The definition of money is expressed as follows: a medium of exchange, a store of wealth, a standard of value, a unit of measurement.
On this basis, it is worth knowing and further exploring what money is and how its measurement is derived through the process of accounting. Ultimately, everything comes back to cash, but the process of getting there can be a bit of a “round-trip”. We need to measure with some accuracy, assurity and consistency what the financial outcomes of events are. A balance sheet will often include such things as prepayments, provisions, accruals, depreciation and amortisation.
So why do we move things out of their current state of cash transaction and into forward or subsequent periods?
Bryan O’Loughlan (on the photo), the IME expert in Finance & Accounting in Singapore, has an explanation:
A part of me thinks that in years gone by, some Accounting Professional had too much time on his hands and dreamed up a lot of justifiable rules. “But the reason is that we need to measure accounting and finance that represents the current and immediate activity of a business or financial event. For example, if I pay my insurances in June for the next 12 months, part of this transactions represents benefits I will receive 6 months into the next accounting period. So, it does not represent a cost against my revenues in the current year. The inverse occurs when I know I incurred an expense in the year but my supplier has not sent me an invoice. I still need to recognise the cost (and a liability), even though I have not discharged the cash for it.
This concept is known as the ‘Matching Principle’ – fully recognizing those costs (and only those costs) against the revenues derived. In Bryan’s view, this principle is fair and reasonable.
The same goes with depreciation:
We purchase an asset like a commercial vehicle that is going to last us for the next 5 year. Therefore, the economic benefits of that should be spread equally over the 5 years and not all is the first year when you paid for it,” says Bryan O’Loughlan and sums up. Accounting can have its quirks, but the Matching Principle concept is quite simple and straight forward – if the cost matches the revenues, you need to recognise them. If they do not, it needs to be taken to the balance sheet for later actions.
These and similar topics are a part of the Finance module with Bryan.