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The Accounting Equation. Chapter 1.1. What is Accounting?. Accounting- planning, recording, analyzing, and interpreting financial information Accounting System- planned process for providing financial information useful to management

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The Accounting Equation

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The accounting equation

The Accounting Equation

Chapter 1.1

What is accounting

What is Accounting?

  • Accounting- planning, recording, analyzing, and interpreting financial information

  • Accounting System- planned process for providing financial information useful to management

  • Accounting records- organized summaries of a business’s financial activities

The accounting equation

Accounting is THElanguage of business.

Who uses accounting info

Who Uses Accounting Info?

  • Owners, managers, accounting personnel use accounting to understand what is happening within accounts

  • Suppliers use accounting to interpret financial activities represented by financial statements

    • Financial Statements- reports that summarize financial condition and operations of a company

  • Government- uses accounting records to assess taxes

What if accounting goes wrong

What If Accounting Goes Wrong?

  • Inaccurate accounting records often lead to business failure or bankruptcy.

  • Failure to understand accounting can lead to poor decision making.

What is a business entity

What is a Business Entity?

  • BUSINESS ENTITY is the accounting concept applied when a business’s financial information is recorded and reported separately from the owner’s personal financial information.



  • Proprietorship (sole proprietorship)- business owned by one person

    • Can include service businesses- provide services for a fee

    • Can include retail businesses- provide goods/products

Sole proprietorship

Sole Proprietorship

  • Advantages

    • Ease of formation

    • Total control by owner

    • Profits are not shared

  • Disadvantages

    • Limited resources

    • Unlimited liability

    • Limited expertise

    • Limited life

    • Obligations to follow both the laws of the federal government and the state in which it is formed



  • Why do you think more businesses organize as proprietorships than any other form of business organization?

  • What kinds of people do you think would be most successful as owners of a proprietorship?

The accounting equation1

The Accounting Equation


  • Shows the relationship between assets, liabilities, and owner’s equity


The accounting equation2


page 8


The accounting equation3

The Accounting Equation

  • Asset- anything of value that is owned; have value because they can be used to acquire other assets or operate a business

  • Equities (financial rights to assets):

    • Liability- any amount owed by a business to another entity (supplier, bank, etc)

    • Owner’s Equity- amount remaining of assets after all liabilities have been paid




Complete On Your Own 1-1 on page 9 and turn it in.

How business activities change the accounting equation

How Business Activities Change the Accounting Equation

Chapter 1.2

Business transactions

Business Transactions

  • Transaction- a business activity that changes assets, liabilities, or owner’s equity

    • Every transaction changes the amounts in the accounting equation

What is a unit of measurement

What is a Unit of Measurement?

  • The accounting concept of UNIT OF MEASUREMENT is applied when business transactions are stated in numbers with common values (common units)

    • This concept is followed so financial reports are clearly stated and understood and can be compared

Recording activity

Recording Activity

  • A record summarizing all the information pertaining to a single item in the accounting equation is called an ACCOUNT

  • Account Title-name given to the account (simple info, but very important)

  • Account Balance- amount in the account (again, simple, but very important)

Capital account

Capital Account

  • Capital- account summarizing the owner’s equity of a company

Transactions and the accounting equation

Transactions and the accounting equation

  • One single item impacts BOTH sides of the accounting equation

  • However, the accounting equation is still BALANCED

Receiving cash

Transaction 1August 1. Received cash from owner as an investment, $5,000.00.


page 10


Paying cash

Transaction 2August 3. Paid cash for supplies, $275.00.


page 11

Transaction 3August 4. Paid cash for insurance, $1,200.00.


Transactions on account

Transaction 4 August 7. Bought supplies on account from Supply Depot, $500.00.


page 12

Transaction 5 August 11. Paid cash on account to Supply Depot, $300.00.




  • Work Together 1-2, page 13

  • On Your Own 1-2, page 13

How transactions change owner s equity

How Transactions Change Owner’s equity

Chapter 1.3

Received cash from sales

Received Cash from Sales

  • Revenue- an increase in owner’s equity due to operations of business

    • When cash is received, the total amount of both assets and owner’s equity is increased

  • Transactions for sales of goods or services result in an INCREASE in owner’s equity

Sold services on account

Sold Services on Account

  • Sale on Account- sale for which cash will received at a later date

    • aka “Charge Sale”

  • Regardless of when payment is actually made, revenue should be recorded at the time of sale

Realization of revenue


  • Accounting Concept: Regardless of when payment is actually made, revenue should be recorded at the time of sale

Revenue transactions

Transaction 6 August 12. Received cash from sales, $295.00.


page 14

Transaction 7 August 12. Sold services on account to Oakdale School, $350.00.


Expense transactions

Expense Transactions

  • Expense- decrease in owner’s equity resulting from the operation of business

    • Transactions to pay for goods or services needed to pay for operations of business

Paid cash for expenses

Paid Cash for expenses

  • When paying cash for expenses:

    • Cash is decreased

    • Owner’s equity is decreased

  • Expenses could be:

    • Rent, supplies, advertising, equipment rental or repair, charitable contributions, misc.

Expense transactions1

Transaction 8 August 12. Paid cash for rent, $300.00.


page 15

Transaction 9 August 12. Paid cash for telephone bill, $40.00.


Other transactions

Other Transactions

  • Receive cash on account:

    • Increase Cash, decrease Accounts Receivable

  • Paid cash to owner for personal use:

    • Withdrawal- assets taken out for owner’s personal use

    • Decrease asset (Cash), decrease Owner’s Equity

Other cash transactions

Transaction 10 August 12. Received cash on account from Oakdale School, $200.00.


page 16

Transaction 11 August 12. Paid cash to owner for personal use, $125.00.




  • Work together 1-3 on page 17

  • On Your Own 1-3 on page 17

The accounting equation


  • Generally Accepted Accounting Principles designed to guide all financial business practices

  • Provides conformity and financial information is consistent across companies

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