Chp. 4 Income Measurement and Accrual Accounting

Representations

Assets, liabilities, revenues, and expenses depicted in financial statements

Exhibit 4-2 comparing cash and accrual bases of accounting

Revenue is recognized: cash basis (when received) and accrual basis (when earned). Expense is recognized: cash basis (when paid) and accrual basis (when incurred)

Current value

The amount of cash or it's equivalent that could be received by selling an asset currently.

Historical cost

The amount paid for an asset and used as a basis for recognizing it on the balance sheet and carrying it on later balance sheets. An amount that can be agreed on. The attribute used to measure many of the assets recognized on the balance sheet.

Matching principle

The association of revenue of a period with all of the costs necessary to generate that revenue

Expenses come about in 2 different ways

From the use of an asset From the recognition of a liability

How do we report the property on a balance sheet a year from now?

Historical cost and current value

Competing interest formula

I = P x R x T

Revenues

Inflows of assets or reductions of liabilities from providing goods or services to customers. Must be realized and earned to be recognized on the income statement. Asset is not always involved when revenue is recognized. Entities generate revenue in different ways.

Classic example of direct matching

Is cost of goods sold expense with sales revenue. A cost is incurred and an asset is recorded when the inventory is purchased.

Accounts receivable before cash is received

Is debited therefore on the left and credit service revenue

Accounts receivable after cash is collected

It is reduced and cash is increased so you credit and is on the right and debit cash

Adjusting entries

Journal entries made at the end of a period by a company using the accrual basis of accounting. Not needed if a cash basis is used. The very nature of the accrual basis results in the need for adjusting entries

Unit of measure (choice 2)

Necessary to have a unit of measure. Money. Stability of the dollar. Purchasing power of the unit of measure.

Expenses

Outflows of assets or incurrences of liabilities resulting from delivering goods, rendering services, or carrying out other activities

Ex 4-3 comparing three methods for matching costs with revenue

Various types of cost are incurred: 1 purchases of merchandise. 2 office space. 3 heating and lighting. Unexpired costs are called assets: (reported on balance sheet) 1 merchandise inventory. 2 office building. Expired costs are called expenses: (reported on income statement) 1 cost of goods sold expense. 2 depreciation expense. 3 utilities expense

Measurement of an item in financial statements requires two choices be made

1. The accountant must decide on the attribute to he measured. 2. A scale of measurement, or unit of measure, must be chosen.

Accrued Asset

An asset resulting from the recognition of a revenue before the receipt of cash

Deferral

Cash has been paid or received but expense or revenue has not yet been recognized

Deferred revenue

A liability resulting from the receipt of cash before the recognition of revenue

Accrued liability

A liability resulting from the recognition of an expense before the payment of cash

Cash basis

A system of accounting in which revenues are recognized when cash is received and expenses are recognized when cash is paid. When cash is RECEIVED.

Accrual basis

A system of accounting in which revenues are recognized when earned and expenses are recognized when incurred. When house is painted and revenue is EARNED

Measurement

Accountants depict a financial statement item in both words and numbers. Act must quantify the effects of economic events on the entity.

"Anytime a coat is incurred...

An asset is acquired"

Deferred Expense

An asset resulting form the payment of cash before the incurrence of expense

Accrual

Cash has not been paid yet or received but expense has been incurred or revenue earned

How does cash and accrual bases of accounting differ

Differ with respect to the timing of the recognition of revenues and expenses

Recognition and measurement in financial statements

Economic events are recognized with words (cash land), numbers (3 billion). Measures with attribute (historical cost), unit of measure (the dollar)

2 factors of revenue recognition principle

Revenues are recognized in the income statement when they are both realized and earned. Revenues are realized when goods or services are exchanged for cash or claims to cash usually at the time of sale

Revenue recognition principle

Revenues are recognized in the income statement when they are realized, or realizable, and earned

Accrual basis

Revenues are recognized when earned and expenses are recognized when incurred. Foundation for the measurement of income in our modern system of accounting. Best way to compare is with simpler cash approach

Recognition

The process of recording an item in the financial statements as an asset, a liability, a revenue, an expense, or the like.