Problem 7-5

Fromski Corporation’s accountant has discovered the difference in cash accounting and accrual basis accounting. Accrual accounting, the normal method used by Fromski, “measures income for a period as the difference between the revenues recognized in that period and the expenses that are matched with those revenues” (Anthony, et al, 2007, p.67). On the other hand, cash-basis accounting records the sales in the period in which they are received in cash. Likewise, “cost are subtracted from sales in the period in which they are paid for by cash disbursements” (Anthony, et al, 2007, p 68). The difference in net income could possibly result when inventory was increased. A cash method would require a reduction in profit when the inventories were acquired compared to when the inventories are sold in the accrual method. Another possible cause of the difference is when equipment is purchased. A cash-basis would result in a reduction in profits if paid with cash rather than when the items are used in the future periods.

d.

I do not agree with Fareed Novell’s statement, “I don’t need to understand accounting.” Accounting, also referred to as the language of business, is a system that provides information about the amount of resources, means of financing these resources, and the results achieved through using the resources for the benefit of the business. Understanding accounting concepts enables an individual to comprehend the results from the accounting system and benefit the organization.

Fareed also says, “Our computer-based accounting system does all the work. We just input the transactions and out comes the financial statements.” Again, this comment and current practice is dangerous to the business. Fareed should have an understanding of the accounting principles. If Fareed is oblivious to the accounting rules, he will not be able to spot possible errors. Computers can only complete the task with the information provided. A data entry error by...