Accruals concept

A basic idea on which company accounts are based: that cause and effect should be linked by matching the costs which are incurred in running a business with the resultant revenue earned (although not necessarily received in cash) in the same accounting period. The alternative would be to have a system of cataloging the cash transactions of a business and calling the net result profit or loss. But in any one year this would be likely to distort the picture of the company's performance since many cash costs would be incurred, or income received, in respect of pieces of work that span more than one accounting year.

Asset

For something so fundamental to investment the surprise is that the definition of an asset is so vague. The US accounting standards body has defined it as being "probable future economic benefits obtained or controlled by a particular entity as a result of past transactions or events". However, within the context of a company's balance sheet, an asset is also a deferred cost. If a company shows plant and equipment of £1m in its balance sheet, that represents past expenditures which have yet to be written off and which, according to the accruals concept of accounting, will be depreciated as the plant is used up. The test of whether the plant is ultimately an asset or a liability will be whether it generates after-tax revenue greater than its cost. For a company to survive, most plant and equipment must pass that test. But for other items which are carried forward as assets, such as the deferred cost of a pension fund, there is no suggestion that they can bring economic benefits.

More generally, the broad categories of investments within a portfolio - shares, bonds, property - are known as assets. Hence the term asset allocation.