As a basis for measuring performance for a particular accounting period, the cash basis of accounting has three weaknesses. Briefly describe the three weaknesses

As a basis for measuring performance for a particular accounting period, the cash basis of accounting has three weaknesses.

First, the cash basis does not adequately match the cost of the efforts required to generate inflows with the inflows themselves. Cash outflows of one period can relate to operating activities whose cash inflows occur in preceding or succeeding periods.

Second, the cash basis of accounting separates the recognition of revenue from the process of earning those revenues. A firm should recognize revenue when it has earned those revenues by delivering goods and services to customers, which often occurs before it collects cash from those customers. In these cases, recognizing revenues when the firm collects cash often results in reporting the effects of operating activities one or more periods after the critical revenue-generating activity—the customer's purchase of goods and service—has occurred.

Third, performance measured using the cash basis is sensitive to the timing of cash expenditures. A delay of even a few days in cash expenditures near the end of the accounting period will increase earnings for that period, while decreasing earnings in one or more subsequent periods.