Essays on Cash Basis and Accrual Basis as Methods of Financial Reporting Assignment

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The paper 'Cash Basis and Accrual Basis as Methods of Financial Reporting" is a good example of a finance and accounting assignment.   The owner of business reviews the income statement prepared by you and asks, “ Why do you report a profit of only $30 000 when cash collections of $100 000 were received and cash payments for the period totalled only $50 000 for expenses? ” How would you respond to the owner’ s question? There are two methods of financial reporting, Cash basis and Accrual basis. In the cash basis, revenues and expenses are reported as and when cash is received and paid out respectively.

In accrual basis, the income statement reflects incomes as they are earned and expenses as they are incurred (Helfert). In preparing these income statements, I have used the accrual basis as it provides a more accurate depiction of the firm’ s financial position at a particular point in time. This basis is best as it applies the matching principle which ensures all expenses incurred and incomes earned during a period are recorded. Exercise 4.15   Adjusting entries and effect on financial statements (page 162)   ((       WESTON CAR RENTAL Required: Prepare the necessary adjusting entries in general journal form.

(8 marks) Determine the effects of the adjustments on the financial statements by completing the schedule presented. (4 marks) 1. Did profit increase or decrease? By how much? (1 mark) 2. What was the effect of the adjusting entries on total assets? Total liabilities? Total equity? (3 marks) A. Date Details Debit Credit 31 December   Wages 3,100   31 December   Wages payable   3,100 31 December   Vehicle Depreciation 8,000   31 December   Motor Vehicle   8,000 31 December   Rent 840   31 December   Rent Receivable   840 31 December   Cash 550   31 December   Prepaid Rent   550           B. WESTON CAR RENTAL Financial Statements   Unadjusted balances Adjustments (use a + or – to show if the account is increasing or decreasing) Adjusted balances Income statement       Rental revenue $142 000 +840 $142 840                 Expenses:       Depreciation expense - +8,000 8,000 Insurance expense 26 000   26 000 Wages expense 78 000 +3 100 81 100 General expenses 12 000   12 000 Profit $26 000   $15 740                 Statement of changes in equity       Beginning capital $50 000   $50 000 Add: Profit 26 000 -10 260 15 740 Less: Drawings (40 000)   (40 000) Ending capital $36 000   $25 740                 Balance sheet       Cash at bank $26 000 +550 26 550 Revenue (accrued) receivable - +840 840 Other receivables 6 000   6 000 Vehicles 68 000   68 000 Less: Accum.

depreciation (32 000) +8 000 (40 000)   $68 000   $61 390         Wages payable - +3 100 3 100 Unearned rental revenue 4 000 +550 4 550 Loan payable 28 000   28 000 Naomi Weston, Capital 36 000 -10 260 25 740   $68 000   $61 390                 C. The profit decreased from $26 000 to $16 740 which is a decrease of: 26 000 – 16 740 = $10 260 Total assets decreased from $68 000 to $61 390 which is a decrease of: 68 000 - 61 390 = $6 610 Total liabilities decreased from $68 000 to $61 390 which is a decrease of: 68 000 - 61 390 = $6 610 Total equity decreased from $36 000 to $25 740 which is a decrease of: 36 000 to 25 740 = $10 260 Decision Case   Home sewing business (page 174)               LANA PRIEST Required: A.

Prepare an income statement for the year ended 30 June 2014 using accrual accounting. B. Prepare an income statement for the year ended 30 June 2014 using cash accounting. (A & B combined = 10 marks) C.

Lana was not sure whether she could use cash accounting rather than accrual accounting for her business records. From the information provided, decide whether Lana should use accrual or cash accounting, and explain to her the reasons for your decision. (4 marks) A & B LANA PRIEST Income Statement for the year ending 30 June 2014   Accrual Basis Cash Basis     $   $ Sewing Revenue   38 400   38 400 Less Expenses           $   $   Sewing supplies expense Insurance Repairs to machines Sundry expenses Repairs to machines 4840 2300 2650 540 270 (10 600) 4610 2650 (7260) Profit   27 800   31 140           C. Lana Priest has just started a small sewing business. In order to decide which of the two methods to use, one must first understand their difference. In cash basis accounting, transactions are recorded in the books when the actual cash changes hands (McQuaig, Bille and Nobles).

This means that expenses are recorded when cash is paid out and revenues recorded when cash or cheque is received (McQuaig, Bille and Nobles). In accrual accounting, transactions are recorded as they occur regardless of whether cash changes hands. Transactions on credit are recorded in either account receivable account or account payable account until payment is received or paid out respectively (Palmer, Palmer and Coombs). Since this is a small start-up, Lana Priest should use the cash basis accounting for her bookkeeping.

Cash basis accounting is easy to maintain and enables the business proprietor to more easily and accurately track incomes and expenditure. This, in turn, allows accurate tracking of cash flows.

Works Cited

Helfert, Erich A. "The Nature of Financial Statements: The Income Statement." Financial Analysis - Tools and Techniques - A Guide for Managers (2001): 40.

McQuaig, Douglas J., et al. College Accounting. Cengage Learning, 2010.

Palmer, William J., et al. Construction Accounting & Financial Management. McGraw-Hill Professional, 1999.

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