Week 2

Accounting Classification and Equation

Learning Objectives

Students should be able to explain :

1. Accounting equation
2. Profit determination
3. Accounting cycle

P1
THE ACCOUNTING EQUATION

Assets = Equities

What the business own Owner-supplied funds to

business

Equities = Liabilities + Owner’s Equity(also known as Capital)

Claims of creditors on the Capital invested by the

assets of business owners

Assets = Liabilities + Owner’s Equity

 Assets
Resources owned by the business
Economic resources that are of value to the business
Land, buildings, equipment, inventory / stock, prepayments, cash
in bank, cash in hand
 Assets

Non-Current Assets/Fixed Assets

• Those assets which have a useful life of more than one
year.
• These assets are bought not for resale but for use in the
running of the business, with the hope of making profits.
• Examples : land & buildings, machinery, fixtures fittings,
office equipment and motor vehicles.

Current Assets
• Those assets that are either cash, or these assets which
are expected to be converted into cash, within a year.
• Examples : inventory, accounts receivable, prepaid
expenses and cash.
 ACCOUNT RECEIVABLE = DEBTOR
• Money owed by customers (individuals or
corporations) to another entity in exchange for
goods or services that have been delivered or used,
but not yet paid for. 
• Receivables usually come in the form of operating
lines of credit and are usually due within a relatively
short time period, ranging from a few days to a year.
• On a public company's balance sheet,  accounts
receivable is often recorded as an asset because this
represents a legal obligation for the customer to
remit cash for its short-term debts
 Liabilities

• Liabilities are amounts due or the present

obligations of a business to pay cash,
transfer assets, or provide services to other
parties in the future.
• Long term loans, bonds, notes payable, bill
payable, account payable, accruals, bank
overdraft
Say you borrowed
RM5 from your friend
Your friend
for lunch. You have a You

liability or debt of
RM5. You friend is
your creditor.
Liability- RM5 Your creditor
 Liabilities
Long-term Liabilities
• Financial indebtedness or obligations of the business that
are expected to be paid only after one year period.
• Example: long term loan

Current Liabilities
• Consist of financial obligations of the business that are
expected to be repaid within a year.
• Example: account payable, short term loan, accrued
expenses
ACCOUNT PAYABLE = CREDITOR
• An accounting entry that represents an entity's
obligation to pay off a short-term debt to its
creditors. The accounts payable entry is found on a
balance sheet under the heading current liabilities.
• Accounts payable are often referred to as
"payables".
• Another common usage of AP refers to a business
department or division that is responsible for making
payments owed by the company to suppliers and
other creditors.
 Owner’s Equity
• Owners’ equity represents the claims by the owners
of a business to the assets of the business.
• Also called Capital
• Owners’ equity is the residual equity that remains
after deducting liabilities from assets.
• Amounts belonging to the owner.
• Say Sally puts RM10,000 into the business.
Therefore RM10,000 of the business belongs to
company. Owner’s equity = RM10,000
 Drawings by owner
• From time to time, the owner of business might take
cash or goods out of business for personal or
private use.
• Such withdrawal are referred as drawings
• Drawings decrease both assets of business and
decreases owners equity (capital)
 PROFIT DETERMINATION

REVENUES EXPENSES
 Earned (recognized) when  Incurred when using up
a business sells goods assets in earning
and/or services to its expenses.
customers, which result in
 Assets consumed to
an inflow of assets such
produce revenue.
as cash or accounts
receivables (debtors).

PROFIT
 Difference between the total revenue earned and
total expenses incurred for the same period of time
 REVENUES

 Sales revenue : Selling goods to customers

 Interest revenue : Lending money to others
 Commission revenue : Providing services for
which a commission received from the total
revenue earned in providing that service
 Rent revenue : Renting out or letting out
business premises to others
 Discount received : Amount deducted from
original purchases amount made by business
such as paying early to suppliers
 EXPENSES

 Cost of goods sold : Cost of goods that is being

sold to the customers
 Salaries : Amount paid to workers
 Discount allowed : Amount deducted from sales
to customers who pay early
 Interest expense : Amount that business pays to
lenders because of loans taken by business
 Selling and distributive expenses
 General and administrative expenses
 PROFIT EQUATION

Profit = Revenue earned – Expenses incurred

• Revenue > Expenses = Profit

• Revenue < Expenses = Loss
 RELATIONSHIP PROFIT TO
ACCOUNTING EQUATION

• Profit belongs to the owners

• Added to capital invested by owners

Asset = Liability + (Owner Equity + Profit )

Asset = Liability + [Owner Equity + (Revenue – Expenses)

ACCOUNTING CYCLE
Indicate the effect upon assets, liabilities, capital, revenues and expenses for the following transactions.
(Textbook page 54)

  Example Assets Liabilities Capital Revenues Expenses

1 Bought machinery with cash +machinery        
-cash
2 Started business with cash and          
motor vehicles
3 Purchased goods on credit          
4 Paid advertising expense with          
cash
5 Purchased land and buildings with          
loan from finance house
6 Sold goods on credit          
7 Made cash sales          
8 Owner took goods for own          
consumption
9 Paid creditor amount due          
10 Paid stationery with cash          
11 Customer paid amount due          
12 Owner took cash for own use          
Indicate the effect upon assets, liabilities, capital, revenues and expenses for the following transactions. (Textbook page 54)

  Example Assets Liabilities Capital Revenues Expenses

13 Bought motor van using bank loan          

14 Returned goods bought on credit          

to supplier
15 A customer returned some goods          
that were damaged when she
received them
16 Owner brought in a computer for          
office use
17 Bought goods for resale with cash          

18 Paid the full amount owing to the          

finance house
19 Purchased goods on credit          

20 Owner brought additional cash          

into the business
21 Business purchased furniture with          
cash
22 Paid electricity bill with cash          

23 Paid salaries to workers with cash          

24 Paid water bill with cash