 Assets 

are all resources owned or controlled by the business. The business uses these items to
operate its activities, expecting a future benefit called profit. Without these resources, a business
wouldn’t exist and generate a profit.

Depending on how long the business intends to use an asset, there are two groups of
assets: current assets and non-current assets.

 Current assets are items that the business intends to keep for less than 12 months. The best
examples of current assets are inventory, cash, and accounts receivable.

Non-current assets are resources that the business expects to keep more for more than 12
months. Plants, machinery, buildings and land are good examples of non-current assets.

 We can also divide assets into tangible and intangible assets.

Tangible assets are all current and non-current assets that have physical substance and can be
touched.

In contrast, intangible assets have no physical substance. For example, trademarks, software, and

patents are such assets. The assets can be funded by creditors or by the owners.

The amount of all assets funded by creditors is known as liabilities. Liabilities are obligations to third
parties that must be paid back. Typical liabilities are a bank loan and account’s payable.

The amount of the assets funded by the owners is known as owners’ equity. Owners’ equity
consists of paid-in-capital, which shows all investments by the owners, and retained earnings, which
show the profit.
 The traditional accounting equation expresses the relationship between assets, liabilities and
owners' equity. The main idea behind the equation is that the total amount of all assets should equal
the sum of the amount owed to third parties and the amount invested by the owners. 

Thus, the accounting equation provides a clear picture of the business's financial situation. That's
why every business needs to understand the accounting equation's meaning and know what it
shows.

Suppose the value of owners' equity is higher than the value of liabilities. In that case, the business
is in an excellent financial position because more assets are acquired by business funds rather than
by debt.

 On the other side, if the value of liabilities is higher than the value of owners’ equity, the business is
in a critical financial position because more assets are acquired by debt rather than by capital. This
is a typical situation for companies that start out.
 Let's go through the following illustration:

Business “XY” owns machines, office equipment, inventory and money in the bank account. The
total value of all these items of the business is $350,000. The entity buys its machines and office
equipment with a bank loan of $140,000. The owners provide the inventory and the money in the
bank account. The amount of liabilities, in this case, is $140 000 and the value of the owner’s equity
is $210 000.

$350 000 Assets = $140 000 Liabilities + $210 000 Owners’ Equity

In this case, more assets are acquired by business funds rather than by debt and this shows that the
business is in an excellent financial position.

 Expanded Accounting Equation – Revenues and

Expenses

 Every business’ operating its activities incurs expenses and generates revenues.

When a business produces goods to be sold or prepares services to be delivered, it

either decreases its assets or increases its liabilities - it makes payments to suppliers or expects
to make payments to suppliers. This decrease in assets or increase in liabilities leads to a decrease
in owner’s equity. This decrease in owners’ equity is called expense.
 Typical examples of expenses are rent expenses, insurance expenses, electricity expenses, and
wages expenses.
 When a business sells goods or delivers services, it either increases its assets or decreases
its liabilities - it gets payments from customers or expects to obtain payments from
customers. This increase in assets leads to an increase in owner’s equity called revenue.


 The expanded accounting equation is similar to the traditional accounting equation, but it

shows all revenues that increase the owner’s equity and all expenses that decrease the
owner’s equity.
 Assets = Liabilities + Owner’s Equity + Revenues - Expenses

 Let’s look at the following illustration:
 An entity produces clothes. To produce the products, it pays wages of $ 54 000, byes fabric
material with a price of $14 000, pays $11 000 for electricity. The business pays the wages
immediately and will pay later the amount of materials and electricity. The payment of $54
000 is a cash decrease, and it decreases the owner’s equity by $54 000 in the form of
expenses. The remaining total amount of $15 000 is a liability, and this increase in liabilities
causes another decrease in owners’ equity in the form of expenses.
 The business sells part of the clothes produced for a total price of $89 000 cash. This positive
money flow increases assets and leads to an $89 000 increase in the owner’s equity in revenues.

 Transactions are business events that affect the business’s financial position and can be reliably
recorded in money terms. There are different types of transactions. Some transactions affect only
the left side of the accounting equation. Such transactions only transform one asset into another, but
the total amount of assets remains the same. Other transactions affect only the right side of the
accounting equation. These transactions transform one source of resources into another, and the
total amount of sources of a business’s assets remains the same.

Let’s see some examples:


o A business acquires inventory for $6 000 cash.
o A business makes a payment of $4 000 to one of its creditors.
o A business borrows a loan of $10 000 from a bank.
o This business event increases the inventory by $6000 and decreases the money by $6000. Both
affected objects are assets, and we can say that the form of the assets changes but the total amount
of assets is unchanged.

 Accounts and Rules

 An account is a tool for transaction recording. An account shows all changes in a particular asset,
liability, owners’ equity element, expense, or revenue caused by transactions. Every account has a
left side called Debit, and a right side called Credit.

 To make correct records on accounts, we have to follow and apply some rules.

1. When an asset or expense increases, this increase has to be placed on the left side of the
account.
2. When an asset or expense decreases, this decrease has to be placed on the right side of
the account.

3. When a liability, owner’s equity, or revenue increases, this increase has to be placed on
the right side of the account.

4. When a liability, owner’s equity, or revenue decreases, this decrease has to be placed on
the left side of the account.
 Having completed this module you will be able to:

o Define what an asset is.

o List the different types of Assets.

o State what a liability is.

o Explain what Owner's equity is.

o Indicate the role of the traditional accounting equation.

o Recall what is a transaction.

o Outline the different types of transactions.

o Define what an account is.

o Distinguish between Cash Accounting and Accrual Accounting.

o List the steps when recording transactions.

o Summarize what the double-entry accounting system is.