Interactive Worksheet: The Accounting Equation

by Ken Delaney-Moore, Sheffield Hallam University

Aims:

This worksheet deals with:

1. The accounting equation.
2. The accounting concepts of 'business entity' and 'dual aspect'.
3. The effects of transactions on the balance sheet.

After having completed the worksheet you should be better able to perform to syllabus specifications relating to these points. When you are done, please fill-in the on-line evaluation form in order for us to monitor the quality of the materials we provide for you. Tell us what we're doing right and wrong. It takes very little time, and your opinions are valued - thank you.

A business start-up

Imagine that 'Jim Sayers' puts £5,000 of his personal savings into a business bank account under the name: "Crosspool Bicycles". It is important to recognise that the business immediately has 'assets' (something owned) and 'liabilities' (something owed).

The 'asset' in question is £5,000 in the bank. The 'liability' in question is the £5,000 owed to Jim (note that we are looking at the books of the business, not the books of the owner - this is known as the business entity concept). The money a business owes to its owner is a special type of liability, known as capital, and this is considered important enough to have its own heading and category in the books. So the 'balance sheet' (this being a list of assets, capital and liabilities) of the business looks like this:

Assets	£	Capital & Liabilities	£
Cash at bank	5,000	Capital	5,000

Note that the total of the assets equals the total of the C & L side; this will always be true, and is known as the 'accounting equation'.

Your turn! - Excercise 1

Jim now spends £2,000 of the bank money on a van for the transportation of his bikes. After this transaction has taken place:

Q1. What will the bank balance be? (N.B. don't bother with the £ sign, or a comma - so for example, if you think the answer is £4,800, simply type: 4800) (Type your answer) 3000" type="hidden">

Q2. There will be a new type of asset. What is the name of the asset? (Type your answer)

Q3. To summarise what's happened so far, fill-in the gaps below: (Type your answer) capital - vehicles - bank There are now two assets, and . The total value of these equals the total .

If you haven't already done so, you may find it useful to sketch (on scrap paper) the new-look balance sheet and to use it as your starting point for exercise 2. Note that the total of the 'assets' side equals the total of the other side (again). Note also that two items changed in value when there was a transaction. This rule is known as the dual aspect concept. It is these two effects that leads us to use a double-entry book-keeping system (discussed in the next work-sheet).

Exercise 2

Using the new balance sheet as the starting point, try to imagine how it would change if (the next day) Jim obtains a bank loan of £4,000 which he pays into the business bank account. After this transaction has taken place:

Q4. How much is there in the bank account? (Remember no '£' sign, no commas). (Type your answer) 7000" type="hidden">

Q5. Note that there will be a new 'liability'; this being the amount owed by the business to the bank (simply called 'loans'. How much should each side of the balance sheet add up to now? (No '£' sign, no commas). (Type your answer) 9000" type="hidden">

Note that the total of the 'assets' side equals the total of the other side (again). Note also that two items changed in value when there was a transaction (again).

Do you want to look now at the up-dated balance sheet before reading further?

Exercise 3

Jim now spends £2,500 of the bank money on his initial stock of bicycles and cycle equipment. After this transaction has taken place:

Q6. How much is in the bank account? (No '£' sign, no commas). (Type your answer) 4500" type="hidden">

Q7. What new asset exists in the balance sheet? (Type your answer)

Note that the balance sheet totals agree (again). Note (again) that two items in the balance sheet changed value. This is not a coincidence!

Do you want to look now at the up-dated balance sheet before reading further?

Exercise 4

Jim now buys £1,500 of specialised equipment for repairing and adapting bicycles (NB this is for use in the business, and not for re-sale, so it should not be counted as 'stock'). He does not pay for this immediately; instead, he manages to obtain three weeks credit on this from his supplier.

Q8. How many different types of asset are there now? (Type your answer) 4" type="hidden">

Q9. The amount owed to the supplier is a 'creditor' liability. What are the new balance sheet totals? (Type your answer) 10500" type="hidden"> click here." type="hidden">

Summary

Q10. From this work-sheet you should understand the following (fill-in the gaps below to provide your own summary of your learning): (Type your answer) accounting equation - assets - capital - balance sheet - liabilities - dual aspect - business entity In accounting we are concerned only with the affairs of the business, not of the owner. The two are considered to be separate. This is known as the concept. Items of value owned by the business are called . Items of value owed-out by the business to another party are called . The value owed by the business to the owner is called . A statement of the assets, liabilities and capital of the business at a specific point in time is known as a . The total of the assets will always equal the total of the liabilities and capital. This rule is known as the . When a transaction occurs, there are two effects on the balance sheet. This rule is known as the concept.

Now please fill-in the on-line evaluation form in order for us to monitor the quality of the materials we provide for you. Tell us what we're doing right and wrong. It takes very little time, and your opinions are valued - thank you.

Source:
http://www.bized.co.uk/