Question

Exercise 4-5 In its first year of operations, Cullumber Company recognized $31,800 in service revenue, $6,600 of which was on account and still outstanding at year-end. The remaining $25,200 was received in cash from customers. The company incurred operating expenses of $17,100. Of these expenses, $12,830 were paid in cash;丰4,270 was still owed on account at year-end. In addition, Culumber prepaid $2,720 for insurance coverage that would not be used until the second year of operations.(a) Calculate the first year's net earnings under the cash basis of accounting, and the first year's net earnings under the accrual basis of accounting. Cash Basis Accrual Basis Net Income (b) Which basis of accounting (cash or accrual) provides more useful information for decision-makers?

Answer 1

Answer with its Explanation:

PART A

Using The Cash Basis:

Net Income = Cash received - Cash paid

Net Income = $25,200 - $12,830 - $2720 = $9650

Using The Cash Basis:

Net Income = Revenue earned during the year - Expense incurred during the year

Net Income = $31,800 - $17,100 = $14,700

The insurance paid is not for the year as it relates to the coming year and must not be included in deducting the expenses.

PART B

Both of the methods provid useful informations provide useful insight of the case.

The cash basis tells about what actually the company possesses, from where the resources had flow inwards and where the company has spent its resources in cash amounts. The cash basis accounting doesn't tells the substance of the transaction because it all tells which expenses are actually been paid and what revenue has been received. The cash basis says that the revenue is the one that we have received and the expenses are the one that are paid in cash.

Accrual basis says that the company must recognize the earning and expenses when they are earned and when they are incurred respectively. The accrual basis tells the substance of the transaction. It tells what sales are related to the year and how much they have incurred in the year.