Accounting Equation and Business Documents: notes

The Accounting Equation

• Assets: Things a business owns that have value, such as cash, equipment, or stock. Example: a shop owns $500 cash and $300 equipment, so assets are $800.
• Liabilities: Money the business owes to others, such as a supplier bill. Example: the shop owes $200 to a supplier.
• Capital: The owner's stake in the business. Example: capital is assets minus liabilities, so $800 minus $200 gives $600.
• Accounting equation: Assets equal liabilities plus capital. Example: $800 equals $200 plus $600.

Effect of Transactions

• Every transaction affects the equation: Each deal changes at least two parts, so the equation always balances. Example: buying $100 stock for cash raises stock by $100 and lowers cash by $100, so assets stay the same.
• Owner pays in money: Capital and assets both go up. Example: the owner adds $400 cash, so assets and capital both rise by $400.

Source Documents

• Invoice: A bill sent by the seller asking the buyer to pay. Example: an invoice for $150 for goods sold on credit.
• Credit note: Sent by the seller to reduce what the buyer owes, often for returned goods. Example: a $30 credit note for damaged goods.
• Debit note: Sent by the buyer to show a claim against the seller, often for goods returned. Example: a $30 debit note for goods sent back.
• Receipt: Proof that money was paid. Example: a receipt for $150 cash received.
• Statement: A summary of all transactions with one customer over a period. Example: a statement showing $150 owed at the start, $100 paid, and $50 still due.
• Cheque: A written order to a bank to pay money from the writer's account. Example: a cheque for $75 paid to a supplier.

Accounting Concepts

• Business entity: The business is kept separate from its owner. Example: the owner's personal $50 for food is not a business expense.
• Money measurement: Only items that can be given a money value are recorded. Example: the staff's skill is not recorded, but a $200 van is.
• Historic cost: Assets are recorded at their original purchase price. Example: a machine bought for $900 stays recorded at $900.
• Going concern: The business is assumed to keep running. Example: equipment is recorded at cost, not at its scrap value.
• Prudence: Losses are recorded early, but profits are only recorded when earned. Example: a likely $40 bad debt is recorded now.
• Consistency: The same methods are used from year to year. Example: a shop uses the same stock valuation method each year.