Accounting Principles and Examples

1. Revenue Recognition Principle

The revenue recognition principle dictates that revenue should be recognized when it is earned, regardless of when the cash is received. For example, a company that provides services to a client in January but receives payment in February should recognize the revenue in its financial statements for January. This principle ensures that financial statements accurately reflect the company’s performance during a specific period.

2. Matching Principle

The matching principle states that expenses should be recognized in the same period as the related revenues. For instance, if a company sells products in January, the cost of goods sold associated with those products should also be recognized in January. This principle aims to accurately match expenses with revenues to provide a clear picture of the company’s profitability for a given period.

3. Conservatism Principle

The conservatism principle suggests that when faced with uncertainty, a company should choose the option that is least likely to overstate its financial position or performance. For example, if a company is uncertain about the collectibility of accounts receivable, it should recognize bad debt expense to ensure that its financial statements are not overly optimistic. This principle helps maintain the reliability and credibility of financial reporting.

Journal Entries for Transactions

1. June 1: Sara invested SAR 10,000 cash in her business to start operations.

– Cash (Asset) | SAR 10,000
Common Stock (Equity) | SAR 10,000

2. June 6: Sara purchased inventory for SAR 6,000 on credit from a supplier.

– Inventory (Asset) | SAR 6,000
Accounts Payable (Liability) | SAR 6,000

3. June 12: Sara purchased inventory for SAR 2,000 cash from a supplier.

– Inventory (Asset) | SAR 2,000
Cash (Asset) | SAR 2,000

4. June 15: Sara borrowed SAR 15,000 from a bank.

– Cash (Asset) | SAR 15,000
Loan Payable (Liability) | SAR 15,000

5. June 31: Sara paid SAR 4,000 cash to the supplier for the inventory purchased on credit earlier in the month.

– Accounts Payable (Liability) | SAR 4,000
Cash (Asset) | SAR 4,000

Financial Statements Preparation

Income Statement

United Co.
Income Statement
For the Year Ended December 31

Revenue Earned SR 72,000
Expenses:
Supplies Expense SR 3,400
Rent Expense SR 6,000
Wages Expense SR 22,000
Net Income SR 40,600

Statement of Retained Earnings

United Co.
Statement of Retained Earnings
For the Year Ended December 31

Retained Earnings, Beginning SR 11,155
Net Income SR 40,600
Dividends SR 36,000
Retained Earnings, Ending SR 15,755

Balance Sheet

United Co.
Balance Sheet
As of December 31

Assets:
Cash SR 7,000
Accounts Receivable SR 475
Supplies SR 2,500
Equipment SR 17,000
Total Assets SR 26,975

Liabilities:
Accounts Payable SR 1,220
Loan Payable SR 15,000
Total Liabilities SR 16,220

Equity:
Common Stock SR 10,000
Retained Earnings SR 15,755
Total Equity SR 25,755

Total Liabilities and Equity SR 42,975