Accounting Equation · PDF fileExamples: Accounts payable, notes payable, ... MoneyMoney-M-...

Accounting EquationAccounting Equation

&&

Accounting ConceptsAccounting Concepts

5 Ways to Classify Accounts5 Ways to Classify Accounts

1.1. AssetsAssets

2.2. LiabilitiesLiabilities

Owner’s EquityOwner’s Equity3.3. Owner’s EquityOwner’s Equity

4.4. RevenueRevenue

5.5. ExpenseExpense

AssetAsset

�� Asset = ownAsset = own

�� Anything of value that is ownedAnything of value that is owned

�� Used to acquire additional assets or to operate a Used to acquire additional assets or to operate a businessbusiness

�� Examples: cash, petty cash, supplies, Examples: cash, petty cash, supplies, equipment, accounts receivable, prepaid equipment, accounts receivable, prepaid insuranceinsurance

LiabilityLiability

�� Liability = OweLiability = Owe

�� Amount the business owes to othersAmount the business owes to others

�� Examples: Accounts payable, notes Examples: Accounts payable, notes payable, other bills unpaidpayable, other bills unpaid

Owner’s EquityOwner’s Equity

�� Amount owned Amount owned –– amount owedamount owed

�� Amount remaining after the value of Amount remaining after the value of liabilities is subtracted from the assetsliabilities is subtracted from the assetsliabilities is subtracted from the assetsliabilities is subtracted from the assets

�� Owner’s equity Owner’s equity –– amount of business amount of business actually owned by the owneractually owned by the owner

Owner’s EquityOwner’s Equity

2 Most Common Accounts2 Most Common Accounts

1.1. CapitalCapital –– summarize owner’s equity in summarize owner’s equity in businessbusiness

2.2. DrawingDrawing –– used when an owner used when an owner withdraws either cash or merchandise for withdraws either cash or merchandise for personalpersonal use.use.

RevenueRevenue

�� Any income earned from the sale of goods Any income earned from the sale of goods or services and results in an increase in or services and results in an increase in owner’s equity.owner’s equity.

�� Examples: Sales, ServicesExamples: Sales, Services

ExpenseExpense

�� Price paid for goods or services used to Price paid for goods or services used to operate a business, resulting in a decrease operate a business, resulting in a decrease in owner’s equityin owner’s equity

�� Examples: Rent, Utilities, Advertising, Examples: Rent, Utilities, Advertising, WagesWages

Accounting EquationAccounting Equation

Assets = Liabilities + Owner’s EquityAssets = Liabilities + Owner’s EquityAssets = Liabilities + Owner’s EquityAssets = Liabilities + Owner’s Equity

Double EntryDouble Entry--SystemSystem

�� Also called Duel Entry SystemAlso called Duel Entry System

�� Accounting Equation Accounting Equation mustmust always be in always be in balancebalancebalancebalance

TransactionsTransactions

�� Changes in the accounting equationChanges in the accounting equation

�� Must always change 2 accounts to keep Must always change 2 accounts to keep the accounting equation in balancethe accounting equation in balancethe accounting equation in balancethe accounting equation in balance

�� Will always have a debit and a creditWill always have a debit and a credit

T accountsT accounts

�� Used to keep balances of accountsUsed to keep balances of accounts

�� Left side = DebitLeft side = Debit

�� Right side = CreditRight side = Credit

Debit Credit

Account Name

Normal BalancesNormal Balances

�� Side of account which increasesSide of account which increases

�� Assets = Left side increasesAssets = Left side increases

�� Liabilities = Right side increasesLiabilities = Right side increases

�� Owner’s Equity = Right side increasesOwner’s Equity = Right side increases

Accounting FrameworkAccounting Framework

�� All businesses must use the same All businesses must use the same reporting practices to record financial reporting practices to record financial information.information.

�� GAAPGAAP –– Generally Accepted Accounting Generally Accepted Accounting �� GAAPGAAP –– Generally Accepted Accounting Generally Accepted Accounting PrinciplesPrinciples

�� SECSEC –– Securities and Exchange Securities and Exchange CommissionCommission

�� FASBFASB –– Financial Accounting Standards Financial Accounting Standards BoardBoard

AICPAAICPA

American Institute of Certified Public American Institute of Certified Public AccountantsAccountants

�� National professional organization of CPAsNational professional organization of CPAs

Provides CPAs with resources, information, Provides CPAs with resources, information, �� Provides CPAs with resources, information, Provides CPAs with resources, information, and leadershipand leadership

�� Advocacy, Certification and Licensing, Advocacy, Certification and Licensing, Recruiting and Education, and Standards Recruiting and Education, and Standards and Performanceand Performance

12 Accounting Concepts12 Accounting Concepts

1.1. Entity Entity –– Accounting records are kept for Accounting records are kept for entities and not the people who own or entities and not the people who own or run the company.run the company.

�� Business is considered its own personBusiness is considered its own person

�� A business can marry (merger), have A business can marry (merger), have kids (subsidiary), and die (discontinue kids (subsidiary), and die (discontinue operations).operations).


2.2. MoneyMoney--Management Management –– for an accounting for an accounting record to be made, it must be able to be record to be made, it must be able to be expressed in monetary terms.expressed in monetary terms.

�� Financial statements show only a Financial statements show only a limited picture of the business.limited picture of the business.


3.3. Going Concern Going Concern –– financial statements are financial statements are prepared with the expectation that a prepared with the expectation that a business will remain in operation business will remain in operation indefinitely.indefinitely.

�� Assets cost can be (amortized) Assets cost can be (amortized) spread over its expected life.spread over its expected life.

�� Liquidated Liquidated –– how quickly or the ease how quickly or the ease an asset can be converted to cashan asset can be converted to cash


4.4. Historical Cost Historical Cost –– the price paid to acquire the price paid to acquire the asset.the asset.

�� “worth” changes over time“worth” changes over time�� “worth” changes over time“worth” changes over time

5.5. Dual Aspect (Accounting Equation)Dual Aspect (Accounting Equation)

Assets = Liabilities + Owner’s EquityAssets = Liabilities + Owner’s Equity


6.6. Objectivity Objectivity –– accounting entries will be accounting entries will be recorded on the basis of recorded on the basis of objectiveobjectiveevidence.evidence.

�� Source documents: invoices, Source documents: invoices, �� Source documents: invoices, Source documents: invoices, receipts, bank statements, calculator receipts, bank statements, calculator tapestapes

�� All information comes from source All information comes from source documents and is based on FACT documents and is based on FACT not opinion.not opinion.

Source DocumentsSource Documents

�� A business paper which information is A business paper which information is obtained.obtained.

Prove a transaction has occurred.Prove a transaction has occurred.�� Prove a transaction has occurred.Prove a transaction has occurred.

�� Examples: checks, purchase orders, Examples: checks, purchase orders, invoice, receipts, calculator tapes, invoice, receipts, calculator tapes, memorandumsmemorandums


7.7. Time Period Time Period –– specific interval of time for specific interval of time for which an entity’s reports are prepared.which an entity’s reports are prepared.

�� Fiscal year (July 1 Fiscal year (July 1 –– June 30) or June 30) or

12 month period12 month period12 month period12 month period

�� Natural year Natural year

(January 1 (January 1 –– December 31)December 31)

�� Once a time period is set, it must not Once a time period is set, it must not changechange


8.8. Conservatism Conservatism –– understating rather than understating rather than overstating revenue (income) and overstating revenue (income) and expense amounts that have a degree of expense amounts that have a degree of uncertainty.uncertainty.uncertainty.uncertainty.

�� Rule is to recognize revenue when it is Rule is to recognize revenue when it is reasonably certain and measurable and reasonably certain and measurable and recognize expenses as soon as reasonable recognize expenses as soon as reasonable possible.possible.

�� Better to err on caution than to inflate or Better to err on caution than to inflate or overstate positive results.overstate positive results.


9.9. Realization Realization –– Revenue (income) is Revenue (income) is recognized when earned or realized.recognized when earned or realized.

�� Seller receives cash or has a claim to Seller receives cash or has a claim to cash (accounts receivable) after a cash (accounts receivable) after a cash (accounts receivable) after a cash (accounts receivable) after a sale of goods or services.sale of goods or services.

�� Recorded when received, not when Recorded when received, not when awardedawarded

Accounts ReceivableAccounts Receivable

�� Customer has charged on account,Customer has charged on account,

“sold on account”“sold on account”

Normal Normal debitdebit balancebalance�� Normal Normal debitdebit balancebalance

�� Asset account because money is owed to Asset account because money is owed to the company and will be collected at a the company and will be collected at a later date.later date.

Accounts PayableAccounts Payable

�� Company buys something on account and Company buys something on account and will pay at a later date.will pay at a later date.

Normal Credit balanceNormal Credit balance�� Normal Credit balanceNormal Credit balance

�� Liability account because money is owed Liability account because money is owed to a vendor and must be paid laterto a vendor and must be paid later


10.10. Matching Matching –– Revenues and related Revenues and related expenses must be recorded in the same expenses must be recorded in the same accounting period. accounting period.

�� Avoids overstatement of incomeAvoids overstatement of income�� Avoids overstatement of incomeAvoids overstatement of income

11.11. Consistency Consistency –– Once an entity decides on Once an entity decides on a method of reporting it must keep the a method of reporting it must keep the same method for all subsequent events.same method for all subsequent events.


12.12. Materiality Materiality –– accounting practice that accounting practice that records events that are significant records events that are significant enough to justify the usefulness of the enough to justify the usefulness of the information.information.

�� Example: We do not record a Example: We do not record a transaction each time we use a transaction each time we use a sheet of paper as an Office Supply sheet of paper as an Office Supply Expense; instead we wait until we Expense; instead we wait until we purchase a large quantity and then purchase a large quantity and then expense it.expense it.

Accounting Equation · PDF fileExamples: Accounts payable, notes payable, ... MoneyMoney-M-...

Documents

Transcript of Accounting Equation · PDF fileExamples: Accounts payable, notes payable, ... MoneyMoney-M-...