ACCOUNTING EQUATION
OWNERS EQUITY=ASSETS-LIABITLIES
Grade 9 Term 1
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WHAT IS THE ACCOUNTING EQUATION?
It is a way to see the following:
What is the value of the things the owner invested in the business?
What is the total worth of the business?
How much money does the business have?
What can the owner get when he sells the business?
How much is the worth of the business inventory?
How much money does the business owe?
Is there any money that the business must pay back?
What will happen to the business’s net worth if the owner buys something?
What happens to the worth of the business if the business pays something?
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LET US START AT THE BEGINNING…
Somebody wants to start a business…
What will he need?
Money
Buildings
Equipment
Workers
Electricity
Water
Transport
Something to sell
A Service to deliver
Can you think about something else?
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THE THREE GROUPS
EVERYTHING WE JUST NAMED MUST BE DIVIDED INTO CERTAIN GROUPS VIR ACCOUNTING
PURPOSES.
OWNER’S EQUITY
ASSETS
LIABILITIES
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GROUP 1: OWNER’S EQUITY
This is the first group you have to know.
This includes the total amount of money the owner has in the
business.
It starts with the capital that the owner put into the business to
start the business.
The owner may contribute capital as many times as they wish.
It increases if the business grows and decreases if it does not grow.
It is divided into four groups: CAPITAL, DRAWINGS, INCOME and
EXPENSES.
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OWNER’S EQUITY
OWNER’S EQUITY= CAPITAL + PROFIT - DRAWINGS
How do I
calculate
Owner’s equity?
Accounts that can
influence OWNERS’s
EQUITY
Capital is the
money the owner
use to start a
business.
CAPITAL
PROFIT is calculated
by: INCOME-EXPENSES.
DRAWINGS
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INCOME
This is money
that the owner
takes from the
business for
personal use.
EXPENSES
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OWNER’S EQUITY
CAPITAL
 Capital contributions
increase owners’ equity.
 The owner can contribute
more than once to the
business.
DRAWINGS
 The owner withdraws money from the
business for personal use.
 Personal use includes holidays, paying
personal accounts, buying personal
assets, etc.
 Drawings decrease owners’ equity.
 The owner can withdraw more than once
from the business.
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OWNER’S EQUITY
INCOME
 INCOME increase owners’
equity.
 Money from sales.
 Rent received from tenants.
 Interest from investments.
 Money from providing a
service.
EXPENSES
 EXPENSES decrease owners’
equity.
 Salaries and wages.
 Rent paid.
 Water and electricity.
 Telephone.
 Transport.
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INCOME AND EXPENSES
INCOME
EXPENSES
oThe money earned by the business.
The cost of running the business.
oIt can also be called revenue.
Money spend on water, rent, electricity, phone
calls, stationery, salaries, etc.
oIncome will be used to pay expenses.
oMoney left after paying expenses is called
profit.
It has no lasting value, is it used up or
consumed.
INCOME – EXPENSES = PROFIT/LOSS
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EXAMPLES OF INCOMING AND
OUTGOING TRANSACTIONS
INCOMING TRANSACTIONS
Receiving cash from a customer for cash
sales.
OUTGOING TRANSACTIONS
Paying for goods that you bought.
Receiving cash for payment on an account.
Receiving interest earned on savings.
Paying for expenses such as rent.
Repaying loans from a bank.
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PROFIT AND LOSS
PROFIT
LOSS
oThe amount of money left after all expenses
have been paid.
oThe shortfall when expenses are greater than
the income.
oIncrease profit by increasing income or
reducing expenses.
oThe owner is responsible for recovering the
loss.
oThe profit of the business increase the
Owners’ Equity.
oBusinesses with losses will close down.
oIt increases the net worth of the business.
PROFIT = INCOME › EXPENSES
oIt decreases the Owners’ Equity.
oIt decreases the net worth of the business.
LOSS = EXPENSES› INCOME
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GROUP 2: ASSETS
 These are items of value that are owned by the business.
The business buys it with the money the owner invested in
the business.
It can be sold if the business needs money.
We say it can be converted into cash.
The more assets a business owns, the better the financial
position of the business is.
Assets can be divided into two groups.
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GROUP 2: ASSETS
FIXED ASSETS
• It has long-term value.
• It is used to generate income.
• Are not expected to be
converted into cash.
• Examples:
• Land and building
• Machinery
• Equipment
• Vehicles
CURRENT ASSETS
• Items of value that are
expected to be turned into
cash.
• Examples:
• Stock
• Debtors
• Cash
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GROUP 3: LIABILITIES
Also known as debts.
This is money that the owner has to borrow to keep the
business going.
It must be paid back with interest.
It is bad for the business to have liabilities.
There are two types of liabilities.
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GROUP 3: LIABILITIES
LONG TERM LIABILITIES
• Payable after a
period of one year.
• Example: Mortgage
loan.
CURRENT LIABILITIES
• It has to be repaid
within one year.
• Example: Creditors.
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THE BASIC ACCOUNTING EQUATION
OWNERS EQUITY
THE OWNERS’
INTEREST IN THE
BUSINESS PLUS
INCOME LESS
EXPENSES.
ASSETS
ANYTHING WITH
LONG-TERM VALUE.
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LIABILITIES
ANY DEBTS THAT THE
BUSINESS HAS.
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THE BASIC ACCOUNTING EQUATION
ASSETS
DEBIT (Dr)
CREDIT (Cr)
OWNERS’ EQUITY
DEBIT (Dr)
CREDIT (Cr)
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LIABILITIES
DEBIT (Dr)
CREDIT (Cr)
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THE ACCOUNTING EQUATION IN
DIFFERENT FORMS
OWNERS’ EQUITY
ASSETS
LIABILITIES
ASSETS
OWNERS’ EQUITY
LIABILITIES
LIABILITIES
ASSETS
OWNERS’ EQUITY
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THE ACCOUNTING EQUATION:
CHEAT SHEET
For cash transactions: BANK is ALWAYS one of the accounts.
For credit transactions: Debtors Control/Creditors Control is ALWAYS one of the accounts.
ASK:
Will I be spending money?
BANK is getting smaller → ASSETS to decrease ↓
Will I be receiving money?
BANK is getting bigger → ASSETS to increase ↑
What is the other account?
What are you buying?
Why are you receiving money?
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THE ACCOUNTING EQUATION:
PRACTICAL EXAMPLE
ALWAYS USE TWO ACCOUNTS:
Transaction: Pay wages for R 200.
OWNERS’ EQUITY
ASSETS
Dr
BANK
REMEMBER:
Expenses decrease
Assets and
Owners’ Equity.
Cr
Dr
Wages - R 500
WAGES
Cr
Bank - R 500
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Why do you have to know the accounting
equation?
It is essential in the business to ALWAYS know what is happening with your money.
The Accounting Equation is the best way to see what is happening in your business.
NOTE: one
account is
always
BANK.
 Let us work out some examples:
The owner deposit R10 000 to start the business
What must happen with this money? It will be deposited into the business bank account!
OWNER’S EQUITY
=
+R 10 000 (Capital)
Because the owner
increases his interest in the
business with R10 000.
ASSETS
-
+R 10 000 (Bank)
Because the R10 000 is
deposited into the business
bank account.
LIABILITIES
NOTHING CHANGE
Now, the owner will know that he has an interest of R 10 000 in the business and that the bank account has a
balance of R 10 000.
The accounting Equation balance. The left-hand side must be equal to the right-hand side.
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NOTE: one
account is
always
BANK.
Example : Drawings
The owner withdraw R1 000 for personal use.
What must happen with this money? It will be withdrawn from the business bank account.
OWNER’S EQUITY
-R 1 000 (Drawings)
Because the owner
decreases his interest in
the business by R1 000.
=
ASSETS
-
-R 1 000 (Bank)
Because the R1 000 is
withdrawn from the
business bank account.
LIABILITIES
NOTHING CHANGE
Now, the owner will know that he has less interest of R 1 000 in the business and that the bank account has a
balance of R 1 000 less.
The accounting Equation balance. The left-hand side must be equal to the right-hand side.
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NOTE: one
account is
always
BANK.
More examples: Assets
The owner buys a building for R10 000 to start his business.
Where will the owner get the money? It will be withdrawn from his bank account.
The money does not disappear because an asset replaces it – remember, buildings are an asset.
OWNER’S EQUITY
NOTHING CHANGED
=
ASSETS
-
-R 10 000 (Bank)
Because the R10 000 is withdrawn out
of the business bank account
+R10 000 for the asset (Buildings) that
was bought.
LIABILITIES
NOTHING CHANGED
Now, the owner will know that he owns an asset worth R 10 000 and that there will be R 10 000 less in the
bank account.
The accounting Equation balance. The left-hand side must be equal to the right-hand side.
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NOTE: one
account is
always
BANK.
More examples: Expenses
The owner pay the telephone account for the business R1 000.
Where will he get the money? It will be withdrawn from his bank account.
The money will be used to pay for an expense, and expenses decrease the owner’s interest in the business.
OWNER’S EQUITY
=
-R 1 000 (Telephone)
Because an expense
(telephone account) is being
paid.
ASSETS
-
-R 1 000 (Bank)
Because the R1 000 is withdrawn from
the business bank account.
LIABILITIES
NOTHING CHANGED
Now, the owner will know that he spent R 1 000 on expenses and that there will be R 1 000 less in his bank
account.
 Every business must keep expenses as low as possible because expenses decrease the owners’ interest in the
business.
The accounting Equation balance. The left-hand side must be equal to the right-hand side.
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More examples: Income (Service Business)
The owner receives R1 000 for services rendered to a client.
Where will the owner get the money? From the client for services rendered.
What is he going to do with the money? Deposit it into the business bank account.
OWNER’S EQUITY
=
+ 1 000 (Current Income)
Because an income for
services rendered increases
the owners’ interest.
ASSETS
-
+R 1 000 (Bank)
Income will be deposited into the
business bank account.
LIABILITIES
NOTE: one
account is
always
BANK.
NOTHING CHANGED.
Now the owner will know that he has R 1 000 more interest in the business because income increase the owners’
equity, and there will also be R 1 000 more in the business bank account.
 A business must increase its income to increase its owner’s interest.
The accounting Equation balance. The left-hand side must be equal to the right-hand side.
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More examples: Income (Trading Business)
The owner receives R1 000 for a cash sale, and the cost price of the goods is R600.
Where will the owner get the money? From the client for goods sold.
What is he going to do with the money? Deposit it into the business bank account.
OWNER’S EQUITY
=
+ 1 000 (Sales)
Because an income for goods
sold increases the owners’
interest.
- R600 (Cost of Sales)
Expenses will decrease the
owners’ interest.
ASSETS
-
+R 1 000 (Bank)
Income will be deposited into the
business bank account.
- R600 (Trading stock)
Selling stock will decrease the assets.
NOTE: one
account is
always
BANK.
LIABILITIES
NOTHING CHANGED.
Now the owner will know that he has R 1 000 more interest in the business because income increase the owners’
equity, and there will also be R 1 000 more in the business bank account.
 The transaction also decreases trading stock, and the profit will be calculated: Sales – Cost of Sales.
The accounting Equation balance. The left-hand side must be equal to the right-hand side.
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More examples: Loan (Liabilities)
The owner has to borrow R5 000 form a bank to do business
NOTE: one
account is
always
BANK.
Where will the owner get the money? At the bank in the form of a loan.
What will he do with the money? Deposit it into the business bank account.
OWNER’S EQUITY
=
ASSETS
LIABILITIES
NOTHING CHANGE
+ 5 000 (Bank)
Because the money will be deposited
into the business bank account.
+R 5 000 (Loan)
Because the loan at the bank
increase and it must be paid back.
Now the owner knows that he owes R 5 000 more that needs to be paid back and that he has R5000 more in
his bank account.
The business must have no loans or only take out loans if it is in a time of need because it burdens the
business.
The accounting Equation balance. The left-hand side must be equal to the right-hand side.
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More examples: Debtors
A Debtor bought items on credit for R 500 from the business.
Will the owner get the money? No, the debtor will pay later, and the debtor’s control will increase.
OWNER’S EQUITY
NOTHING CHANGE
=
ASSETS
-
- 500 (Trading stock)
Because the debtor will be taking stock from
the business and only pay later.
+R500 (Debtors control)
Because the debtors of the business will
increase.
NOTE: one
account is
now
DEBTORS
CONTROL.
LIABILITIES
NOTHING CHANGE
Now the owner knows that he has R 500 less trading stock and that debtors owing him money are also R500
more.
 Debtors are an asset, but there must be proper control over outstanding accounts.
The accounting Equation balance; the left-hand side must be equal to the right-hand side.
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More examples: Debtors
The owner receives R 500 from a Debtor to settle his outstanding account.
Where will the owner get the money? From the debtor for settling his account.
What will
he do with the
money? Deposit it into- the business bank account. LIABILITIES
OWNER’S
EQUITY
ASSETS
=
NOTHING CHANGE
+ 500 (Bank)
Because the money will be deposited into the
business bank account.
-R500 (Debtors control)
Because the debtors of the business will decrease.
NOTE: One
account is
now
Debtors
Control.
NOTHING CHANGE
Now the owner knows that he has R 500 more in his bank account and that debtors owing him money are also
R500 less.
 Debtors are an asset, but there must be proper control over outstanding accounts.
The accounting Equation balance; the left-hand side must be equal to the right-hand side.
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More examples: Creditors
The owner buys trading stock for R 500 from a Creditor.
Will the owner pay the money? No, the owner will pay later for the stock received.
OWNER’S EQUITY
NOTHING CHANGE
= ASSETS
-
+ R500 (Trading stock)
Because the business will have more trading
stock.
NOTE: one
account is
now
Creditors
Control.
LIABILITIES
+R500 (Creditors control)
Because the creditors of the
business will increase.
Now, the owner knows that he has R 500 more trading stock and that he owes R 500 to a creditor.
 Creditors are a liability, and there must be proper control over outstanding accounts.
The accounting Equation balance! The left-hand side must be equal to the right-hand side.
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More examples: Creditors
NOTE: one
account is
always
BANK.
The owner pays R 500 to a Creditor.
Will the owner pay the money? Yes, the owner will pay the outstanding liability.
OWNER’S EQUITY
NOTHING CHANGE
= ASSETS
-
- R500 (Bank)
Because the owner will take money
from the bank to settle the liability.
LIABILITIES
-R500 (Creditors control)
Because the creditors of the business
will decrease.
Now, the owner knows he has R 500 less in his bank account and owes R 500 less to a creditor.
 Creditors are a liability, and there must be proper control over outstanding accounts.
The accounting Equation balance; the left-hand side must be equal to the right-hand side.
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More examples…:
DESCRIPTION OF THE
TRANSACTION
The owner start the business
with R70 000.
OWNERS’
EQUITY
+R70 000
ASSETS
=
LIABILITIES
BALANCE
+R70 000
The owner borrow R 50 000 from
the bank.
+R50 000
The owner buys equipment to
start the business for R 40 000.
-R40 000
+R40 000
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YES
+R50 000
YES
YES
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