If you run a small business, you have a choice between using cash or accrual accounting. In cash accounting, you record income when cash is collected from a sale, either at the time of sale or when a customer or credit card company ponies up the cash for a sale made on credit. Accrual accounting follows Generally Accepted Accounting Principles; you record income when you earn it and become entitled to it, rather than when you collect it. You can convert from one type of accounting to the other by using a combination of the latest income statement and recent balance sheets.
Cash Accounting on Income Statement
The income statement reveals how much was earned and spent during the current period. If you use cash accounting, you can tell exactly how much cash you received for the period directly from the income statement. That figure is the top line of the income statement, generally labeled revenue, sales, net sales or sales revenue.
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The revenue amount represents the cash you actually received from customers for the period, regardless of when the sale was made. If you use cash accounting, the income statement reveals your cash collections directly, without the need for any additional calculations.
Accrual Accounting Method
If you follow GAAP and perform accrual accounting, you recognize income when earned rather than collected, and expenses when incurred rather than paid. This gives a good economic picture of business operations but doesn't reveal much about your cash situation.
You can deduce the amount of cash you collected for the period by starting with the top line, revenues, on the accrual-basis income statement. You then adjust that figure with the change in accounts receivable, which is a balance sheet asset representing money earned but not yet collected, reported on the latest two balance sheets.
If A/R decreased, it means the income statement understates your cash receipts for the current period since the decrease represents money collected from sales made – and income earned — in previous periods. Conversely, cash receipts are overstated if A/R increased. To properly state cash receipts, add the change in A/R to the income statement's sales revenues.
Cash Received From Customers Example
Suppose you use accrual accounting and your current income statement shows you've earned $100,000 in sales for the quarter that just ended. The balance sheet from the end of the previous quarter shows your A/R balance at $40,000, while your balance sheet A/R for the end of the most recent quarter was $30,000, a difference of $10,000.
Accordingly, you add the $10,000 to the $100,000 income statement sales revenue to arrive at the amount of cash you received during the latest quarter, $100,000 + $10,000, or $110,000. Had the A/R balance increased, you would have added a negative number, thereby decreasing the cash receipts for the period.
Unearned Income Reporting
Some businesses accept customer deposits, which is money you receive for products or services not yet delivered. This money will not appear in the revenue reported by an accrual-basis income statement because you haven't earned it yet. The money does show up as a liability, which is something you owe, on the balance sheet, usually labeled as unearned income.
If you have unearned income, subtract the previous balance sheet amount from the current one. Then subtract that difference from the current income statement's sales revenues.
In our example, if unearned income went from $8,000 to $10,000 for the quarter, subtract the difference, -$2,000, from the adjusted sales revenue to find the total cash received from customers for the quarter. In this case, that's $110,000 - (-$2,000), or $112,000.