Topic 3 - Accounting Equation

Accounting Topic Equation and Financial Statement

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Learning Learning Objectives Objectives  Explain the concept and accounting equation  Identify effects of business transactions on the accounting equation  Prepare financial statement

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Concept Concept of of Accounting Accounting Equation Equation  Accounting equation present the resources of the business and claims to those resources  Assets are the resources owned by a business  Equities are the rights or claims against these resources  Equities divided into :  1) Claims of creditor (Liabilities)  2) Claims of owner (Owner Equity) Larson, Wild, Chiapetta, Ropidah, Haslinda, Aryati, Liana

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Concept Concept of of Accounting Accounting Equation Equation (con’t) (con’t) Asset

= Liabilities + Owner’s Equity

(economic resources) (claims to economic resources)  Asset must equal to the sum of liabilities and owner’s equity  Because creditors’ claims are paid before ownership claims if a business is liquidated, liabilities are shown before owner’s equity  Accounting equation applies to all economic entities regardless of size, nature of business or form of business organisation  The equation provides the underlying framework for recording and summarizing the economic events of a business enterprise.

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Accounting Accounting Equation Equation Assets Assets

=

Liabilities Liabilities

Assets

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+

Equity Equity

Liabilities & Equity

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Assets Assets Cash Cash Accounts Accounts Receivable Receivable

Vehicles Vehicles

Resources Resources owned owned or or controlled controlled by by aa company company

Store Store Supplies Supplies Larson, Wild, Chiapetta, Ropidah, Haslinda, Aryati, Liana

Notes Notes Receivable Receivable

Land Land

Buildings Buildings Equipment Equipment © The McGraw-Hill Companies, Inc., 2007

Liabilities Liabilities Accounts Accounts Payable Payable

Notes Notes Payable Payable

Creditors’ Creditors’ claims claims on on assets assets Taxes Taxes Payable Payable Larson, Wild, Chiapetta, Ropidah, Haslinda, Aryati, Liana

Wages Wages Payable Payable © The McGraw-Hill Companies, Inc., 2007

Equity Equity Owner Owner Withdrawals Withdrawals

Owner Owner Investments Investments

Owner’s Owner’s claims claims on on assets assets Revenues Revenues Larson, Wild, Chiapetta, Ropidah, Haslinda, Aryati, Liana

Expenses Expenses © The McGraw-Hill Companies, Inc., 2007

Expanded Expanded Accounting Accounting Equation Equation

=

Assets Assets

Owner Owner Capital Capital

_

Liabilities Liabilities

Owner Owner Withdrawals Withdrawals

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+

+ Revenues Revenues

Equity Equity

_

Expenses Expenses

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Transaction Transaction Analysis Analysis Equation Equation The accounting equation must remain in balance after each transaction.

Assets Assets

=

Liabilities Liabilities

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+

Equity Equity

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Transaction Transaction Analysis Analysis -- Example Example J. Scott, the owner, contributed $20,000 cash to start the business. The accounts involved are: (1) (2)

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Transaction Transaction Analysis Analysis 1)J. Scott, the owner, contributed $20,000 cash to start the business.

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Transaction Transaction Analysis Analysis 2) Purchased supplies paying $1,000 cash. The accounts involved are: (1) (2)

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Transaction Transaction Analysis Analysis 2)Purchased supplies paying $1,000 cash.

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Transaction Transaction Analysis Analysis 3)Purchased equipment for $15,000 cash. The accounts involved are: (1)) (2))

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Transaction Transaction Analysis Analysis 3)Purchased equipment for $15,000 cash.

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Transaction Transaction Analysis Analysis 4)Purchased Supplies of $200 and Equipment of $1,000 on account. The accounts involved are: (1) (2) (3)

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Transaction Transaction Analysis Analysis 4.Purchased Supplies of $200 and Equipment of $1,000 on account.

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Transaction Transaction Analysis Analysis 5) Borrowed $4,000 from 1st American Bank. The accounts involved are: (1) (2)

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Transaction Transaction Analysis Analysis 5)Borrowed $4,000 from 1st American Bank.

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Transaction Transaction Analysis Analysis The balances so far appear below. Note that the Balance Sheet Equation is still in balance.

Now let’s look at transactions involving revenue, expenses and withdrawals. © The McGraw-Hill Companies, Inc., 2007

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Transaction Transaction Analysis Analysis 6) Rendered consulting services receiving $3,000 cash. The accounts involved are: (1) (2)

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Transaction Transaction Analysis Analysis Rendered consulting services receiving $3,000 cash.

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Transaction Transaction Analysis Analysis 7) Paid salaries of $800 to employees. The accounts involved are: (1) (2) .

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Transaction Transaction Analysis Analysis 7) Paid salaries of $800 to employees.

Remember that expenses decrease equity. Larson, Wild, Chiapetta, Ropidah, Haslinda, Aryati, Liana

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Transaction Transaction Analysis Analysis 8) J. Scott withdrew $500 from the business for personal use. The accounts involved are: (1) (2)) .

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Transaction Transaction Analysis Analysis 8)J. Scott withdrew $500 from the business for personal use.

Remember that withdrawals decrease equity. Larson, Wild, Chiapetta, Ropidah, Haslinda, Aryati, Liana

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Financial Financial Statements Statements Let’s prepare the Financial Statements reflecting the transactions we have recorded. 1. Income Statement 2. Statement of Owner’s Equity 3. Balance Sheet 4. Statement of Cash Flows

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Profit is the difference between Revenues and Expenses.

The income statement describes a company’s revenues and expenses along with the resulting profit or loss over a period of time due to earnings activities. Larson, Wild, Chiapetta, Ropidah, Haslinda, Aryati, Liana

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The profit of $2,200 increases Scott’s capital by $2,200. The Statement of Owner’s Equity explains changes in equity from profit (or loss) and from owner investments and withdrawals for a period of time.

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The The Balance Balance Sheet Sheet describes describes aa company’s company’s financial financial position position at at aa point point in in time. time. Owner’s Equity in Balance Sheet

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From Statement of Owner’s Equity Larson, Wild, Chiapetta, Ropidah, Haslinda, Aryati, Liana

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The Statement of Cash Flows identifies cash inflows and cash outflows over a period of time. Larson, Wild, Chiapetta, Ropidah, Haslinda, Aryati, Liana

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