1. 19.1
CASH V ACCRUAL
ACCOUNTING

2. © Michael Allison, Trinity Grammar School.
Author’s permission required for external use
 Profit can be determined with either:
 Cash Accounting: measures profit by determining whether cash has been received or
paid. No cash changing hands means no Revenue or Expense.
 Accrual Accounting: measures profit by determining whether the business has earned
Revenue or incurred an Expense. Whether cash has changed hands is irrelevant.
 Accrual accounting is the preferred method for most businesses as it is a more
accurate measure of Net Profit. Why?
Profit in
Cash Accounting = Revenue Received -- Expenses Paid
Profit in
Accrual Accounting = Revenue Earned -- Expenses Incurred
19.1 CASH VS. ACCRUAL ACCOUNTING

3. © Michael Allison, Trinity Grammar School.
Author’s permission required for external use
 Many transactions overlap reporting periods, e.g. a firm’s reporting
period runs for 6 months from 1 January to 30 June. On 1 April the firm
pays $1,200 (plus GST) for insurance for the next 12 months
30 June
Profit calculated
for 6 months here
J F M A M J J A S O N D
1 April
Paid $1200 for 12
months insurance
Cash Accounting
Expense = Expenses Paid
Accrual Accounting
Expense = Expenses Incurred$1200 $300
1200100
14.1 CASH VS. ACCRUAL ACCOUNTING
100 100
Reporting Period
$1,200 / 12 = $100 per month

4. © Michael Allison, Trinity Grammar School.
Author’s permission required for external use
 E.g. During March a business had credit sales of $2,000 – the debtor
won’t pay for another 6 weeks. In addition, a debtor from February
repaid $600.
Cash Accounting
Revenue = Revenue Received
Accrual Accounting
Revenue = Revenue Earned$600 $2000
14.1 CASH VS. ACCRUAL ACCOUNTING
February March
February
Credit Sale $600
Collected in… March
Credit Sale $2,000
Collected in…
Reporting Period

5. © Michael Allison, Trinity Grammar School.
Author’s permission required for external use
 E.g. Depreciation on the firm’s vehicle for November was $250
November
Cash Accounting
Expense = Expenses Paid
Accrual Accounting
Expense = Expenses Incurred
$0
$250
14.1 CASH VS. ACCRUAL ACCOUNTING
Reporting Period

6. © Michael Allison, Trinity Grammar School.
Author’s permission required for external use
Transaction
Cash
Accounting
Accrual
Accounting
Cash sales
Credit sales
Cost of sales
Expenses paid for in cash
Expenses incurred on credit
Receipts from debtors
Payments to creditors
Capital contributions of cash
Drawings of cash
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14.1 CASH VS. ACCRUAL ACCOUNTING

7. © Michael Allison, Trinity Grammar School.
Author’s permission required for external use
Transaction
Cash
Accounting
Accrual
Accounting
GST collected/paid
Depreciation
Discounts revenue/Discount expense
Interest revenue/Interest expense
Money borrowed from a bank (loans)
Loan repayments
Asset purchases for cash
Stock gain/loss
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14.1 CASH VS. ACCRUAL ACCOUNTING

8. © Michael Allison, Trinity Grammar School.
Author’s permission required for external use
 The theory underlying the use of accrual accounting…
Going Concern Principle
• The life of the business is assumed to go on forever and exist infinitely
• This allows the business to allocate items to future periods rather than allocating them all to
the current period
• E.g. a firm purchased a $20,000 car that will be used for 4 years with a $0 residual value
Year 1
Cash Accounting
Expense = Expenses Paid
Accrual Accounting
Expense = Expenses Incurred
$20,000
$5,000
19.1 CASH VS. ACCRUAL ACCOUNTING

9. © Michael Allison, Trinity Grammar School.
Author’s permission required for external use
 The theory underlying the use of accrual accounting…
Reporting Period Principle
• The life of the business is broken into periods of equal length
• At the end of each period profit is determined by matching revenues against expenses
• E.g. On 1 April the firm prepaid 12 months of insurance for a total of $1,200
April
Cash Accounting
Expense = Expenses Paid
Accrual Accounting
Expense = Expenses Incurred
$1,200
$100
19.1 CASH VS. ACCRUAL ACCOUNTING

10. © Michael Allison, Trinity Grammar School.
Author’s permission required for external use
 The theory underlying the use of accrual accounting…
Relevance
• Information which influences decision-making must be included in the financial reports
• To make effective decisions, a business must be able to calculate profit accurately each period
• E.g. during April the firm recorded credit sales of $7,000 which have not yet been collected
April
Cash Accounting
Revenue = Revenue Received
Accrual Accounting
Revenue = Revenue Earned
$0
$7,000
19.1 CASH VS. ACCRUAL ACCOUNTING