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Accounting equation and account classification 06052013

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Accounting equation and account classification 06052013

  2. 2. Basic Accounting EquationA = L + CASSETS = LIABILITIES + OWNER’S EQUITY
  3. 3. Assets Assets are resources controlled by an entity. Two major classifications: Current assets – are cash and other resourcesthat are reasonably expected to be realised incash or sold or consumed in the business within 1year of the reporting date or the business’soperating cycle, whichever is longer. Non-current assets – long-term assets
  4. 4. Assets Current Assets Cash Short-term investments (i.e., government bonds) Receivables Notes receivable Accounts receivable Interest receivable Prepaid expenses
  5. 5. Assets Non-current Assets Investment property – investments of thecompany in non-current assets other thanfinancial assets Property, plant and equipment – tangibleresources of a relatively permanent nature thatare used in the business and not intended forsale. Intangible assets – non-current resources that donot have physical substance(i.e., patents, copyrights, trademarks)
  6. 6. Liabilities Liabilities are claims against assets. Two major classifications: Current liabilities - are liabilities expected to besettled in the normal operating cycle of thebusiness or are due to be settled within 12months after the end of the reporting period. Accounts Payable Salaries Payable Utilities Payable
  7. 7. Liabilities Two major classifications: Non-current liabilities – obligations expected tobe paid after 1 year or after an operating cycle Bonds payable Mortgages payable Long-term notes payable
  8. 8. Owner’s Equity The ownership claim on total assets. The content of the owner’s equity sectionvaries with the form of business entity.Type of business Equity accountSole-proprietorship One capital accountPartnership One capital account for each partnerCorporationShare capital, Reserves, Retained earnings(Shareholders equity)
  9. 9. Increases in Owner’s Equity Investments by owner are the assets theowner puts into the business. Income is the gross increase in owner’s equityresulting from business activities entered intofor the purpose of earning profit. Revenue arises in the course of ordinary activitiesof the business. Gain arises from events that are not part of abusinesses ordinary course of activities.
  10. 10. Decreases in Owner’s Equity Drawings are withdrawals by the owner ofcash or other assets for personal use. Expenses are the costs of assets consumed orservices used un the process of earningincome. Salaries expense Utilities expense Rent expense Depreciation expense Interest expense
  11. 11. Owner’s Equity Profit results when revenue exceedsexpenses. Loss occurs when expenses exceed revenue.
  12. 12. Basic Accounting EquationA = L + CASSETS = LIABILITIES + OWNER’S EQUITY
  13. 13. Accounting Equation Basic Accounting EquationASSETS = LIABILITIES +OWNER’S EQUITY Expanded Basis Accounting EquationASSETS = LIABILITIES + OWNER’S CAPITAL –OWNER’S DRAWINGS + REVENUE –EXPENSES
  14. 14.  A transaction is an exchange of values(stated in terms of money) between twoparties. In every transaction there is value receivedand value parted with. This is the dual effectof a business transaction which gave rise todouble-entry bookkeeping.Double-entry System Each transaction affects at least two accounts(one debited, one credited)Transaction Analysis
  15. 15.  Source of Assets – An asset accountincreases and a corresponding claims(liabilities or owner’s equity) accountincreases. Examples: Investment of cash by the owner Purchase of supplies on accountIncrease in Assets = Increase in Owner’s EquityIncrease in Assets = Increase in LiabilitiesTypes and Effects ofTransactions
  16. 16.  Exchange of Assets – One asset accountincreases and another asset accountdecreases. Examples: Equipment purchased on cash Collection of Accounts ReceivableIncrease in One asset = Decrease in another AssetTypes and Effects ofTransactions
  17. 17.  Use of Assets – An asset account decreasesand a corresponding claims (liabilities orequity) account decreases. Examples: Withdrawal of cash by the owner Payment of Accounts PayableDecrease in Assets = Decrease in Owner’s EquityDecrease in Assets = Decrease in LiabilitiesTypes and Effects ofTransactions
  18. 18.  Exchange of claims – One claims (liabilitiesor owner’s equity) account increases andanother claims (liabilities or owner’s equity)account decreases. Examples: Received bill for utilities but the owner did not payyetIncrease in Liabilities = Decrease in Owner’s EquityIncrease in Owner’s Equity = Decrease in liabilitiesIncrease in one Liability = Decrease in another LiabilityIncrease in one Owner’s Equity = Decrease in another Owner’s EquityTypes and Effects ofTransactions
  19. 19. Analyzing BusinessTransactions Account – is an individual accounting recordof increases and decreases in a specificasset, liability or owner’s equity item. Consists of three parts: The title of the account Left or debit side Right or credit side
  20. 20. Analyzing BusinessTransactions T account – a simplified format of account thatresembles the letter T.Left or debit side Right or credit sideDebit balance Credit balanceTitle of account
  21. 21. Debits and Credits Debit Indicates left Abbreviated as Dr Came from the Latin word debere which originallymeant ‘debtor’ Credit Indicates right Abbreviated as Cr Came from the Latin word credere whichoriginally meant ‘creditor’
  22. 22. Debits and CreditsASSETS = LIABILITIES +OWNER’S EQUITYLeft or debit sideASSETSRight or credit sideLIABILITIES AND OWNERS EQUITY(REVENUE - EXPENSE)Debit balance Credit balanceTitle of account

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