JRE 300, Fall 2026
Fundamentals of Accounting and Finance (JRE 300)
Accounting Lecture 1: Introduction to Accounting
Contents
1 From Transactions to Financial Statements . . . . . . . . . . . . . . . . . . . . . . . . . .
2
2 The Accounting Equation . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
5
3 Pear’s First Month . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
3.1 Financing the Business . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
3.2 Earning Revenue and Collecting Cash . . . . . . . . . . . . . . . . . . . . . . . . . .
3.3 Recording Expenses . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
7
7
10
12
4 Four Statements, One Business . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
14
5 Profit, Cash, and What the Statements Can Tell Us . . . . . . . . . . . . . . . . . . . . .
5.1 Explaining the Difference . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
5.2 Interpreting the Business . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
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© Professor Kevin Mott
JRE 300, Fall 2026
1 From Transactions to Financial Statements
A business may complete thousands of transactions: customers pay for services, employees earn
wages, equipment is purchased, and lenders provide loans. Investors, lenders, employees, and managers need a way to make sense of those events. A list of bank payments alone would leave several
questions unanswered. Was a deposit earned from a customer or borrowed from a bank? Did a
payment buy equipment the business will use for years, or pay for resources already consumed?
Accounting is a systematic way to record, classify, and report a business’s transactions and other
economic events. Recording preserves what happened. Classification identifies the accounts affected
and the nature of the change. Reporting brings those records together into financial statements that
people can use to assess the business.
For those reports to be useful, the people preparing and reading them need to attach the same
meanings to the numbers. This is why accounting is sometimes described as the language of business.
Revenue, profit, and cash flow each describe something different, and the rules determine what the
company records, when it records it, and where the result appears. Shared definitions let us compare
a company across years and compare different companies. They also help us decide which reported
amount is relevant to the decision we face.
To see why the choice of measure matters, suppose you are deciding whether to buy shares in Apple,
lend it money, or take a job there. All three decisions depend on the business, but they need not
put the same weight on each reported number. An investor would want to understand whether the
company can continue earning profits. A lender would also ask how it will obtain cash to meet
its obligations. A prospective employee might care about the stability of the operations that will
support their job. We need to understand what the numbers describe before we can use them to
answer these questions.
Apple reported the following amounts for its 2025 fiscal year, which ended on September 27, 2025.
The amounts here are in US dollars, rounded to billions.1
1
Apple Inc., 2025 Form 10-K, pp. 29–33. All Apple amounts in these notes refer to that filing and its fiscal year,
rather than the calendar year. We use ‘cash’ as shorthand: the balance sheet reports cash and cash equivalents, while
the cash-flow statement’s beginning, ending, and change amounts also include restricted cash and cash equivalents.
The two ending totals agree here.
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Measure
Apple reported
Net sales
$416.2 billion
Net income
$112.0 billion
Cash generated by operations
$111.5 billion
Increase in cash
$6.0 billion
Start with the first two rows. Net sales measure revenue from sales over the year. Some of that
revenue is absorbed by the expenses of running the business; net income, also called profit, is the
revenue remaining after those expenses are subtracted. Now look at the last row. The increase in
cash compares the cash balance at the end of the year with the balance at the beginning. It measures
a change in money held. There is no reason yet to expect that change to equal profit, because we
have not established that every receipt is revenue or that every payment is an expense.
Consider the difference between Apple’s $112.0 billion of net income and its $6.0 billion increase
in cash. Subtracting the rounded figures gives $106.0 billion. That subtraction constructs a gap
between two measures; it does not identify a missing sum of money or create another accounting
measure. To understand the change in cash, we need to examine cash receipts and payments.
Apple’s statement of cash flows groups those receipts and payments into operating, investing, and
financing activities. For 2025, the rounded amounts were:
15.2 − 120.7
111.5
| {z } =
| {z } + |{z}
Operating
Investing
Financing
6.0
|{z}
(USD billions).
Increase in cash
The cash-flow categories account for the $6.0 billion change, but why would a lender or investor still
want to know net income? Consider what cash movements can represent. Borrowing from a bank
raises cash while also creating an obligation to repay it. Buying equipment uses cash but leaves the
business with a resource it can use for years. And completing work on credit earns revenue before
the customer pays. These are different changes in the business, even though a bank statement would
show only a receipt, a payment, and no cash movement at all. We need records of the resources,
obligations, and work performed alongside the cash movements.
That need for several kinds of information explains why an annual report contains several financial
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statements. The accounting system classifies events as they occur, then brings related amounts
together so that we can examine performance, resources, claims, and cash. It does not reproduce
every transaction in the annual report. Four statements organize the resulting information:
Statement
Question it answers
Income statement
Did the company earn a profit over the period?
Balance sheet
What resources and obligations does it have at one date?
Statement of changes in equity
Why did the owners’ claim change over the period?
Statement of cash flows
Where did cash come from, and where did it go?
We can already place two of Apple’s numbers: net income belongs in the income statement, and
the increase in cash is explained by the statement of cash flows. The other statements will help
us understand what remains in the business and who has claims on it. Because all four describe
the same events, they must connect. For example, the cash remaining after the year’s receipts
and payments must agree with the cash reported among the company’s resources at year-end.
To understand how those connections arise, we need to follow the transactions that produce the
numbers.
Apple is too large to reconstruct that way in class, so we will develop the same reasoning using
Pear Company, a fictional business with eight transactions in its first month. Pear begins with no
resources, obligations, owners’ investment, revenue, or expenses. All Pear amounts are in Canadian
dollars. Its round numbers let us focus on what each transaction changes, and its small number of
events lets us account for every dollar. Once we can explain Pear’s statements, we can return to
Apple’s reported amounts with a clearer sense of what each tells us.
Our initial records will produce $35,000 of September profit and an ending cash balance of $5,000.
These are amounts before month-end adjustments; A2 will add interest and depreciation. The
difference between profit and cash gives us a question to work toward. First, though, we need to
decide which events belong in Pear’s records and how to describe what they change.
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© Professor Kevin Mott
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2 The Accounting Equation
Suppose one of Pear’s owners pays $2,000 of personal apartment rent from a personal bank account.
Before deciding whether the payment is an expense, ask whose expense it would be. The owner
has paid a personal bill using personal money. Nothing in the event changes Pear’s resources or
obligations, so Pear records nothing.
This establishes the business entity: the business whose activities the records describe. Pear’s
accounts include Pear’s transactions and other economic events, while the owners’ personal affairs
remain outside those records. Ownership gives someone a claim on the company, but it does not
make every transaction in that person’s life a company transaction. Once we have drawn that
boundary, we can ask what resources the company itself controls and what claims exist against
those resources.
An asset is a resource controlled by the business that can provide future economic benefits. Cash
can be used to make payments; equipment can be used to serve customers over several years. Both
are assets, although they provide benefits in different ways. This gives us a way to describe what
the business has, but we also need to account for what it owes.
A liability is a present obligation the business must settle with an outside party. When Pear
borrows from a bank, it receives cash but also becomes obligated to repay the loan. The cash is an
asset; the repayment obligation is a liability. The owners cannot regard the entire increase in cash
as an increase in their own claim, because Pear must allow for the amount it owes the bank.
After deducting those outside obligations from the assets, the remaining claim belongs to the owners.
We call it equity, the owners’ residual claim. ‘Residual’ means what remains after allowing for
liabilities. This definition gives us the accounting equation:
Assets = Liabilities + Equity.
The left side records the resources controlled by the business. The right side describes creditors’
claims and the owners’ residual claim on those resources. Rearranging gives equity as assets minus
liabilities. Equity is therefore not an extra resource to add to cash or equipment; it describes a
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claim on the assets already recorded.
Because equity is the residual, every event we record must leave this equation balanced. An event
can increase an asset and a claim together, as when owners invest cash. It can also exchange assets
without changing total claims, as when the company pays cash for equipment. The equality does
not mean that every account stays constant. It tells us that the recorded changes must fit together,
which gives us a check as we work through Pear’s events.
We can now be more precise about the borrowing example that came up when we looked at Apple.
Before Pear earns anything from customers, it can raise cash from owners or lenders. Both sources
increase its bank balance, but the accompanying claim differs. Owners receive shares, and their
contribution is recorded as share capital, part of equity. Pear has no obligation to repay that
contribution. A bank receives a claim for repayment, recorded as a liability. In either case, the
receipt supplies financing; Pear has not earned revenue from a customer.
This comparison gives us a method for the rest of the month. For each event, ask what Pear receives,
what it gives up, what it now controls or owes, and whether it has earned revenue or incurred an
expense. The first questions identify changes in resources and claims. The last asks whether the
event changes the period’s profit. Keeping both in view will let us explain how an event affects the
business even when no cash moves.
In this chapter, we’ll work through transactions using the accounting equation to understand what
each event changes and why. We will then need a systematic way to record those effects. In A2, we’ll
introduce journal entries, which use debit and credit notation to record changes in the accounts.
That formal structure will build on the intuition we develop here.
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3 Pear’s First Month
With the entity boundary and equation in place, we can follow Pear from its first receipt of cash
through the end of September. We will keep track of the balances as we go, so each event starts
from the position left by the previous one.
It helps to distinguish three kinds of business activity before we begin. Financing activities bring
in funds from owners and lenders or return funds to them. Investing activities include buying
or selling assets the business will use over several years, such as equipment. Operating activities
relate to earning revenue and running the business day to day, such as providing services and paying
wages and rent. These labels describe the activity from Pear’s perspective: when an owner invests
money in Pear, the company is raising financing. We will follow Pear as it raises funds, buys
equipment, and begins serving customers.
Table 1 sets out the eight transactions for the month. We will use these numbers as we work through
their effects, keeping track of both the individual changes and the balances they leave behind.
Table 1: Pear’s transactions in September 2026. Amounts are in Canadian dollars.
No.
Date
Transaction
(1)
Sep. 1
Pear’s owners contribute $40,000 cash in exchange for shares.
(2)
Sep. 2
Pear borrows $20,000 from a bank. The loan is due in five years.
(3)
Sep. 3
Pear pays $55,000 cash for store and testing equipment that it will use for several years.
(4)
Sep. 12
Pear earns and collects $15,000 by helping customers set up and repair their devices.
(5)
Sep. 20
Pear completes a $40,000 device-management project for a university and sends it an invoice
due next month.
(6)
Sep. 25
The university pays $5,000 of its invoice.
(7)
Sep. 29
Pear pays employees $10,000 for work completed during September.
(8)
Sep. 30
Pear pays $10,000 for September’s store rent.
3.1 Financing the Business
As we work through the transactions, we will write each one’s effect on the accounting equation.
Changes in assets appear on the left; changes in liabilities and equity appear on the right. These
transaction equations use thousands of Canadian dollars, so +40 means an increase of $40,000. A
zero means no change from that transaction, even if the account already has a balance. We will
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keep these individual changes separate from the running balances, which include all transactions
recorded so far.
Pear begins with transaction (1): on September 1, its owners invest $40,000 in exchange for shares.
Unlike the owner’s personal rent payment, this transaction crosses the boundary into Pear: the
company receives money and issues an ownership claim. Cash increases on the asset side, and share
capital increases by the same amount on the equity side:
+40 =
|{z}
Cash
0
+
|{z}
Liabilities
+40
|{z}
.
(1)
Share capital
Since Pear began with nothing, these changes leave it with $40,000 of cash and $40,000 of share
capital. Its assets equal its equity, with no liabilities at this point. It has been financed, but it has
not yet provided a service or earned revenue.
The next day, September 2, the bank lends Pear $20,000 in transaction (2), with repayment due
in five years. Cash again increases, but this time the accompanying claim belongs to a lender. We
therefore add a bank loan on the liability side:
+20 =
|{z}
Cash
+20 + |{z}
0 .
|{z}
Bank loan
(2)
Equity
The zero for equity means that borrowing has not changed the owners’ claim; their $40,000 of share
capital remains in place. Adding the new cash to the amount supplied in transaction (1) brings
cash to $60,000. The cumulative balances after the two transactions are therefore:
$60, 000 = $20, 000 + $40, 000 .
| {z } | {z }
| {z }
Cash
Bank loan
Share capital
Neither transaction (1) nor transaction (2) has changed profit. Pear has received $60,000 because
owners and a lender supplied funds, and the right side of the equation records what each received
in exchange. We can next ask what happens when Pear puts those funds to use.
In transaction (3), Pear uses most of that cash to buy $55,000 of store and testing equipment on
September 3. The equipment will help provide services over several years. Pear exchanges one asset,
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cash, for another asset, equipment, so both changes occur on the left side of the equation:
−55 +
|{z}
Cash
55
|{z}
=
Equipment
0
+ |{z}
0 .
|{z}
Liabilities
(3)
Equity
The asset changes offset each other. Cash falls from $60,000 to $5,000, while equipment rises
from zero to $55,000. Total assets remain $60,000, and neither the bank’s claim nor the owners’ claim changes. This is an investing activity: Pear is using the financing it raised to acquire
equipment.
Why isn’t the $55,000 payment an expense immediately? Pear still controls a resource that can benefit future periods. Treating the whole purchase as September’s expense would treat that resource
as though its benefits had already been used up. For now, we record the equipment as an asset.
In A2, depreciation will let us account for its use over time. We have not made that month-end
adjustment yet.
The balances after transactions (1)–(3) show how the two financing events and the equipment
purchase fit together:
After the transaction
Total assets
Liabilities
Equity
(1) Owners invest
$40,000
$0
$40,000
(2) Bank lends money
$60,000
$20,000
$40,000
(3) Equipment is purchased
$60,000
$20,000
$40,000
Transaction (3) leaves the totals from transaction (2) unchanged, but alters the composition of
assets. Pear has $5,000 available to pay bills and $55,000 of equipment available to do work. A
balanced equation alone does not tell us how readily the company can make its next payment. It
also does not establish that Pear has earned anything: all three events so far concern financing the
business and acquiring equipment. We now turn to what happens when Pear uses that equipment
to serve customers.
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3.2 Earning Revenue and Collecting Cash
The first operating event is transaction (4), on September 12: customers pay Pear $15,000 for setup
and repair services provided that day. Pear has done the work and received the cash, bringing cash
from $5,000 to $20,000. We know an increase in assets needs a corresponding change somewhere
else in the equation. These customers have neither lent money nor bought shares. Pear has earned
the receipt by providing services, so we record revenue.
Revenue is earned from providing goods or services. Expenses reflect resources consumed or
obligations incurred in earning revenue and running the business during a period. Subtracting
expenses from revenue gives the period’s net income, or profit:
Net income = Revenue − Expenses.
To connect that calculation to our equation, recall that equity is what remains after liabilities are
deducted from assets. Earning service revenue increases Pear’s assets without adding an obligation
to a lender, so it increases the owners’ residual claim through profit. Incurring an expense reduces
that claim. Since Pear began with nothing and has made no distributions to owners, we can keep
track of these effects by expanding the equation for its first month:
Assets = Liabilities + Share capital + Revenue − Expenses.
This form separates the owners’ investment from the profit the business earns. We can now show
the effect of the services provided in transaction (4), again in thousands of Canadian dollars:
+15 =
|{z}
Cash
0
+
|{z}
Liabilities
0
|{z}
+
Share capital
15
|{z}
Service revenue
− |{z}
0 .
(4)
Expenses
Cash increases on the left, and revenue increases on the right. Because no expenses have been
recorded so far, revenue and net income are both $15,000. The increase in equity comes through
profit; share capital remains $40,000 because the owners have not made another investment.
In transaction (4), earning revenue and receiving cash happened together. Transaction (5) changes
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the payment timing. On September 20, Pear completes a $40,000 device-management project for a
university and sends an invoice, payable next month. The work has been performed just as it was
for the first customers, so Pear has earned revenue. What has it received in return if no cash has
arrived? It has acquired a right to collect $40,000 from the university. We record that right as an
asset called accounts receivable.
The receivable meets our definition of an asset because Pear controls an enforceable right that can
provide a future economic benefit. Pear can collect it when payment is due; a right to collect can
also be sold to someone else. We therefore record $40,000 of accounts receivable and $40,000 of
service revenue:
+40
|{z}
=
Accounts receivable
0
+
|{z}
Liabilities
0
|{z}
+
Share capital
40
|{z}
Service revenue
− |{z}
0 .
(5)
Expenses
Compare this with transaction (4). The right side again records revenue, but the asset acquired
on the left is now a receivable. Cash remains $20,000, while total revenue and profit before any
expenses rise to $55,000. The equation stays balanced because the increase in the receivable is
matched by the increase in equity through profit.
If we waited until the university paid to recognize revenue, our September records would omit
work that Pear completed in September. Recording the receivable lets us preserve both pieces of
information: Pear has earned the revenue, and the payment remains outstanding. That separation
also determines how we should handle the payment when it arrives.
The first payment arrives in transaction (6), when the university pays $5,000 of its invoice on
September 25. Pear converts part of its claim on the university into cash:
+5 −
|{z}
Cash
5
|{z}
Accounts receivable
=
0
+
|{z}
Liabilities
0
|{z}
Share capital
+ |{z}
0 − |{z}
0 .
Revenue
(6)
Expenses
Cash increases from $20,000 to $25,000, while accounts receivable falls from $40,000 to $35,000.
We have seen this kind of change before: the equipment purchase in transaction (3) also exchanged
assets. Here the exchange runs toward cash, as part of the receivable is collected. The two changes
on the left offset each other, leaving total assets unchanged.
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Should Pear record another $5,000 of revenue in transaction (6)? It has not performed another
service. The full $40,000 was earned and recorded in transaction (5), on September 20. Recording
revenue again when the payment arrives would count the same work twice. The remaining $35,000
receivable records the part of the invoice still unpaid; revenue remains $55,000.
Transactions (4)–(6) account for the work Pear performed and the amounts customers paid. To
measure the month’s profit, we also need to record the resources Pear used in operating.
3.3 Recording Expenses
In transaction (7), on September 29, Pear pays $10,000 of wages for September work. Employees
have provided the labour for the month’s operations, so Pear records a wage expense. The payment
reduces cash, while the expense reduces equity through profit:
−10 =
|{z}
Cash
0
+
|{z}
Liabilities
0
|{z}
Share capital
+ |{z}
0 −
Revenue
10
|{z}
.
(7)
Wage expense
The expense account increases by 10, but expenses are subtracted in our expanded equation. The
right side therefore falls by 10, matching the reduction in cash on the left. Applying these changes
to the running balances leaves $15,000 of cash and reduces profit from $55,000 to $45,000.
The final event, transaction (8) on September 30, is a $10,000 payment for September’s store rent.
The month’s use of the premises is a rent expense, so we apply the same reasoning with a different
expense account:
−10 =
|{z}
Cash
0
+
|{z}
Liabilities
0
|{z}
Share capital
+ |{z}
0 −
Revenue
10
|{z}
.
(8)
Rent expense
Cash and equity each fall by another $10,000. Cash ends at $5,000, and the $55,000 of revenue less
$20,000 of wage and rent expenses leaves $35,000 of profit before month-end adjustments.
Recall the owner’s personal apartment rent. That payment had no effect on Pear because it belonged
to the owner’s personal affairs. The store rent belongs in Pear’s records because Pear incurred and
paid it to use business premises. We classify the event by whose activity it represents, as well as by
what was purchased.
Once we have established that the store rent belongs to Pear, the next question is what the payment
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obtained. The labour and use of the store in transactions (7) and (8) relate to September, so they
enter September’s expenses. The equipment bought in transaction (3) continues to provide benefits
beyond September, so the purchase remains an asset in our initial records. We have used the same
reasoning throughout: establish whose event it is, identify what was received or used, and then
determine the effects on resources, claims, and profit.
We can now bring the eight transactions from Table 1 together in a financial-statement-effects
table, using the same numbers to connect each event to its account changes. Amounts here are in
thousands of Canadian dollars, so an entry of 40 means $40,000. A dash means that the transaction
does not change that column. Negative amounts appear in red parentheses, so (55) means a decrease
of $55,000. ‘Other assets’ combines the equipment and accounts receivable; we will separate them
again when we present the resources Pear holds at month-end.
CAD $000
Event
Cash Other assets Liabilities Share capital Revenue Expenses
(1) Owners invest
(2) Bank lends money
(3) Pear buys
equipment
(4) Customers pay for
setup services
(5) A university will
pay later
(6) The university
pays part
(7) Pear pays wages
(8) Pear pays rent
40
20
(55)
–
–
55
–
20
–
40
–
–
–
–
–
–
–
–
15
–
–
–
15
–
–
40
–
–
40
–
5
(5)
–
–
–
–
(10)
(10)
–
–
–
–
–
–
–
–
10
10
5
90
20
40
55
20
Ending balance
Revenue and expense entries are shown as positive amounts in their own columns. To check the
equation, add revenue and subtract expenses on the equity side. For example, the wage payment
in transaction (7) reduces cash by 10 and increases expenses by 10. Since expenses are subtracted,
the two sides both fall by 10.
At the end of September, cash is $5,000 and the other assets are $35,000 of receivables plus $55,000
of equipment. Total assets are therefore $95,000. The bank loan remains $20,000, while the owners’
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claim consists of their $40,000 investment and the $35,000 profit earned during the month:
$5, 000 + $35, 000 + $55, 000 = $20, 000 + $40, 000 + $55, 000 − $20, 000 .
|
{z
} | {z } |
{z
}
Liabilities
Assets: $95,000
Equity: $75,000
4 Four Statements, One Business
Pear ends September with $95,000 of assets, but only $5,000 of that amount is cash. It also
earned $35,000 of profit before month-end adjustments. These figures describe different aspects
of the business, so we organize the information from our eight transactions into four financial
statements. Together, the statements show how revenue and expenses produced September’s profit,
how that profit increased equity, what Pear owned and owed at month-end, and how cash receipts
and payments left $5,000 in the bank.
Begin with the month’s performance. The income statement reports revenue, expenses, and net
income over a period of time. For Pear, that period is the month ended September 30, 2026. We
take the revenue from the services performed during September and subtract the expenses incurred
during September:
Pear Company — Income Statement
Before month-end adjustments
For the month ended September 30, 2026
CAD $000
Service revenue
Wage expense
Rent expense
55
10
10
Total expenses
20
Net income
35
The $55,000 of service revenue combines $15,000 from the customers who paid immediately and
$40,000 from the university work. Recall why the university’s full invoice belongs here: Pear completed the project during September, even though most of the cash will arrive later. Against that
revenue we set $20,000 of wage and rent expenses. The resulting $35,000 of net income describes
what Pear earned after these expenses, before month-end adjustments.
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The income statement’s purpose is to calculate net income by bringing together the period’s revenue
and expenses. To understand how Pear financed the business, what it owns and owes, and how its
cash balance changed, we turn to the other financial statements.
Having measured profit, we can follow its effect on the owners’ claim. The owners supplied $40,000,
but our expanded equation gave ending equity of $75,000. The additional $35,000 is the profit
we have just reported. The statement of changes in equity makes that connection explicit by
explaining how the opening equity balance became the closing balance during the period. Pear
began with no equity, issued $40,000 of shares, and earned $35,000. It paid no dividends, which are
distributions to shareholders.
Pear Company — Statement of Changes in Equity
Before month-end adjustments
For the month ended September 30, 2026
CAD $000
Opening equity
Shares issued
Net income
0
40
35
Ending equity
75
This statement draws its net income directly from the income statement; we do not calculate a
different profit for the owners. The profit kept in the business is recorded in retained earnings:
accumulated profits after allowing for losses and distributions to shareholders. Since this is Pear’s
first month and it paid no dividends, retained earnings equal the month’s $35,000 net income. We
can therefore describe the $75,000 of total equity as $40,000 of share capital plus $35,000 of retained
earnings. Those components distinguish what owners contributed from what Pear earned.
The word ‘retained’ can cause confusion here. If Pear kept $35,000 of profit in the business, why
does it have only $5,000 in the bank? Recall that equity is a claim on all the assets, including
receivables and equipment. Retained earnings describe the accumulated contribution of profit to
that claim; they do not identify a separate cash reserve. To see the resources supporting the claim,
we need to bring the asset balances alongside the liability and equity balances.
That is the job of the balance sheet, which reports assets, liabilities, and equity at a particular
date. We use the closing balances after Pear’s eight transactions, including the $75,000 of equity
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just explained. Its heading says ‘at September 30’, while the income statement and statement of
changes in equity say ‘for the month ended September 30’. The distinction follows from the question
each answers: the first two statements explain activity during September; the balance sheet shows
the position reached at the end of it.
Pear Company — Balance Sheet
Before month-end adjustments
At September 30, 2026
CAD $000
Assets
Cash
5
Liabilities
Bank loan
20
Accounts receivable
35
Total liabilities
20
Total current assets
Equipment
40
55
Equity
Share capital
Retained earnings
40
35
Total equity
75
Total liabilities and equity
95
Total assets
95
Reading down the assets, we can see where the $95,000 is held. Cash and accounts receivable are
grouped as current assets, resources already in cash or expected to be converted into cash or used
in the near term. Here, $5,000 is available now and the university’s remaining $35,000 payment is
due next month. Equipment appears separately because Pear expects to use it over several years.
As with the checkpoint after the equipment purchase, the composition matters: having $95,000 of
assets does not mean having $95,000 available for the next bill.
On the claims side, Pear owes the bank $20,000. After allowing for that obligation, the owners’
residual claim is $75,000, with the same share capital and retained earnings we have just explained.
We can check the balance sheet either as assets equal liabilities plus equity, $95,000 = $20,000
+ $75,000, or as assets minus liabilities equal equity, $95,000 - $20,000 = $75,000. The financial
statement presents the accounting equation using the ending balances from our records.
Agreement between those totals is a useful check on our construction. It does not establish that
$95,000 is what someone would pay to buy Pear or that every asset could be turned into cash
immediately. The balance sheet records the resources and claims arising from the events we have
accounted for. Even its cash figure answers only how much remains at September 30. To understand
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how Pear arrived at that balance, we need to follow the month’s receipts and payments.
The statement of cash flows supplies that explanation. Like the income statement, it covers
a period, but it groups cash receipts and payments using the operating, investing, and financing
activities introduced at the start of Pear’s month. We now apply those categories specifically to cash
movements. Customer collections and payments for wages and rent belong to operating activities,
the equipment purchase is an investing outflow, and the share issue and bank loan are financing
inflows. As in the transaction-effects table, negative amounts appear in red parentheses. Since the
statement uses thousands of Canadian dollars, (10) means a $10,000 cash outflow.
Pear Company — Statement of Cash Flows
Before month-end adjustments
For the month ended September 30, 2026
CAD $000
Operating activities
Customers pay for setup services
The university pays part
Pear pays wages
Pear pays rent
Net cash from operating activities
Investing activities
Pear buys equipment
15
5
(10)
(10)
0
(55)
Net cash from investing activities
Financing activities
Owners invest
Bank lends money
(55)
Net cash from financing activities
Cash
Beginning cash
60
Increase in cash
5
Ending cash
5
40
20
0
Start with operating activities. Pear received $15,000 from the first customers and $5,000 from
the university, then paid the same total amount for wages and rent. Net operating cash flow is
therefore zero. The university’s $5,000 payment appears here because cash arrived in September,
even though collecting it did not create new revenue. Conversely, the remaining $35,000 of the
invoice is absent from cash receipts because it has not arrived. The same transaction records
support both statements; which amounts we use depends on whether we are explaining revenue
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earned or cash collected.
With operating receipts and payments cancelling, the cash remaining must come from the other activities. The $55,000 equipment purchase is the only investing cash flow. Financing provides $60,000:
$40,000 from shareholders and $20,000 from the bank. Adding the three categories gives:
$0 −
|{z}
Operating
$55, 000
| {z }
Investing outflow
+
$60, 000
| {z }
Financing inflow
=
$5, 000
| {z }
.
Increase in cash
Pear began with no cash, so adding this $5,000 increase to the zero opening balance gives $5,000 of
ending cash. That is the cash asset reported on the balance sheet. The increase and ending balance
happen to have the same value in this first month; in a later month, we would add the month’s
change to whatever cash Pear already held at the beginning.
We have now reached the balance sheet by two routes. Following revenue and expenses led us
through profit to ending equity. Following receipts and payments led us to ending cash. The way
amounts reported in one statement carry into another is called articulation. Figure 1 brings those
connections together.
Income statement
Net income: 35
Changes in equity
Ending equity: 75
Balance sheet
Equity: 75
Cash: 5
Cash flows
Ending cash: 5
Figure 1: Pear’s statement connections before month-end adjustments. Amounts are in thousands
of Canadian dollars; arrows show where reported amounts carry into another statement.
Following the upper arrows, the income statement’s $35,000 net income enters the statement of
changes in equity. Adding the $40,000 share issue gives $75,000 of ending equity, which carries into
the balance sheet. The lower arrow carries the cash flow statement’s $5,000 ending cash into the
balance sheet’s cash account.
These connections give us checks beyond balancing the accounting equation. The profit used to
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explain equity must agree with the income statement, and the cash obtained from receipts and
payments must agree with the cash asset reported at month-end. Following both routes also shows
why we should not expect profit to equal cash. Profit contributes to the owners’ claim on all of
Pear’s assets, while cash is one particular asset. We can now trace the transactions that put numbers
on that distinction.
5 Profit, Cash, and What the Statements Can Tell Us
Pear’s statements bring us back to the question raised by Apple: how can a company report a profit
that differs from its increase in cash? For Pear, we can answer by identifying every event behind
the difference. That explanation will also help us judge what the statements reveal about its ability
to make payments.
5.1 Explaining the Difference
Start with Pear’s $35,000 profit and work toward its $5,000 ending cash. The income statement
includes $55,000 of revenue, but Pear has collected only $20,000 from customers. We already know
where the unpaid part is recorded: accounts receivable rose from zero to $35,000. Subtracting that
increase from profit removes the revenue that has not yet produced cash. This does not undo the
revenue earned; it translates the performance measure into a cash measure.
We also need to ask whether the expenses and cash payments differ. Both expenses in this example
were paid during September, so the $20,000 deducted for wages and rent already equals the operating
payments. No further change is needed for them. Net income of $35,000 less the $35,000 increase
in receivables gives zero operating cash flow, agreeing with the $20,000 of receipts less $20,000 of
payments in the cash flow statement.
That gets us from profit to operating cash flow, but we still have to account for investing and
financing. Pear spent $55,000 on equipment and received $60,000 from owners and the bank. These
events moved cash without entering the month’s profit. Including them, and then adding beginning
cash, completes the reconciliation:
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CAD $000
Net income before month-end adjustments
Less: increase in accounts receivable
35
(35)
Net cash from operating activities
Purchase of equipment
Shares issued to owners
Bank borrowing
0
(55)
40
20
Increase in cash
Beginning cash
5
0
Ending cash
5
The $30,000 difference between profit and ending cash therefore has several parts. Uncollected
revenue takes us from $35,000 of profit to zero operating cash flow. The equipment purchase and
financing then leave $5,000 of cash from a zero opening balance. We can explain the full difference
because we can identify every event in Pear’s first month. A company with additional kinds of
transactions would require us to account for their effects, too.
The distinction between earning revenue and collecting payment is part of accrual accounting,
the approach we have used throughout Pear’s month. Revenue is recorded when it is earned, and
expenses are recorded as resources are used or obligations are incurred. Cash flows record receipts
and payments. For the university project, this meant recognizing the completed work when Pear
earned the right to be paid, then tracking how much of that right remained uncollected.
Looking across the transactions shows when these two ways of describing activity coincide and
when they separate. Amounts in the following table are in thousands of Canadian dollars, before
month-end adjustments.
September cash
Accrual record
Customer work
Wages and rent
Equipment
20 collected
20 paid
55 paid
55 revenue
20 expense
55 asset
Operating result
0 cash flow
35 profit
For customer work, the timing differs: all the services were performed in September, but some
payment remains outstanding. For wages and rent, use and payment fall in the same month, so the
two columns agree. Equipment adds another timing question. Pear paid for it in September, but
expects to use it over several years. The $55,000 payment belongs in September’s cash flows, while
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the initial asset record preserves the resource that remains available for use.
The equipment row also identifies what our initial records have yet to address. Some equipment
use belongs to September, so we still need a month-end adjustment for that use, as well as interest
on the loan. We will make those adjustments in A2. The $35,000 profit developed here belongs to
the eight transactions as recorded so far. Even at this stage, however, we can explain why the bank
balance alone cannot measure Pear’s performance.
5.2 Interpreting the Business
We have worked forward from Pear’s events to its cash balance. Could we reverse that process if
we knew only that it had $5,000 in the bank? Consider Startup B, which begins September with
nothing and has only two events: its owners invest $15,000, and it pays $10,000 of expenses. Its
ending cash is $15,000 minus $10,000, or $5,000, exactly the same as Pear’s.
Startup B earned no revenue. Its $10,000 of expenses produce a $10,000 loss, reducing the owners’
initial $15,000 claim to $5,000. It has no other assets or liabilities.
CAD $000
Ending cash
Revenue
First-pass net income (loss)
Other assets
Liabilities
Equity
Pear
Startup B
5
55
35
90
20
75
5
0
(10)
0
0
5
The comparison shows why we cannot recover profit from a cash balance alone. Pear has earned
revenue, bought equipment, and borrowed money; Startup B has spent part of its owners’ contribution without earning revenue. Both routes end with $5,000 in the bank. To distinguish their
performance and financial positions, we need the other records, including Pear’s $35,000 receivable
and $20,000 loan.
Having more information does not settle every decision, though. Suppose you are asked to lend Pear
another $20,000. Compared with knowing only its bank balance, you can now see that it has earned
a positive first-pass profit and that operating activities have generated no net cash so far. A lender
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needs to be repaid in cash, so the reconciliation directs attention to the $35,000 receivable. That
balance identifies cash Pear expects to collect, and its timing matters for the proposed loan.
The first question is whether the university will pay the remaining invoice in full and on time. That
leads to a second: how much must Pear pay in wages, rent, and other bills before the cash arrives?
The receivable records a right to collect, but it does not put money in the bank today. Even a
business that completes profitable work can face a payment problem if its bills fall due before its
customers pay.
Looking beyond the outstanding invoice, we would need evidence that customers will continue
buying Pear’s services. One month of revenue does not establish that September’s $55,000 will
repeat. The balance sheet also points to the existing $20,000 loan: we know the principal is due
in five years, but would investigate its other terms and payment obligations before adding another
loan. Similarly, the $55,000 equipment balance tells us what Pear acquired at cost. To judge how
it might support future operations or repayment, we would need to know how much work it can
support and what cash it could raise if sold.
These are also gaps we would face if we tried to value Pear from its statements. A valuation
requires evidence about future demand, collection of receivables, and the equipment’s useful life and
productive capacity. Employees, processes, and the quality of the service may affect future results
even though we have not recorded them as assets. The statements describe the events recorded
through September 30. They help us identify what to investigate, but we still need evidence about
what happens after that date.
We can bring this way of reading the statements back to the decisions about Apple that opened
the lecture. We still need to understand its future business to judge an investment, loan, or job
opportunity, but we can now distinguish the information supplied by each reported amount. At
its September 27, 2025 year-end, the rounded balance sheet amounts satisfy the same equation we
used throughout Pear’s month:
73.7
359.2
| {z } + |{z}
| {z } = 285.5
Assets
Liabilities
(USD billions).
Equity
Just as Pear’s equation brings together its ending resources and claims, Apple’s equation describes
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its position at the reporting date. To understand the year’s activity, we turn to the other statements.
The opening numbers now have distinct places:
Measure
Net sales
Net income
Cash from operations
Ending cash
Increase in cash
Fiscal 2025
$416.2 billion
$112.0 billion
$111.5 billion
$35.9 billion
$6.0 billion
Statement
Income statement
Income statement
Cash flows
Balance sheet
Cash flows
Apple’s $35.9 billion ending cash is the amount held at the reporting date; the $6.0 billion increase
is how much that amount changed during the year. Unlike Pear’s first month, the company had
cash at the beginning, so the two amounts differ. Its $111.5 billion of operating cash flow is one
part of that change, with investing and financing explaining the rest. The $112.0 billion of net
income answers the performance question: revenue less expenses during the year. Pear’s example
has shown why that measure need not agree with either operating cash flow or the total change in
cash; Apple’s particular differences must be explained from its own records.
To develop that ability, practise explaining why each of Pear’s events changes the accounts it does,
then trace the resulting balances into the statements. If the statements do not agree, return to the
events and ask where the connection broke. We will build on that process in A2 by introducing
systematic recording and the month-end adjustments still missing from Pear’s first-pass profit.
A3 will add inventory, and A4 and A5 will use the resulting information to develop the business
judgments we have begun to consider here.
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