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ACC 201 Accounting Methods

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ACC 201 Accounting Methods
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ACC201: Principles of Financial Accounting
Accounting 2
Companies strive for their net income to increase rapidly year to year; it is a measure of
success for a business. This is no different for Wilson Blowhard founder of his own
communications business whom discovered through his company’s financial records
that he was incurring a significant line expense that must be reported yearly according to
generally accepted accounting principles (GAAP). The problem was Mr. Blowhard did
not need all the line he was paying for because he was paying to make sure the line was
available for future use. He came up with a solution, by capitalizing all the line cost
charges and then depreciating them over ten years using one of three depreciation
methods the amount of net income recorded on his company’s income statement could
be increased. In this way Mr. Blowhard could show an increase in net income therefore
increasing the value of the company. In addition to using different methods of
recognizing depreciation expenses there are other ways to adjust financial records to
make ones company look better while still following GAAP including deferring expense
recognition until it can be matched with revenues using adjusting entries, only reporting
interest under the operating activities section of the statement of cash flows, and using
different inventory cost flow methods.
If Mr. Blowhard had used the straight line method of depreciation for line cost charges
than he would be producing equal amounts of depreciation expenses each year
following the matching concept. The results to the financial statement is that the amount
of depreciation is constant each year and will be reported on the income statement
whereas it will increase by that constant amount each year on the balance sheet
(Edmonds, Olds, McNair, Tsay, 2010, p.215). Mr. Blowhard could see through his
financial statements that each year the net income will show the depreciation expense
until the final year when it reports a gain or loss from the asset disposal of the line. If Mr.
Blowhard chooses to use the double declining balance method for depreciation
Accounting 3
he would show a larger amount of depreciation of line cost charges in the beginning
years and a smaller portion in the later years of depreciation in this way depletion is
accelerated (Edmonds, Olds, McNair, Tsay, 2010, p.216). By using this method in the

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beginning large expenses will be shown on the income statement but towards the end of
the ten year depletion smaller amounts of expense will be reported thus raising net
income. In later years of depreciation no expense may be seen because an asset
cannot be depreciated below its salvage value (Edmonds, Olds, McNair, Tsay, 2010,
p.217). The final method of depreciation, the units of production depreciation method
matches usage of the asset with depreciation so if Mr. Blowhard increased line use over
many years depreciation would also increase in those years.
Since Mr. Blowhard capitalized all of the line charges the costs are expensed through
depreciation charges over the ten years and the final result of different depreciation
methods can produce a gain or loss from the depreciation of the assets. Furthermore,
these assets which were originally operating expenses can be capitalized to an asset
account and added back to net income. The amount of depreciation reported on the
income statement differs from that reported on the balance sheet as what is reported on
the income sheet is a period cost and the balance sheet will reflect accumulated costs
(Edmonds, Olds, McNair, Tsay, 2010, p.218). The reason why Mr. Blowhard is able to
increase net income is due to the fact that by capitalizing his line charges he was able to
add them to the balance sheet and then over time remove them during the ten year
usage.
Other ways that can improve how a company looks while still following GAAP are
through adjusting entries because a company may recognize a revenue or expense
without a
Accounting 4
corresponding cash collection in the same accounting period (Edmonds, Olds, McNair,
Tsay, 2010, p.50). Although the conservatism principle guides accountants to choose
the alternative the produces the lowest amount of net income as to not overstate income
often times the higher amount will be reported as was illustrated by Mr. Blowhard’s
scenario. Another way is to only report interest expenses on the operating activities
section of the statement of cash flows and not under operating expenses on the income
statement therefore showing higher net income as GAAP only requires that interest be
reported on statement of cash flows most companies still report interest on the income
statement however.
Through different inventory cost flow methods gross margin can be affected on the
income statement therefore making it allowable to report a higher net income. The
balance sheet is also affected by different cost flow methods as they transfer costs from
the income statement to the balance sheet. The different methods are FIFO, LIFO, and
weighted average cost flow methods, and all three methods will report the same cash

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 ACC 201 Accounting Methods ————– ACC201: Principles of Financial Accounting     Accounting     2 Companies strive for their net income to increase rapidly year to year; it is a measure of success for a business. This is no different for Wilson Blowhard founder of his own communications business whom discovered through his company’s financial records that he was incurring a significant line expense that must be reported yearly according to generally accepted accounting principles (GAAP). The problem was Mr. Blowhard did not need all the line he was paying for because he was paying to make sure the line was available for future use. He came up with a solution, by capitalizing all the line cost charges and then depreciating them over ten years using one of three depreciation methods the amount of net income recorded on his company’s income statement could be increase ...
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