Final answer:
Accrual basis accounting is the method where revenues and expenses are recorded when they are earned and incurred, respectively. Accounting profit, representing total revenue minus explicit costs, is a cash concept, whereas economic profit includes implicit costs which factor in opportunity costs. The distinction is critical for determining taxation and assessing long-term business success.
Step-by-step explanation:
A method of accounting under which revenues are recorded when earned and expenses are recorded when incurred is known as accrual basis accounting.
This method is essential for understanding the financial health of a business. It differs from cash basis accounting, which records transactions when cash actually changes hands.
Accounting profit is a cash concept that represents total revenue minus explicit costs, which are the actual dollars brought in and paid out. In contrast, economic profit considers both explicit and implicit costs. Implicit costs represent the opportunity costs of a firm's resources that could have been employed for an alternative use.
The significance of these profits lies in their impact on business decisions, as a company might have a positive accounting profit but a negative economic profit if these implicit costs are high, indicating that the resources could be better utilized elsewhere.
It is important to note that businesses pay income taxes based on their accounting profit, not their economic profit. However, for long-term success and sustainability, understanding both conceptions of profit is vital for accurate financial analysis and strategic planning.