Accrued Expenses : Pros And Cons And Examples
An accounting term called an accrued expense is popular among business owners. But not many people know the definition of accrued expense. If you are a beginner in business, make sure to understand what it is and what it does.
What Are Accrued Expenses?
This term means an expense that has been incurred but has not yet been paid. It is typically listed on a company’s balance sheet as a current liability. It can include items like wages, rent, and utilities. They can arise when a company issues an invoice for services or products before receiving payment from the customer.
Pros & Cons of Accrued Expense
Accrued expenses offer several advantages to a company, providing a more precise assessment of its financial well-being. They also assist in the efficient management of cash flow. By recording accrued expenses on the balance sheet, a company can proactively anticipate future cash requirements. Additionally, it facilitates improved planning. This is particularly beneficial for small business owners, as it enables them to monitor outstanding expenses and gain a deeper understanding of their financial transactions.
Apart from the benefits that make it easier for business owners, it is also important to consider the cons of these expenses. There are a few key disadvantages that companies should be aware of. Accrued expenses can be a bit difficult to track and manage. In addition, they can be easily forgotten or overlooked, which can lead to missed opportunities or even fines and penalties. Consequently, it can be a bit costly for companies, as they can often lead to increased administrative and accounting costs.
A Case Example of Accrued Expenses
For better understanding, you can check the example of it below.
A manufacturer of toys named “A” had an engine failure on April 27, 2023. Then the manager of the toy manufacturer called a repairman to check the damage.
After further checking by the repairman, it turned out that the machine could no longer be repaired. Since the machine could no longer operate, later in the evening of the same date the company finally ordered a new machine from company “B”, the machine came the next day on April 28, 2023.
After the machine arrived on that date, the manufacturer’s manager finally called back the repairman to use his services to install the new machine. Finally, the machine can be used to produce toys again.
After completion, the repairman sent a bill for company “A” $5000 to be paid on the specified date of May 27, 2023. Meanwhile, the total purchase of the new machine is $10,000 at company “B”. Company “B” will send the bill on May 4, 2023.
From the case example, Company “A” will record in the company’s balance sheet of April 30 as follows:
– Expenses for repairman services totaling $5000 are included in “Accounts payable” because the bill has been received but not yet paid.
– The cost of purchasing a new machine from Company “B” totaling $10,000 is added to “accrued expenses” because the invoice has not yet been received by the company.
Have You Understood About It?
Simply put, accrued expenses are unpaid bills. By looking at a practical example, you will grasp that these expenses are components used to determine the total value of a company’s liabilities from all past transactions.
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