Question

Under both the cash and accrual method, the economic performance takes place when the goods are provided. However, because the asset will provide a benefit for more than 12 months, she must capitalize the expenditure and begin depreciating it in year 1 when she places the asset in service. What is the economic performance under both the cash and accrual method?

1) The economic performance takes place when the goods are provided.
2) The economic performance takes place when the asset is placed in service.
3) The economic performance takes place when the expenditure is capitalized.
4) The economic performance takes place when the asset begins depreciating.

Answer 1

Economic performance in accounting occurs when goods or services are provided. This event triggers the need to capitalize and depreciate the asset over its useful life for assets that benefit beyond a year. This concept is key in distinguishing between accounting and economic profit.

Step-by-step explanation:

The economic performance under both cash and accrual accounting methods refers to the point at which the costs associated with a good or service are recognized. Economic performance generally occurs when the goods or services are provided. For an asset that will benefit more than 12 months, expenditure must be capitalized, which means that the cost of the asset is written off over the period it is used (depreciation) rather than at once. In this case, the economic performance has occurred when the goods are provided or the service is performed (under accrual method), even if the payment may occur at a different time (under cash method).

Capitalizing the asset and beginning depreciation is how the cost is allocated over the asset's useful life. Thus, the economic performance occurs before the expenditure is capitalized or before the asset begins depreciating. This is critical in distinguishing between accounting profit, which is total revenue minus explicit costs, and economic profit, which also includes implicit costs. The timing of economic performance affects the recognition of these costs and consequently, the calculation of profit.