Accounting equation

Accounting equation

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*Assets

An asset is a resource controlled by the entity (as a result of past events) from which future economic benefits are expected. Or in other word, assets are ‘what the business owns’.

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ASSETS are the RESOURCES OWNED BY A BUSINESS .

Here are some types of assets that might be owned by a business company:

Land

Equipment

Buildings

Cash

Vehicles

Store Supplies

Notes Receivabl

e

Accounts Receivabl

e

ASSETS

*Land

*Computer

*Vehicle

*Cash

*examples

Decrease Assets Increase Assets

Purchasing Supplies (The asset account Cash decreases)

Purchasing Supplies (The asset account Supplies increases)

Owner Draws Owner Contributions

Repaying bank loans Receiving bank loans

Credit purchases

*Changes in assets

*Liabilities

Liabilities are present obligations of the entity (arising from past events), the settlement of which is expected to result in an outflow of economic benefits. Or in other word, liabilities are ‘what the business owes’.

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LIABILITIES are the CREDITOR’S CLAIMS ON ASSETS.

• Creditors are the people or companies to whom a business owes something (like money).

• Here are some types of liabilities that a company might owe:

Taxes Payable

Wages Payable

Notes Payable

Accounts Payable

LIABILITIES

*The most common liability is a loan.

*Another common liability is called creditors.

*A creditor, also known as a payable, is any business or person (apart from the bank) that you owe.

*Suppliers (who you owe for products purchased on credit) would fall under creditors.

*Examples

*The residual interest in the assets of the enterprise after deducting all its liabilities.

*What is owner’s equity

*Owner’s equity

Owner’s Equity is defined as the residual interest in the assets of the entity after the deduction of its liabilities.

*The owner’s equity is simply the owner’s share of the assets of a business.

*In other words…

*Represents the value of the assets that the owner can lay claim to.

*The value of all the assets after deducting the value of assets needed to pay liabilities.

*It is the value of the assets that the owner really owns.

OWNER’S EQUITY = ASSETS - LIABILITIES

*Owner’s equity

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EQUITY is the OWNER’S CLAIM ON ASSETSIn a business EQUITY is composed of four

parts that either increase or decrease equity:

CAPITAL:What the

owner puts into the business

−WITHDRAWALS

:What the

owner takes out of the business

+REVENUES:What the company receives for sales

−EXPENSES:What the company pays to

operate the business.

INCREASE DECREASE INCREASE DECREASE

EQUITY

*In the case of a corporation, which is publicly owned, equity is labeled shareholder’s equity

*Shareholder’s equity

Decrease Owner’s Equity Increase Owner’s Equity

Expenses Revenues

Losses Gains

Owner withdraws Owner investments

Beginning Capital

*Changes in owner’s equity

*Income

*Example: a service company earns revenue when it provides services to its clients

*Recorded as an increases in owner’s equity and an increase in assets

*Revenues

*The costs the company incurs in carrying on operations in its effort to create revenue

*Decrease owner’s equity

*Can be paid for with cash (decreases assets)

*Or charged (increase liabilities)

*Expenses

*The difference between expenses and equipment is equipment can be liquidated or converted to cash.

EXAMPLE:

*A company car is equipment: No affect on owner’s equity.

*A telephone bill is an expense Decreases owner’s equity.

*Expenses vs. equipment

*Net Income: The company is bringing in more money than it is spending to continue operations.

*Revenues > Expenses

*Net Loss: The company is bringing in less money than it is spending to continue operations

*Revenues < Expenses

*Break Even: When a company’s revenues are equal to their expenses

*Net income vs. net loss

*Owner’s equity

Beginning CapitalPLUS

Additional Investment

Net Income*

Revenues -- Expenses

Withdraws+--

If expenses are greater than revenues, then a net loss would result. This loss

would be subtracted from capital because it would be a negative number.

*Equation

The word equation comes from the word equal.

It is a state of being essentially equal or equivalent; equally balanced.

For any equation, one side always equals another.

*Accounting equation

Assets = Liabilities + Owner’s Equity

ASSETS = EQUITY + LIABILITIES

*The accounting equation indicates how much of the assets of a business belong to, or are owned, by whom.

*Assets can only ‘belong’ to two types of people:

*people outside the business who are owed money (liabilities)

*the owner himself (owner’s equity).

*The accounting equation

*The accounting equation should remain in balance at all times because of double-entry accounting or bookkeeping.

*Double-entry means that every transaction will affect at least two accounts in the general ledger.

*Double entry

*An owner's investment into the company will increase the company's assets and will also increase owner's equity.

*When the company borrows money from its bank, the company's assets increase and the company's liabilities increase.

*Examples of double entry

1. The basic accounting equation is assets = liabilities + ______________ ______________.

*The Accounting Equation worksheet

For each of the transactions in items 2 through 9, indicate the two (or more) effects on the accounting equation of the business or company.

#2

*Identifying changes in the

accounting equation

The owner invests personal cash in the business.

Assets: Increase Decrease No Effect

Liabilities: Increase Decrease No Effect

Owner's (or Stockholders') Equity:

Increase Decrease No Effect

#3

*Identifying changes in the accounting

equationThe owner withdraws business assets for personal use.





#4


equation

The company receives cash from a bank loan.





#5*Identifying

changes in the accounting

equationThe company repays the bank that had lent money to the company.





#6


equationThe company purchases equipment with its cash.





#7


equationThe owner contributes her personal truck to the business





#8


equationThe company purchases a significant amount of equipment on credit.





#9


equationThe company purchases land by paying half in cash and signing a note payable for the other half.





Every transaction has two sides

SALE

BANK ACCOUNT

CASH

ASSETS INCOME

CREDITACCOUNT RECEIVABLE

Every transaction has two sides

PURCHASE

BANK ACCOUNT

CASH

ASSETS LIABILITY

CREDIT

ACCOUNT PAYABLE

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REFERENCES

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Accounting equation

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