Cash versus accrual basis of accounting. J. Hennessey opens a retail store on Ja

Question

Cash versus accrual basis of accounting. J. Hennessey opens a retail store on January I. V car 8. Hennessey invests >>20,001 The store borrows $10,000 from a local bank I tic loan is repayable on December 31. Year 9 with interest at 12% per year. The store purchases $84,000 of merchandise on account during Year X and pays $76,000 of that amount by the end of Year 8. A physical inventory taken on December 31. Year 8 indicates $12,000 of merchandise on hand. During Year 8. the store makes cash sales to customers totaling $50,000 and sales on account totaling $70,000. Of the sales on account, the store collects $62,000 by December 31, Year S The store incurs and pays other costs as follows: salaries. $20,000. and utilities. $1.500. It has unpaid bills at year-end as follows: salaries. $1.200, and utilities, $120. Prepare an income statement for Year 8 assuming that the company uses the accrual basis of accounting. Prepare an income statement for Year 8 assuming that the company use* the cash ba*is of accounting. Which basis of accounting do you believe provides a better indication of operating performance for the retail Store during Year 8? Why?

Explanation / Answer

Income Statement of for the Year 8 on Cash basis

Income Statement of for the Year 8 on Cash basis

Accrual basis of Accounting provides better indication of Operating perforamance as it takes into account the whole transactions of operation rather than cash basis of accounting which takes into consideration the transactions for which cash has paid or received.  

Particulars Amount Sales Revenue $92,000 Less: Cost of Sales ($76,000-$12,000) $64,000 Gross Profit $28,000 Less: Salaries $18,800 Utilities $1380 Earnigs Before Interest and Tax $7820 Interest 0 Net Profit $5420

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