Brandywine Income Statement Is as Follows:
Brandywine Income Statement
Revenue
12,000,000
Expenses
9,000,000
Gross Profit
3,000,000
less
Depreciation Expense
Net Income
Brandywine's net income was $1.5 million. The total profit margin, which we will assume is the net margin, is 1.5 million / 12 million = 12.5%. The cash flow is $3,000,000. The cash flow is the net income + depreciation, so 1.5m + 1.5m = 3m.
If the depreciation expense doubled, the income statement would be as follows:
Brandywine Income Statement
Revenue
12,000,000
Expenses
Gross Profit
less
Depreciation Expense
Net Income
The net income would drop to zero, as would the profit margin. The cash flows, however, would remain unchanged at $3m. This is because the depreciation expense has doubled. In doing so, it is now $3m, and when this is subtracted from the gross profit, the remaining money (net income) is now zero. However, depreciation is not a cash flow. Therefore, a change in the depreciation expense does not have any impact on the cash flow. Only changes to cash items will impact cash flows. Thus, the cash flows still remain at $3 million.
4. Cash accounting is a system that only measures cash flows. All items...
Accrual accounting refers to a system that records transactions when they take place, regardless of when the cash changes hands (no author, 2011). These differences take a number of forms. Typically, accrual accounting conforms to generally accepted accounting principles (GAAP) while cash accounting does not. Thus, most businesses do not use cash accounting, perhaps with the exception of very small businesses.
One of the differences between the two methods is with respect to revenue recognition. As the definitions explain, revenue is recorded in cash accounting when the cash is received. Thus, if a sale is made in December and the account is settled in February, the transaction is not recorded until February. In accrual accounting, the same transaction would be recorded in December. This is because the transaction is recorded when it is accrued. To make this work, accrual accounting has two separate transactions to record that one sale. The first transaction would record a matching transaction to sales and to accounts receivable. When the account is settled, the accounts receivable transaction is matched with a cash transaction.
In accrual accounting, all accounts must have a matching and immediate transaction to balance. In cash accounting, this is not entirely necessary. As cash accounting systems are not subject to standards, the details may differ but in cash accounting it is…
