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Cash Mercantile/Accrual, Hybrid Systems/Bases of Accounting

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... From Page 13

   
 

Revenue

Income, turnover, revenue are terms used synonymously to mean the amount of money that an organisation receives from its activities like sale of products, providing services to customers etc. Depending on the nature of the organisation and the type of activity it is involved in the revenue streams are varied

Sale or Products, Providing Services are the activities most common to business organisations. Taxes, Duties, Fees etc are the major sources of revenue for Governments. Donations, Grants, Subscriptions, etc are some of the sources of revenue for non-profit organisations.

  • The terms Revenue and Sales or Turnover are interchangeably used. This makes sense only when sales are expressed in terms of value and not in terms of quantity.
  • Gross Revenue and Net Revenue are terms which are indicative of Gross Sales and Net Sales after setting off sales returns
  • Revenue would be meaningful only when it is expressed in relation to a period. Say the revenue is Rs. 5 crores is would not make much sense unless we express the period involved.
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    Saying the revenue for the last month is Rs. 5 Crores does sound meaningful.
  • Top Line and Bottom Line

    Revenue is often referred to as top line since it is the first item that we consider in preparing the income statements or accounts. On the Credit Side of the Trading account we find sales generally towards the top as the first or second item.

    Similarly Net Profit (revenue left after deducting all expenses) is termed "Bottom Line". In the Profit and Loss account, Net Profit/Loss is the last item that appears towards the end.

    Even in an income statement (which is nothing but the Trading and Profit & Loss a/c prepared in a form suitable for financial analysis) we start by considering the gross sales (i.e. gross revenue) and end with arriving at the net profit.

Revenue Recognition

Revenues are
  • realized when goods and services are exchanged for cash or receivables (debtors).
  • realizable when assets received in exchange for goods and services are readily convertible to cash or receivables (debtors).
  • earned when the duties to be entitled to compensation are performed.
Recognising revenue implies the act that would make the organisation consider that they have earned the revenue involved in the transaction. Based on when the revenue is recognised there are two types of accounting systems (1) Cash Basis of Accounting and (2) Accrual Basis or Mercantile System of Accounting
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  1. Cash Basis Accounting

    Under cash basis accounting revenues are recognized and earned only when cash is received irrespective of when and how the services were performed or goods delivered.

    To put it in different terms, the cash basis of accounting asks you to take into consideration all those incomes/gains that have been received in cash or other assets and expenses/losses that have been paid out in cash or other assets during the accounting period in consideration.

  2. Accrual or Mercantile Basis Accounting

    Under accrual or mercantile basis accounting, revenues are recognized and earned when they are realized or realizable irrespective of when the cash is received.

    To put it in different terms, the accrual basis of accounting asks you to take into consideration all those incomes/gains and expenses/losses pertaining to the accounting period for which you are trying to ascertain the profits and losses irrespective of whether the incomes are received in cash or not and the expenses are paid out in cash or not.

  3. Hybrid System of Accounting

    This is not a system of accounting on its own. It is a combination of the Cash Basis Accounting and Accrual Basis Accounting. This system is based on the concept of conservatism.

    Under the hybrid system of accounting, incomes are recognised as in Cash Basis Accounting i.e. when they are received in cash and expenses are recognised on accrual basis i.e. during the accounting period in which they arise irrespective of when they are paid.

What Basis/system to follow?

The basis of accounting to be followed is dependent on the attitude and outlook of the organisation. If organisations have a conservative attitude, they may adopt the hybrid system of accounting.

The traditional accounting systems used to adopt the cash basis of accounting. Organisations which are to abide by the various regulations imposed by the various acts under which they are regulated are mostly required to adopt the Mercantile System of Accounting which is supposed to reveal the information relating to the organisation in a more appropriate manner than the cash basis of accounting.

Author Credit : The Edifier ... Continued Page 15

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