What does 'accrual basis accounting' mean?

Accrual basis accounting refers to an accounting method in which revenues and expenses are recorded when they are earned or incurred, independent of when cash transactions occur. This approach aligns financial reporting with the actual economic activity of a business, providing a more accurate picture of its financial position and performance.

For example, if a company provides services in December but does not receive payment until January, the revenue is still recognized in December under accrual accounting because that is when the service was performed. Similarly, if a business incurs an expense (like wages or utilities) in December but pays for it in January, the expense is recorded in December. This method allows stakeholders to see the true financial effects of transactions and activities within a particular accounting period, making it a standard approach in financial reporting for businesses.