How Accrual Accounting Enhances the Usefulness of Financial Statements

How Accrual Accounting Enhances the Usefulness of Financial Statements

Accrual accounting can be defined as an advanced form of cash accounting. Unlike cash accounting that simply tracks revenue earning and expenditure of a company, accrual accounting offers a wider view of the financial movements while recognizing revenue. According to Wild, Larson and Chiappetta (2007) Accrual accounting utilizes revenue adjustment method to balance out the accounts when earnings are made or expenses are incurred. On the other hand, cash accounting method recognizes revenue when cash flows into the company and captures expenditure when cash is paid out. Cash basis accounting provides skewed figures in the company accounts at any one time because the net company income is translated as the difference between the inflowing and expenditure. This explanation fails to comply with the regular accounting concepts (Wild, Larson and Chiappetta, 2007).

Accrual basis accounting can be used by any type of a company, whether small or large. Large companies normally trade on credit, a process that necessitates regular production of financial statements. This raises the compatibility of periodic financial statements. Unlike cash based accounting, accrual based accounting seems to overstates the company’s revenue at any time. This happens because accrual accounting recognizes revenue immediately a sale is made regardless whether cash is received or not (Wild, Larson and Chiappetta, 2007). Accrual accounting however does not entirely override the importance of cash accounting because companies periodically produce cash reports to gauge the cash flow in the company.

Generally accrual accounting is accepted due to the level of accountability attached to it and ease of managing finances. The main focus of the method is always on the revenue generation transactions but not expenditure incurred in the process.

References

Wild, J.J., Larson, K.D., & Chiappetta, B. (2007). Fundamental Accounting Principles (18th ed.). New York, NY: McGraw-Hill.