Statements
● formal financial reports prepared from accounting records (e.g., balance sheet,
statement of retained earnings, statement of income, cash flow statement).
Fiscal Year
● a period of one year for which financial statements are prepared that may or
may not coincide with the calendar year.
E/F
ABCs OF ACCOUNTING: ACCOUNTING DEFINITIONS ❘ 15
Fixed Assets
● see Capital Assets.
Fixed Cost
● costs that do not change in total in relation to the activity
● an example is rent that is fixed in relation to the production of goods; and
● additionally, see Variable Cost.
Free on Board (FOB)
● shipping term meaning “free on board” (FOB); and
● to inform the purchasers of the location at which they become responsible for
the shipping charges (e.g., FOB Toronto means the vendor pays the charges to
Toronto’s freight yard and the purchaser is responsible from then on).
Forecast
● an estimate of the most likely business operating results based on existing
information for one or more future periods
● to estimate business results in advance
● to plan the business course for the future; and the document that lays out the
plans.
Forensic Accounting
● uses accounting, auditing and investigative skills to conduct an examination
into a company’s financial statements, thus providing an accounting analysis
that is suitable for court.
Forensic Audit
● the activity that consists of gathering, verifying, processing, analyzing and
reporting on data in order to obtain facts and/or evidence; and
● in the area of financial or legal disputes and/or irregularities (including fraud),
this includes providing preventative advice.
Forensic Auditing
● the application of auditing skills to situations that have legal consequences.
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GAAP
● abbreviation for generally accepted accounting principles (GAAP); and
● accounting principles that have been given formal recognition or authoritative
support.
GAAS
● abbreviation for generally accepted auditing standards (GAAS); and
● auditing standards that have been given formal recognition or authoritative
support.
General Journal
● the journal in which transactions are recorded for which specific journals are not
provided (e.g., adjustments and corrections); and
● in a small operation the general journal may be the only book of original entry.
General Ledger
● ledger in which all the assets, liabilities, equity, revenue and expenses are
posted and from which financial statements are prepared.
Goodwill
● the difference between going-concern value and tangible asset value (tangible
assets include identifiable intangible assets having values that can be
determined separately).
Government Auditor
● an individual hired to audit the federal or provincial governments on behalf of
the taxpayers
● an example is an Auditor General; and
● additionally, see CRA Auditor.
Human Resources
● employees of an organization, the management of which includes hiring,
retention, training, employment responsibility and dismissal.
G/H
ABCs OF ACCOUNTING: ACCOUNTING DEFINITIONS ❘ 17
Imprest Fund
● a bank account solely dedicated to one specific type of disbursement, the
purpose of which is to provide a higher level of control over the disbursement of
the fund; and
● some examples include payroll disbursements, dividend disbursements, etc.
Income
● money or its equivalent, earned periodically by an individual, a corporation, etc.,
in return for goods or services provided; and
● the opposite of loss.
Income Statement
● a financial statement summarizing revenues, expenses, gains and losses for a
stated period of time; and
● also known as statement of earnings, statement of income or statement of
operations.
Income Tax
● tax levied on the income of a person or a business.
Incorporated (Inc.)
● see Corporation.
Information Systems Audit
● a detailed review of an organization’s internal controls and computerized
systems, with the intent to ensure that accounting and other data are accurate,
complete, protected and accessible to the proper personnel only.
Insolvency
● when liabilities exceed assets
● the inability to pay debts when due; and
● additionally, see Bankruptcy.
Instalment
● part of a sum of money or a debt to be paid at regular intervals, usually made up
of principal and interest combined.
Institute of Internal Auditors
● an international professional association recognized as the internal audit function’s
premier body in certification, education, research and technological guidance
● its designation is the only globally accepted certification for internal auditors; and
● the designation acquired is CIA.
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Intangible Asset
● an asset without physical substance that has value due to rights resulting from
its ownership and possession (e.g., goodwill, patents, trademarks).
Internal Audit
● an independent and objective assurance and consulting activity, designed to
add value and improve an organization’s operations
● it helps an organization accomplish its objectives by bringing a systematic,
disciplined approach to evaluation; and
● it approves the effectiveness of risk management, controls and governance
processes.
Internal Auditor
● an employee of an entity (for example, a corporation) who audits for
management, providing valuable information for decision-making concerning
the effective operation of his or her business.
Internal Checks
● a system of procedures and techniques designed to minimize errors, fraud or
waste, whereby the work of an employee or group is verified by having to be in
agreement with the work of others.
Internal Control
● a co-ordinated system of procedures and techniques designed to safeguard a
company’s assets, to ensure the accuracy of its accounting records and to
promote efficiency and adherence to prescribed policies.
International Financial Reporting Standards (IFRS)
● accounting standards set by the International Accounting Standards Board
(IASB).
Inventory
● items of tangible property held for sale
● detailed list of items and their values owned at a specific point in time
● stock inventory could include raw materials for manufacture, materials partly
processed, as well as finished products including items in transit for which title
is held
● stock inventory would not include items physically held for which title belongs to
others
● inventories may also be made of capital assets, stationery and supplies, etc; and
● additionally, see Work in Progress.
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ABCs OF ACCOUNTING: ACCOUNTING DEFINITIONS ❘ 19
Investment
● funds committed to acquire something tangible or intangible, in order to receive
a return, either in revenue or use.
Invoice
● document for goods purchased or services rendered, showing details such as
quantities, prices, dates, shipping details, order numbers, terms of sale, etc.
Joint Products
● two or more products that are manufactured simultaneously from the same raw
materials; and
● an example is gasoline and heating oil, which are joint products of crude oil.
Journal
● a book of original entry in which financial transactions are recorded (e.g., a
purchase journal is a record of purchase transactions).
Journal Entry
● an entry in any journal.
Just-in-Time (JIT)
● scheduling production to meet immediate sales or demand, with the intention of
reducing inventories (and related costs) to a minimum level; and
● sometimes referred to as “pull production.”
Lease
● a legal contract conveying the use of property from the owner (lessor) to another
(lessee) at a rent, for a stated length of time.
Leasehold Improvements
● additions, improvements or alterations made to leased property by the lessee.
Ledger
● a book of final entry containing all the accounts of a business or all the accounts
of a particular type (e.g., general ledger, accounts receivable ledger).
Liability
● an amount owed, not necessarily due to be paid immediately; and
● an obligation to remit assets or services at a future date.
Limited (Ltd.)
● see Corporation.
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20 ❘
Limited Partnership
● a partnership with two classes of partners: limited partners and one or more
general partners; and
● limited partners have no personal liability for debts of the limited partnership
beyond the amounts invested by them.
Liquid Asset
● an asset, such as cash, that can be readily converted into other types of assets
or used to buy goods and services or to satisfy obligations.
Liquidation
● payment of a debt; and
● the winding-up of an organization by settling with debtors, creditors and
shareholders.
Liquidation Value
● the net amount realized on assets in the event of a liquidation.
Loss
● the excess of expenditures over revenues; and
● the opposite of income/profit.
Management Accounting
● accounting concerned with providing information to managers; that is, to those
who are inside an organization and who direct and control operations; and
● management accounting includes cost accumulation for product and job
costing, budgeting and financial statement analysis.
Market Value
● the highest price that an owner could realize in an open market transaction.
Materiality
● a term used to describe the significance of financial statement information to
decision-makers; and
● an item of information is material if it is probable that its omission or
misstatement would influence or change a decision.
Minority Interest
● the equity of all shareholders who do not hold a controlling interest in a
company.
L/M
ABCs OF ACCOUNTING: ACCOUNTING DEFINITIONS ❘ 21
Net Book Value
● the cost of an asset, less accumulated amortization.
Net Income
● the excess of total revenue over total expenses for a period of time; and
● additionally, see Profit.
Net Worth
● total assets less total liabilities; and
● additionally, see Capital (or Equity).
Note Payable (Promissory Note)
● written promise made by one individual to another, to pay a specific amount on
demand by a definite date.
Note Receivable
● written promise by another party to make payment to you at a specified date.
Notice to Reader
● see Compilation Report.
Operational Audit
● an audit whose purpose is to assess the effectiveness and efficiency of a
process or performance, the purpose of which is to serve as a basis for
improvements in effectiveness and efficiency
● an example would be assessing the layout of a factory, to determine if it
facilitates the movement of new materials to production; and
● also referred to as an internal audit.
Operating Cycle
● normal business cycle; and
● assumes one year in length, although some industries (e.g., ship building and
various areas of construction) have a longer cycle.
Overhead
● all costs associated with production of goods or services other than direct costs,
for example, the cost of heating a factory or the cost of support staff in an
accounting firm.
N/O
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Parent Company
● a corporation that, directly or indirectly, owns a controlling interest in another
corporation; and
● additionally, see Subsidiary.
Partnership
● two or more persons carrying on a business for profit, whereby each partner has
unlimited liability for the debts of the partnership, except in a limited partnership
in which some of the partners may have limited liability.
Payable
● an obligation to pay a sum at a future date.
Payroll
● a record of wages or salaries paid or payable; and
● the actual wages and salaries paid during a given period.
Pension
● series of regular payments or a lump sum of money paid to retired employees or
their beneficiaries.
Point-of-Sales (POS) Systems
● in a computerized accounting system, this represents the ability to process
sales transactions by scanning a barcode or radio frequency identification
(RFID) tag on the product, rather than key-punching information into a cash
register.
Posting
● a process whereby transactions are transferred from a journal to a general
ledger or subsidiary ledger.
Premium
● an amount paid over and above the face value or normal price (e.g., purchase of
$100 bond at a cost of $110); and
● an amount paid for insurance.
Prepaid
● an asset created by payment for economic benefits that do not expire until a
later time; as the benefit expires the asset becomes an expense (e.g., prepaid
rent, prepaid insurance); and
● shipping costs paid by the shipper rather than the receiver.
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ABCs OF ACCOUNTING: ACCOUNTING DEFINITIONS ❘ 23
Principal
● the capital portion of a loan as opposed to interest.
Profit
● the excess of total revenue over total expenses for a period of time; and
● additionally, see Net Income.
Projection
● a forecast of expected business results that considers one or more possible
changes to the environment, policies or processes, which will affect future
outcomes; and
● projections often consist of a series of “what-if” or “best case/worst case”
scenarios.
Property, Plant and Equipment
● capital assets that are tangible in nature, including land, buildings, equipment,
furniture, automobiles, etc.
Radio Frequency Identification (RFID)
● used primarily in inventory systems, an electronic tag that allows the
identification of a goods item to a point-of-sale system; and
● RFID is gradually replacing the traditional barcode system.
Ratio
● relative size, expressed as the number of times one quantity is contained in
another (e.g., the ratio of assets to liabilities of a company having total assets of
$200,000 and total liabilities of $150,000 would be $200,000 ÷ $150,000 =
1.33).
Receivable
● an amount to be received at a future date.
Retained Earnings
● cumulative net incomes of a corporation, less losses and dividend distributions
to shareholders (profits not distributed).
Return on Investment
● a performance measure used to evaluate the efficiency of an investment or to
compare the efficiency of a number of different investments.
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24 ❘
Revenue
● gross proceeds from the sale of goods or services
● interest and dividends earned on investments; and
● a source of income.
Review Engagement
● the unaudited review of financial statements of a business or organization by an
independent accountant for the purpose of determining the plausibility of the
information reported on; and
● a review involves making enquiries concerning financial, operating and
contractual information, applying analytical procedures and having discussions
with appropriate officials of the enterprise.
Review Engagement Report
● the accountant’s report that prefaces unaudited financial statements that have
been reviewed. It provides negative assurance that the financial information
conforms in all material respects to generally accepted accounting principles.
Security
● collateral for a debt (e.g., accounts receivable may be pledged as security for a
loan); and
● a generic term used to refer to a bond, share certificate or other medium- or
long-term investments evidencing debt or ownership.
Semi-Variable or Mixed Costs
● costs that contain both fixed and variable elements (or costs that behave as
though they do).
Share
● one of equal parts of a class of capital stock in a company
● legal ownership certificate for above; and
● additionally, see Stock.
Shareholder
● person who is the owner of a stock certificate or share in a corporation.
Significant Influence
● where the acquiring corporation does not have control but is able to influence
business decisions of the acquired corporation
● assumed to exist where the acquiring corporation has 20 per cent of the voting
shares; and
● additionally, see Control
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ABCs OF ACCOUNTING: ACCOUNTING DEFINITIONS ❘ 25
Sole Proprietorship
● an unincorporated business wholly owned by one individual.
Source Documents
● documents that are the source of information recorded with accounting entries
● can be either be on paper or in an electronic form; and
● an example would be an invoice, cheque, bank statement, contract or other
documentation, either paper or electronic.
Standard Cost
● predetermination of costs of production (i.e., direct costs and overhead) under
normal, efficient operating conditions
● costs assigned to work in progress and finished goods in a standard costing
system; and
● used to compare to actual results, in order to monitor costs and performance
(see Variance).
Statement
● summary of an account for a period of time (usually one month) showing
invoices, credits and balance due, provided to a customer by a supplier.
Statement of Cash Flows
● a financial statement showing the effect of operating, financing and investing
activities, for a stated period of time, on the cash position of an entity; and
● also known as the cash flow statement, statement of operating, financing and
investing activities or statement of changes in cash resources.
Statement of Earnings
● see Income Statement.
Statement of Financial Position
● see Balance Sheet.
Statement of Retained Earnings
● a financial statement summarizing the changes in retained earnings for a stated
period; and
● also known as the statement of changes in capital accounts or statement of
changes in retained earnings and reserves.
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26 ❘
Stock
● capital of a corporation that is divided into portions or shares. There may be
several classes of shares in a corporation, each class divided into equal portions
or shares
● additionally, see Share; and
● materials and finished products on hand (stock inventory).
Stock Dividend
● a dividend paid by the issuance of shares of capital stock.
Stock Option
● the right to buy shares of capital stock at a stated price on or by a given date; a
privilege often extended to executives or employees of a company.
Subsidiary
● a corporation controlled by another corporation that owns directly, or indirectly,
an interest sufficient to elect a majority of the board of directors of the
subsidiary corporation; and
● additionally, see Parent Company.
Supply Chain
● a network of facilities and distribution from procurement of raw materials and
supplies to shipment of goods to customers; and
● also referred to as logistics.
Tax Avoidance
● legal minimization of the impact of taxation.
Tax Evasion
● illegal attempt to escape the impact of taxes.
Title
● legal right to ownership of property.
Total Quality Management (TQM)
● total quality management is a management strategy aimed at ensuring that an
awareness of quality is found in all of the processes of an organization.
Trial Balance
● listing and totalling all balances in a ledger to verify that total debits equal total
credits; and
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ABCs OF ACCOUNTING: ACCOUNTING DEFINITIONS ❘ 27
● listing and totalling all balances in a subsidiary ledger to verify that the total is
in agreement with the controlling general ledger account.
Trust Fund
● money, property or valuables legally held by a person or company for the benefit
of another.
Trustee
● a person or company legally responsible for the property of another.
Valuation Day
● date established by law as the basis of one method of valuation for the
calculation of capital gains or losses for income tax purposes; and
● valuation day is December 23, 1971, for publicly traded securities; and
December 31, 1971, for all other capital property.
Variable Costs
● costs that change in total in relation to the activity
● an example is the total cost of wheels increases as the production of wagons
increases; and
● see Fixed Costs.
Variance
● the difference between standard cost and actual cost; and
● the difference between an actual revenue or expense item and the budget for
that item (budget variance).
Work in Progress (or Process)
● an inventory account in a production or service industry that includes either
actual or standard costs associated with work not yet completed.
Working Papers
● analyses, confirmations, schedules, transcripts, notes and other memoranda
prepared and accumulated by accountants and/or auditors in the performance
of a professional engagement that supports the conclusions reached and any
report issued.
Write-Off
● to transfer an item that was an asset to an expense account (e.g., to transfer an
uncollectible account receivable to bad debts expense); and
● the item or amount reduced or cancelled.
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