Objectives of Capital Expenditure
Accounting is the mathematical science used to record, compile and present financial information in accessible statements that communicate a business's financial circumstances to users in an effective and efficient manner. In order to accomplish this, most accounting is done on an accrual basis, letting in a degree of estimation in order to recognize economic transactions at the time of their occurrence. Capital expenditure is one product of this decision, done so that financial statements might better reflect what is true.
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Cash and Accrual Bases
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Almost all accounting is done on either a cash or an accrual basis, referring to the criteria for recognizing or recording economic transactions. Cash basis recognizes transactions when the cash for them is either paid out or received, meaning that recognition of transactions might not occur until months afterward. In contrast, accrual basis chooses to recognize costs and revenues at time of occurrence provided that the transactions are complete and collectible. Accrual basis accounting is much more common than cash basis.
Matching Principle
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Guidelines exist in accrual basis accounting in order to minimize the degree of estimation in figures and to assist a user's comprehension of statements. One such guideline is the Matching Principle, which requires accountants to recognize costs in the same time period as the revenues that were produced using those costs.
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Purpose of Matching Principle
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Matching Principle is intended to produce more faithful depictions of a business's financial circumstances through putting together the inputs and outputs of operations in the same period. Compliance with the Matching Principle ensures that distortions in single-period incomes do not arise through misplacing costs and revenues. One example of the Matching Principle in practice is the procedure of depreciation where an asset has a portion of its value written off as an expense in each of period of its use in order to represent the decrease in that asset's value incurred as a consequence of its usage in business activities. If depreciation is not done, then the asset has its entire value at time of purchase written off as a single expense in the period in which the business at last declares it to be useless, thus producing a disproportionate loss in that period that is not a true depiction of what has happened to the asset's value.
Capital Expenditure
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Capital expenditures are expenditures that will help a business produce revenues in more than the single period of their occurrence. As a result, capital expenditures have their values recorded as assets so that those values can be written off over time as expenses across the entirety of their usefulness. This is done in order to record financial information in a manner more faithful to what is happening in truth and to prevent the distortions that would occur from recording said expenditures in one period.
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References
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