Cost accounting makes it easy for small business owners to track the value of the assets on their books. A key element of this practice is the cost principle: the idea that you should value your assets based on what you initially paid for them, rather than their current market value. This will help you throughout the accounting cycle, as you won’t need to repeatedly adjust the value of the assets on your balance sheet as they fluctuate through the year. And if any of that sounds confusing, don’t worry – just refer to our guide on the accounting equation! Now, let’s take a deeper look at the role the cost principle plays on your balance sheet so that your small business accounting process is as seamless as possible. What is the Cost Principle? One of the underlying accounting principles, along with the conservatism principle and the consistency principle, the cost principle states that your assets will be recorded on your small business’ books at whatever their cash value was at the time they were acquired. This means that the asset amounts recorded on your financial statements will be their actual value, as opposed to their current market value. Why use the original acquisition cost of assets? For one, this will ensure that an objective and verifiable cost is recorded on the books. This will protect your small business in the event that the market value of your asset drops below your original purchase price. Correct use of the cost principle will also lessen the burden of the accounting proceess on you as a small business owner! Win-win! Understanding Depreciation Although the cost principle requires you to record the original acquisition cost of your assets, you will still need to factor in something called depreciation for certain assets. In short, depreciation recognizes that the value of your long-term assets decreases over time. Let’s look at an example of this: Say you acquired a piece of equipment at a cash value of $20,000, expecting that it will last for five years. Following the straight-line depreciation method, you will record depreciation expense of $4,000 each year. So, how will this appear on your balance sheet? Simple: take your historical cost, which was $20,000, and subtract the accumulated depreciation of your asset! Some Issues with the Cost Principle There are a few problems that come up when a small business owner applies the cost principle. If your company has any valuable logos or brand names, you wouldn’t be able to reflect their asset value on your balance sheet. Imagine a content creator, for example – there is an ‘intangible’ value to their brand. Use of the cost principle wouldn’t allow them to truly reflect the value of their small business in the event that they were looking to secure a loan, or raise new capital. Not exactly ideal – but exactly why small business accounting software exists! Short-Term vs Long-Term Assets Another key element of small business accounting is understanding the nature, or time-length, or the assets that you own. Luckily, small business accounting software makes this easy. Just remember the two essential asset categories that we described above – and stick to these two simple rules to eliminate any accounting challenges down the line: Short-term assets? Don’t use the cost principle. Long-term assets? Use the cost principle . Conclusion It’s always smart to use small business accounting software that automates these processes. Luckily, products like TrulySmall make the user experience seamless. Trust in the best small business accounting software, so that you can focus on doing the work that led you to owning your own business in the first place!
