The Basic Accounting Equation
Assets
Economic Resources
Owned by a Business
=
Liabilities
The Financial Obligations or
Debts of a Business
+
Stockholders’
Equity
Owners’ Claims on the
Assets of a Business
ACCOUNTING EQUATION
Like balance sheet but in form of equation.
• RESOURCES = SOURCES
• OWNS
= OWES
• ASSETS
= EQUTIES(LIABILITIES)
• ASSETS
= LIABILITIES + CAPITAL
A
=
L
+
O
DIFFERENT PROCEDURE FOR
ACCOUNTING EQUATION
•
•
•
•
A =
L
+
O
L =
A
O
O =
A
L
Expenses are always less from owner’s
equity
• Revenue are always add from owner’s
equity
Expanded Accounting Equation
Assets
Owner
Capital
=
_
+
Liabilities
Owner
Withdrawals
+
Revenues
Owner's Equity
Equity
_
Expenses
Transaction Analysis
J. Scott invests $20,000 cash to start
the business.
The accounts involved are:
(1) Cash (asset)
(2) Owner Capital (equity)
Transaction Analysis
J. Scott invests $20,000 cash to start the
business.
Assets
=
Cash
Supplies Equipment
(1) $ 20,000
$ 20,000 $
-
$ 20,000
$
-
Liabilities
Accounts
Notes
Payable Payable
$
=
-
$
-
$
20,000
+
Equity
Owner
Capital
$ 20,000
$ 20,000
Transaction Analysis
Purchased supplies paying $1,000
cash.
The accounts involved are:
(1) Cash (asset)
(2) Supplies (asset)
Transaction Analysis
Purchased supplies paying $1,000 cash.
Assets
=
Cash
Supplies Equipment
(1) $ 20,000
(2)
(1,000) $ 1,000
$ 19,000 $
1,000 $
$ 20,000
-
Liabilities
Accounts
Notes
Payable Payable
$
=
-
$
-
$
20,000
+
Equity
Owner
Capital
$ 20,000
$ 20,000
Transaction Analysis
Purchased equipment for $15,000 cash.
The accounts involved are:
(1) Cash (asset)
(2) Equipment (asset)
Transaction Analysis
Purchased equipment for $15,000 cash.
Assets
=
Cash
Supplies Equipment
(1) $ 20,000
(2)
(1,000) $ 1,000
(3)
(15,000)
$ 15,000
$
4,000 $ 1,000 $
$ 20,000
15,000
Liabilities
Accounts
Notes
Payable Payable
$
=
-
$
-
$
20,000
+
Equity
Owner
Capital
$ 20,000
$ 20,000
Transaction Analysis
Purchased Supplies of $200 and
Equipment of $1,000 on account.
The accounts involved are:
(1) Supplies (asset)
(2) Equipment (asset)
(3) Accounts Payable (liability)
Transaction Analysis
Purchased Supplies of $200 and
Equipment of $1,000 on account.
Assets
=
Cash
Supplies Equipment
(1) $ 20,000
(2)
(1,000) $ 1,000
(3)
(15,000)
$ 15,000
(4)
200
1,000
$
4,000 $ 1,200 $
$ 21,200
Liabilities
Accounts
Notes
Payable Payable
+
Equity
Owner
Capital
$ 20,000
$ 1,200
16,000
$ 1,200 $
=
$
21,200
$ 20,000
Transaction Analysis
Borrowed $4,000 from 1st American Bank.
The accounts involved are:
(1) Cash (asset)
(2) Notes payable (liability)
Transaction Analysis
Borrowed $4,000 from 1st American Bank.
Assets
=
Cash
Supplies Equipment
(1) $ 20,000
(2)
(1,000) $ 1,000
(3)
(15,000)
$ 15,000
(4)
200
1,000
(5)
4,000
$ 8,000 $ 1,200 $ 16,000
$ 25,200
Liabilities
Accounts
Notes
Payable Payable
+
Equity
Owner
Capital
$ 20,000
$ 1,200
=
$
$ 1,200 $
4,000
4,000
$
25,200
$ 20,000
Transaction Analysis
The balances so far appear below. Note that the
Balance Sheet Equation is still in balance.
Assets
=
Cash
Supplies Equipment
Bal. $ 8,000 $ 1,200 $ 16,000
$
8,000 $
1,200 $
$ 25,200
16,000
=
Liabilities
+
Equity
Accounts
Notes
Payable Payable
$ 1,200 $ 4,000
Owner
Capital
$ 20,000
$
$ 20,000
1,200 $
4,000
$ 25,200
Transaction Analysis
Now, let’s look at transactions
involving revenue, expenses and
withdrawals.
Transaction Analysis
Provided consulting services receiving
$3,000 cash.
The accounts involved are:
(1) Cash (asset)
(2) Revenues (equity)
Transaction Analysis
Provided consulting services receiving
$3,000 cash.
Assets
=
Cash
Supplies Equipment
Bal. $ 8,000 $ 1,200 $ 16,000
(6)
3,000
$ 11,000 $
1,200 $
$ 28,200
16,000
=
Liabilities
+
Equity
Accounts Notes
Payable Payable
$ 1,200 $ 4,000
Owner
Capital
Revenue
$ 20,000
$ 3,000
$ 1,200 $ 4,000
$
$ 28,200
20,000 $
3,000
Transaction Analysis
Paid salaries of $800 to employees.
The accounts involved are:
(1) Cash (asset)
(2) Salaries expense (equity)
Remember that the balance in the salaries
expense account actually increases.
But, equity decreases because expenses
reduce equity.
Transaction Analysis
Paid salaries of $800 to employees.
Assets
=
Cash
Supplies Equipment
Bal. $ 8,000 $
1,200 $ 16,000
(6)
3,000
(7)
(800)
$ 10,200 $
$
1,200 $ 16,000
27,400
=
Liabilities
+
Equity
Accounts Notes
Payable Payable
$ 1,200 $ 4,000
Owner
Capital Revenue Expenses
$ 20,000
$ 3,000
$
(800)
$ 1,200 $ 4,000
$
20,000 $
3,000 $
$ 27,400
Remember that expenses decrease equity.
(800)
Transaction Analysis
A withdrawal of $500 is made by the owner.
The accounts involved are:
(1) Cash (asset)
(2) Withdrawals (equity)
Remember that the withdrawal account
actually increases.
But, total equity decreases because the
withdrawal reduces equity.
Transaction Analysis
A withdrawal of $500 is made by the owner.
Assets
=
Accounts Notes
Payable Payable
$ 1,200 $ 4,000
Cash
Supplies Equipment
Bal. $
8,000 $
1,200 $ 16,000
(6)
3,000
(7)
(800)
(8)
(500)
$
9,700 $
1,200 $ 16,000
$
26,900
Liabilities
+
Equity
Owner
Capital
$
20,000
Owner
Withdrawals
Revenue
$
$ 1,200 $
=
4,000
$
$
20,000 $
(500)
(500) $
Expenses
3,000
$
(800)
3,000 $
(800)
$ 26,900
Remember that withdrawals decrease equity.
PRACTICE EXERCISE
ACCOUNTING
EQUATION
Double-Entry System Exercise
1. Invested $32,000 cash and equipment valued at
$14,000 in the business.
Assets
+ 32,000
+ 14,000
=
Liabilities
+
Stockholders’
Equity
+ 46,000
Double-Entry System Exercise
2. Paid office rent of $600 for the month.
Assets
- 600
=
Liabilities
+
Stockholders’
Equity
- 600
(expense)
Double-Entry System Exercise
3. Received $3,200 advance on a management
consulting engagement.
Assets
+ 3,200
=
Liabilities
+ 3,200
+
Stockholders’
Equity
Double-Entry System Exercise
4. Received cash of $2,300 for services completed
for Shuler Co.
Assets
+ 2,300
=
Liabilities
+
Stockholders’
Equity
+ 2,300
(revenue)
Double-Entry System Exercise
5. Purchased a computer for $6,100.
Assets
+ 6,100
- 6,100
=
Liabilities
+
Stockholders’
Equity
Double-Entry System Exercise
6. Paid off liabilities of $7,000.
Assets
- 7,000
=
Liabilities
- 7,000
+
Stockholders’
Equity
Double-Entry System Exercise
7. paid a cash as salary of $10,000.
Assets
- 10,000
=
Liabilities
+
Stockholders’
Equity
- 10,000
Note that the accounting equation equality is
maintained after recording each transaction.