Performance envelope is one of a number of related terms that are all use in a similar fashion. It is perhaps the most common term because it is the oldest, first being used in the early days of test flying. It is closely related to more modern terms known as extra power and a doghouse plot.
The amount of power needed to fly a plane straight and level varies as the test conditions are changed. The two primary inputs to the amount of needed power are altitude and speed, both of which effect both lift and power. Increasing altitude results in less lift because there is less airflow over the wings, as well as less power because there is less air for the engines to burn. On the other hand less air also means less drag on the airframe, meaning less power is needed to generate that required airspeed. The power needed varies almost linearly with altitude, but the nature of drag means that it varies with the square of speed -- in other words it is typically easier to go higher than faster.
Choosing any particular set of parameters will generate the needed power for a particular aircraft for those conditions. For instance a Cessna 150 at 2,500ft altitude and 90mph speed needs about 60hp to fly straight and level. The C150 is normally equipped with a 100hp engine, so in this particular case the plane has 40hp of extra power. In overall terms this is very little extra power, 60% of the engine's output is already used up just keeping the plane in the air. The leftover 40hp is all that the aircraft has to manuver with, meaning it can climb, turn, or speed up only a small amount. To put this in perspective, the C150 could not maintain a 2g turn, which, by definition, would require 2x the power needed to fly straight and level.
For the same conditions a fighter aircraft might require considerably more power due to their wings being inefficient at low speeds, for argument's sake it might require 10,000hp. However modern jet engines can provide considerable power, the equivalent of 50,000hp typically. With this amount of extra power the aircraft can climb straight up, make powerful continual manuvers, or fly at very high speeds.
The differences in the amount of power have little overall effect on the nature of the performance envelope however. For instance, all aircraft have a minimum speed at which they can maintain level flight, the stall speed. As the aircraft gains altitude the stall speed increases, because the higher speed makes more of the now-thinner air flow over the wings. While the exact numbers will vary widely from aircraft to aircraft, the nature of this relationship is typically the same; plotted on a graph of speed (x-axis) vs. altitude (y-axis) is forms a line with an angle close to 45 degrees. Ineffeciencies in the wings make the line "tilt over" with increased altitude, until it becomes horizontal and no additional speed will result in increased altitude, this maximum altitude is known as the service ceiling, and is often quoted for aircraft performance.
Likewise the right side of the same graph represents the maximum speed of the aircraft. This is typically sloped in the opposite direction, and at some points meets the stall line. The resulting complete graph represents the aircraft's possible straight and level performance, and typically looks something like an upside-down U. This graph is a visual representation of the performance envelope of a design, and is commonly referred to as a doghouse plot due to its resemblance to a doghouse.
All of the area under the curve represents conditions that the plane can normally fly at, the curve itself represents the zero-extra-power condition. Flying outside the envelope is possible, since it represents the straight-and-level condition only. For instance diving the aircraft will allow you to increase the speed, using gravity as a source of additional power. Likewise higher altitude can be reached by first speeding up and the going ballistic, a manuever known as a zoom climb.
Although it is easy to compare aircraft on simple numbers such as maximum speed or service ceiling, an examination of the performance envelope will reveal far more information. Generally a design with a larger area under the curve will have better all-around performance. This is because when the plane is not flying at the edges of the envelope, its extra power will be greater, and that means more power for things like climbing or manuvering. General aviation aircraft have very small performance envelopes, with speeds ranging from perhaps 50 to 200mph, whereas the extra power available to modern fighter aircraft result in huge performance envelopes with many times the area.