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Accrual Accounting Fundamentals

A Primer To assist in maintaining the knowledge and skills after training.

© Major Training Services Pty Ltd

Outline of program

Introduction to Accrual Accounting Terminology - Definitions Key Financial Reports Accrual Accounting Versus Cash Accounting

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Basic terminology

Accrual accounting breaks all transactions down into the following groups: 1. Assets 2. Liabilities 3. Equity 4. Revenue 5. Expense

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Asset

An item of value controlled by an organisation (e.g. buildings, computers)

An example of an asset:

Accounts Receivable External parties from whom amounts are owed (to the organisation), for the supply of goods or services

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Liability

An amount owed by an organisation to an external party (e.g. loan)

An example of a liability:

Accounts Payable External parties to whom amounts are owed (by the reporting organisation), for the supply of goods and services

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Current v non current assets

Current assets

Cash and other assets that would be consumed or converted into cash within twelve months

Non-current assets

Assets not expected to be converted into cash or completely consumed within twelve months

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Current v non current liabilities

Current liabilities

Liabilities which would be due and payable within twelve months

Non-current liabilities

Liabilities which are not due and payable within twelve months

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Equity

The net worth of an organisation

Assets ­ Liabilities = Equity

What of value we control less what we owe Is the equity!!

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Revenue

The inflow of resources into an organisation (e.g. appropriation - based on outputs) that results in an increase in assets or a decrease in liabilities

· Think of revenues as things we do that make us economically better off · Remember though revenue is not cash!! · Revenue is is doing the work not being paid for it · Revenue often results in the creation of an asset called accounts receivable

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Expense

A cost or outflow of resources from an organisation (e.g. electricity, salaries) that results in a reduction in assets or an increase in liabilities

cost or expense is not buying something of value it is consuming something of value Buying a Mars Bar is not an expense eating the Mars Bar is the expense!!

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Prepayments

The payment of an expense in advance. As we have paid for an expense we have not yet incurred we have a store of value. So a prepayment is considered to be an asset.

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Accrued expenses

An accrued expense is an expense which you know has occurred but has not been paid for or invoiced.

An example might be electricity. At the end of the month we know we have incurred a cost for the use of electricity but may not have a bill. To ignore it would distort our costs in examining our performance for the month so we can accrue the cost by making an estimate of the cost of electricity (something we can probably do quite accurately) for the month.

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Key financial reports

There are three key financial statements:

The Income Statement Balance Sheet Statement of Cash Flows

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Statement of Cash Flows

The report which shows the in flows and outflows of cash for a reporting period.

In other words where did we get cash from (being paid for services provided) and what did we do with it (what did we pay for: buildings, labour etc)

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Income Statement

A financial report showing the revenue, expense and operating result ( the difference between revenue & expense for the period) of an organisation for a specified period

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Balance Sheet

A statement of assets, liabilities and equity for an organisation at a particular point in time

A statement of what we have (control) what we owe and what's left over

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The three key accrual reports

Statement of Cash Flows for July Balance Sheet end of June and July Income Statement for July Jun Jul 50,000 52,000 Revenues 150,000 - 17,500 Earned from Gov't - 5,000 Earned from other clients 5,000 155,000 50,000 74,500 Expenses Rent cost 30,000 Liabilities 82,000 - 40,000 Labour cost Payables - 2,000 Goods and service cost 60,000 Owed to labour - 42,000 Equipment cost (ie. dep'n) 500 172,500

Receipts Cash rec'd from Gov't Cash rec'd from others Payments Cash paid for rent Cash paid for labour Cash paid for goods etc. Cash paid for equipment Cash increase in Jul Cash at start of Jul Cash at end of Jul

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Assets Cash 150,000 Equipment Receivables 150,000 30,000 80,000 20,000 18,000 148,000 2,000 50,000 52,000

Net assets Equity

50,000 32,500 50,000 32,500

Operating result

(17,500)

Net assets at start of Jul 50,000 32,500 Net assets at end of Jul

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Accrual vs cash accounting

Cash accounting

Only records transactions when the cash moves in or out

Accrual accounting

Records transactions when they happen i.e. Revenue when it is earned and expenses when they are incurred, not when the cash is received or paid

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Accrual accounting

· Cash Outflows on non-current asset acquisitions are recorded as assets, NOT expenses · Cash Inflows from loans are recorded as liabilities, NOT revenue · Takes account of non-cash expenses such as Depreciation and Long Service Leave

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Expense recognition

Non-cash expenses · Depreciation (the using up of the value of the asset over its estimated useful life) · Long Service Leave

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Expense recognition

For reporting purposes, expenses should be recognised in the period in which they are incurred, not when they are paid.

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Expense recognition

Accrual Accounting recognises the expense here

Receive goods

Cash Accounting recognises the expense here

Send Purchase Order to Supplier

Pay supplier

25 May

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20 June

1 August

30 June

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Revenue recognition

Revenue recognition principle

Revenues should be recognised in the period in which they are earned, not when they are received

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Summary of accrual & cash

Accrual

Revenue When goods and services are provided. When goods and services are consumed. Reports all assets and liabilities.

Cash

When cash is received. When cash is paid. Reports on cash.

Expenses

Assets & Liabilities

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THE END

Thank you

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