Ch3_pearson | Course Paper

Financial Accounting

Eleventh Edition

Global Edition

Chapter 3

Accrual

Accounting

Learning Objectives

3.1 Explain how accrual accounting differs from cash-basis

accounting

3.2 Apply the revenue and expense recognition principles

3.3 Adjust the accounts

3.4 Prepare updated financial statements 

3.5 Close the books

Learning Objective 3.1

Explain how accrual accounting differs from cash-basis

accounting

Explain How Accrual Accounting Differs

From Cash-Basis Accounting (1 of 4)

Accrual Accounting

•Records impact of transactions when they occur

•Records:

–Income when earned

–Expenses when incurred

Explain How Accrual Accounting Differs

From Cash-Basis Accounting (2 of 4)

Cash-Basis Accounting

•Records only cash transactions

–Cash receipts

–Cash payments

•Fails to capture the underlying economic phenomenon

•Results in incomplete financial statements

•Only used by businesses that do not follow accounting

standards

Explain How Accrual Accounting Differs

From Cash-Basis Accounting (3 of 4)

•Accrual accounting records cash transactions, such as:

–Collecting cash from customers

–Receiving cash from interest earned

–Paying salaries, rent, and other expenses

–Borrowing money

–Paying off loans

–Issuing shares

Explain How Accrual Accounting Differs

From Cash-Basis Accounting (4 of 4)

•The Time-Period Concept

–Accounting information is reported at regular intervals

–Basic accounting period is one year

–Companies also prepare financial statements for interim

periods

Learning Objective 3.2

Apply the revenue and expense recognition principles

Apply the Revenue and Expense

Recognition Principles (1 of 4)

The Revenue Principle

•Deals with two issues:

–When to record (recognize) revenue

–What amount of revenue to record

Revenue is recognized when:

–risks and rewards of ownership of the goods has transferred to

the buyer

–the entity retains neither continuing managerial involvement

usually associated with ownership nor effective control over

goods sold

Apply the Revenue and Expense

Recognition Principles (2 of 4)

The Revenue Principle

Revenue is recognized when:

–the amount of revenue can be measured reliably

–it is probable that the economic benefits associated with the

transaction will flow to the entity

–the costs incurred or to be incurred in respect of the transaction

can be measured reliably

Apply the Revenue and Expense

Recognition Principles (3 of 4)

The Expense Recognition Principle

•Includes two steps:

–Identify all expenses incurred during the period

–Measure the expenses and recognize them in the

same period in which any related revenues are earned

•To recognize an expense along with related revenues

means to subtract expenses from related revenues to

compute net income or net loss.

Apply the Revenue and Expense

Recognition Principles (4 of 4)

The Matching Concept explains the relationship between

expenses and revenues

Includes two steps: