As we discussed earlier, accrual accounting is used to capture the economic substance of events

Not all revenues and expenses arise as a result of an exchange of cash

Specifically, accrual accounting is used to match accounting transactions to the appropriate time period in which they occurred

Remember the first example we discussed

Under cash accounting, revenue that was “earned” in December but was not recorded until January, which is the wrong period

Under accrual accounting, we recognized the revenue in December, which is the right period, since we did all the work to earn it in December

Not all revenues and expenses arise as a result of an exchange of cash

• As we just saw, you can deliver a service and earn revenue without being paid, and an expense can be incurred without making a payment

Qs: Any questions on accrual accounting so far? Does this make sense to everyone?

Let’s go through a more in-depth example to illustrate

Without accrual accounting, we would not record many transactions such as:

Sales when customers promise to pay later (accounts receivables)

Purchases when the company promises to pay later (accounts payables)

Expenses incurred but not yet paid (accrued liabilities)

Expenses purchased in advance (prepaid expenses)

Deposits made by customers in advance of sales (unearned revenue)

Depreciation on assets

If we did not use accrual accounting, a number of transactions wouldn’t be recorded because many transactions do not involve an immediate exchange of cash.