Notesale: Turn your study into money

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Samantha Chamberlain

sc570

Compare the relative advantages and limitations of financial statements
prepared on a cash basis with those prepared on an accrual basis

This essay will describe the characteristics of both simple cash accounting and
accrual accounting and discuss their usefulness in the preparation of financial
statements
...

One of the main characteristics of simple cash accounting is that transactions are
not recorded until money has physically been sent to a supplier or received by a
customer
...
As transactions are only recorded once, cash
accounting cannot be used to record credit transactions
...

Accrual accounting is a more complicated method, however a more accurate
balance sheet and profit and loss account can be constructed from it; this is
because transactions are recorded separately for when a purchase or sale is
made, and when the money is actually sent or received
...
Money owed to suppliers is entered into a
creditors account and money owed by customers is entered into a debtors
account
...

Simple cash accounting is the method that is often used by very small
businesses or sole traders who rarely make credit transactions or do not make
them at all
...
Cash accounting is a very straightforward method, therefore it can be
carried out by an employee who is not a qualified accountant
...
In addition to this, it takes
little time to record transactions, consequently leaving more time for other
important profit-making activities such as production
...
When credit transactions are made frequently, using cash
accounting would show the financial position of the business very inaccurately as
these cannot be recorded at all
...
Overall, cash accounting can cause problems
as the financial statements prepared from it may show inaccurate information if
there are credit transactions that have been made, for example
...
The
business is also seen to have assets that are worth more than they should be
due to depreciation not being accounted for
...
The
double-entry characteristic allows errors to be found easily so that they can be
corrected before any financial statements are prepared, therefore preventing
uninformed decisions
...

Recording depreciation in this way is prudent because the business is not
expecting a higher than realistic sale value of its assets, neither is it guessing the
value of its assets at any point in time without suitable calculations
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If a utility bill has been paid in
advance, for example, when the financial statements are prepared at the end of
the year, the overpayment for the next year is not shown
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Overall, financial statements prepared on an accrual basis give
a better representation of the business’ financial position, as more factors are
considered when calculating profit, such as the real value of assets and what
month payments should be allocated to
...
According to Alan Li
(smallbusiness
...
com), the “single most important issue in accrual based
accounting” is that when invoices are prepared, the date on them does not
necessarily match that of the actual sale, therefore accountants are sometimes
forced to estimate when the sale was made
...
In addition to this, the profit an loss account shows
profits assuming that all debtors will pay sometime in the near future, which may
not necessarily be the case
...
Even in very small businesses, relying
on memory is likely to cause mistakes when preparing financial statements at the
end of the year
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Samantha Chamberlain

sc570

Bibliography
Edey, Harold C
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Li, Alan, http://smallbusiness
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com/advantages-disadvantages-accrualbasis-accounting-20927
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investopedia
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asp#axzz2BAOWGpVj Viewed 03/11/12
Thomas, Andrew & Ward, Anne Marie (2012) Introduction to Financial
Accounting, Seventh Edition, Maidenhead, McGraw-Hill Education





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