Debits and Credits, Research Paper Example

Debit and credit accounts reflect the reality that there are always two or more sides to a transaction. In other words, each accounting transaction reflects the source of an event and its resulting impact. On the balance sheet, a debit entry reflects an increase in an asset or a decrease in a liability and a credit entry reflects an increase in a liability or a decrease in an asset. On the income statement, a debit reflects an increase in expense or a decrease in an income and a credit reflects an increase in income or a decrease in an expense (McBride). The debit and credit system helps ensure that all the transactions have been recorded accurately because the total balance in debit and credit should equal each other(Stockstill). Of course, this is not a foolproof system against accounting fraud because the statement preparer could add fictitious but equal amounts on both sides and the debt and credit balances will still match.

Looking at the debit and credit entries, one can gain a reliable understanding of the firm’s financial picture. Debit and credit entries help us determine whether the firm has adequate capital structure and whether it has been managing its liquidity position effectively. The entries also enable us to predict the potential dangers that may lie ahead such as lower profitability. The debit and credit entries also give us a picture of the competitive strategies being employed by the firm that could have disastrous effects in the future such as generous credit extension to customers that may increase sales but also threaten long-term liquidity and business survival.

Single year results could be misleading, thus, an analysis of multi-year debit and credit accounts reveals better picture of the management’s performance.Debit and credit numbers could also be compared to the competitors’ figures to gauge the firm’s performance against the average industry.

References

McBride, C. (n.d.). The Differences Between Debit & Credit in Accounting. Retrieved September 25, 2012, from http://smallbusiness.chron.com/differences-between-debit-credit-accounting-4063.html

Stockstill, S. (n.d.). Difference Between Debit & Credit in Accounting. Retrieved September 25, 2012, from http://www.ehow.com/about_6633261_difference-between-debit-credit-accounting.html