APURE STATE COLLEGE OF PUBLIC ACCOUNTANTS

INSTITUTE OF PROFESSIONAL DEVELOPMENT (IDEPROCAP)

THE EQUITY EQUATION AND

THE THEORY OF POSITION AND
PASS
Introduction to Financial Accounting

Atty. Elier J. Spain b.

May 2013

Introductory theoretical material is presented on the concepts of accounting as a financial

information system, and its essential operations for the accounting process.

San Fernando de Apure, Apure State.

Accounting in Organizations
Accounting is a means of communication or transmission of information about aspects
of a subject's financial situation. It allows you to issue and understand an unlimited number
of messages in this regard. It has a fundamentally practical purpose: to offer useful
information for making economic decisions. Specifically, business decision making.

Therefore, accounting is rightly referred to as a language, that is, the accounting language
or the language of business . This language in turn leads to the representation of reality to
which they refer: the reasonableness of the financial situation of an economic entity.More
specifically, accounting is a quantitative information system that transforms data into
information, aimed at providing useful information so that users can make their economic
decisions under appropriate conditions.

The primary objective of accounting in any organization is to provide information concerning

the nature and value of an entity's assets , the obligations contracted, what we have called
respectively: Assets, Liabilities and Net Worth ; It must also report the effects caused to the
three aforementioned elements, as a result of the operations, effects that can translate into
a profit or loss .

Classification of Organizations
Public or private organizations can be classified according to different criteria such as:

a) According to the owners of the assets

b) Depending on the economic activity they carry out
c) Depending on the benefit they offer
d) According to Venezuelan legal provisions.

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 CLASSIFICATION CRITERIA
ACCORDING TO THE OWNERS OF THE
HERITAGE
ACCORDING TO ECONOMIC ACTIVITY
ACCORDING TO THE BENEFIT THEY OFFER -Non profit
ACCORDING TO VENEZUELAN LEGAL
PROVISIONS
CLASSIFICATION
-Individual or sole proprietorships
-Personal Companies
-Capital Companies
-Trading companies
-Manufacturing
-Industrial business
-Extraction
-Service Companies
-For Profit
-Governmental or State
Civil Code (art. 19)
-Associations
-Foundations
-Corporations
Commercial Code (art. 200 and art. 201)
Trading Companies
-Company in Collective Name
-Commanded Company
-Anonymous company
-Limited Liability Company
LOTTT (art. 353)
-Unions
Cooperative Associations Law (art. 2)
-Cooperatives

Transaction or Accounting Event

In the study of accounting it is classic to explain that, in the development of the entity's
economic activity, a series of events occur that are called economic events .
Only those events that are likely to affect the entity's financial situation are considered
by accounting; these are called accounting events .

These accounting events are commonly called “transactions”, since they consist of
“exchanges between entities that modify the composition of resources and obligations,
through operation, investment and financing activities.

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 That is why it can be stated that accounting is correctly interpreting the meaning of
accounting facts .

The Patrimonial Equation

The resources and obligations acquired by the company represent its assets. In this
sense, the owners and other people related to the company (customers, suppliers,
employees, state agencies, banks and others) will be interested in knowing the financial
situation of the company, that is, the relationship that exists between the resources and the
obligations acquired by the company for a specific date.

The way to present this relationship is a mathematical equation that equates

RESOURCES to OBLIGATIONS.

RESOURCES = OBLIGATIONS

This equation is called the fundamental equation, the obligations are with the owners
or shareholders of the company, which represent, together with the entity, the first and
second part in the equation and with other companies or people to whom they are called
third parties. When presenting the segregated obligations, the fundamental equation is
presented as the equity equation .

RESOURCES = OBLIGATIONS TO THIRD PARTIES + OBLIGATIONS TO OWNERS

In the business world, resources are called ASSETS, obligations with third parties are
called LIABILITIES, and obligations with owners are called NET WORTH.

Taking into account these denominations for the elements of the equation, we could
express the equation like this:

ASSETS = LIABILITIES + NET EQUITY

The value of NET EQUITY will vary in an entity due to the changes that occur in
ASSETS and LIABILITIES.
These variations have the following origins:

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 Increase Decreases
-Complementary Contributions -Withdrawals
-Benefits -Losses

If we intend to know the origins of the quantitative variations in net worth due to results
(profits or losses), we will break down the "concept" of net worth into NET, itself, and into the
other component of RESULTS. Thus, the equity equation would be:
ASSETS = LIABILITIES + NET + RESULTS

If we go one step further and break down the components of the result, namely:

□ Positive components = INCOME

□ Negative components = EXPENSES
The equity equation will now be:

ASSETS = LIABILITIES + NET + INCOME - EXPENSES

By developing the equation, it will finally be this:

ASSETS + EXPENSES = LIABILITIES + NET + INCOME

We will define the way in which the terms that make up the equity equation should be
understood in accounting terms.
(a) An ASSET is a resource controlled by the entity as a result of past events, from
which the entity expects to obtain future economic benefits.
(b) EXPENSES are the decreases in economic benefits, produced throughout the
reporting period, in the form of outflows or decreases in the value of

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 (c) assets, or by the generation or increase of liabilities, which result in decreases in
equity, other than those related to distributions made to equity investors.
(d) A LIABILITY is a present obligation of the entity, arising as a result of past events,
at the expiration of which, it expects to release resources that incorporate economic
benefits.
(e) NET EQUITY is the residual part of the entity's assets, once all its liabilities have
been deducted.
(f) INCOME is the increases in economic benefits, produced throughout the reporting
period, in the form of inflows or increases in the value of assets, or as decreases in
obligations, which result in increases in equity, other than those related to contributions from
equity investors.

Theory of Charge and Credit

The theory of charge and credit refers to the technique where transactions are
collected respecting the equity equation. Each transaction affects the financial situation,
changes the values in the equity, but does not alter the equality of the equation.
ASSETS = LIABILITIES + NET
The convention used to record the movements of each of the elements of the equality
is the following, using the concept of account as a recipient of the variations of each
element:
HAS TO ASSETS HAS TO LIABILITIES HAS TO NET TO HAVE
Increases Decreases Decreases Increases Decreases Increases

The possible transactions between the different elements are reduced to nine, for
combination of them. These transactions are:
GIVE
S
HA DP HA
DN HA
GIVE HP DP HP DN H.
S
HN DP HN DN P.
GIVE
H

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 Being D a movement in the Debit of the account ( charge ), H a movement in the
Credit of the account ( credit ), and the subindexes: A= Asset, P=Liability, N=Net Equity.

If we develop the equation by breaking down its net component, we would have the
equation mentioned above, which is as follows:

ASSETS + EXPENSES = LIABILITIES + NET + INCOME

The convention of movements for expenses and income is the same as for net worth,
as they are breakdowns of the same, taking into account that expenses are negative items
and income is positive.

Has to BILLS To have Has to INCOME To have

Increases Decreases Decreases Increases

By adding this breakdown, the possible transactions described previously

they increase in the following:

GIV GA
ES
HG D H.G. D H VE H
GIV HI P
HI G G GA G
ES D D HI VE HI
The subscripts being G=Expenses, I=Income.

Accounting Process or Cycle

The life of the company is divided into time periods, at the end of which accounting
information is provided. These time periods are known as accounting periods. These
periods can cover the time that administrators and users deem appropriate, that is, monthly,
weekly, among others. Due to legal requirements, companies must submit financial
information on an annual basis, this period being known as the financial year or financial
year.

In summary, the accounting process or cycle, which is the set of operations aimed at

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rendering summary financial information, contains the following steps or phases:
1. Determination of the initial situation (Opening balance)
a) Registration of the opening entry in the Journal and its transfer to the
Ledger.
2. Registration of the operations of the period in the Journal and its transfer to
the Ledger.
3. Preparation of the Trial Balance.
4. Adjustment Process:
a) Contrast of Accounting Balances with Real Balances.
b) Formulation of the result of the period.
i. Due to accounting for operations not recorded during the period.
ii. By settling accounts according to its operation.
c) Registration of adjusting entries in the Journal and their transfer to the
Ledger.
5. Closing process.
a) Registration of closing entries in the Journal and their transfer to the ledger.

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