subject: Basics of Accounting [print this page] The must-knows of accounting are the accounting equation, debits and credits and financial statements. The accounting equation is the first thing a student learns at the start of their accounting class. It consists of Assets=Liabilities + Owner's Equity. Assets are items of value that a business owns. Examples of a business's assets are cash, buildings, and land. Liabilities are anything that a business owes to a person or a company. Examples include accounts payable, notes payable, and salaries payable. Owner's equity is the owner's claim on their assets. Owner's equity is basically assets minus liabilities. The larger equity there is, the smaller debt. Owner's equity helps business owners realize whether they are making a gain or a loss. Examples include common stock, dividends, revenues, and expenses.
Debits and credits are accounting terms that refer to journal entries. Debits are always on the left side while credits are on the right. The biggest thing one should remember is that debits and credits do not mean a decrease or increase. The type of account and if it is being increased or decreased lets you know if it will be debited or credited. If assets are being increased, then you debit the account. If they are being decreased then you credit the account. When it comes to liabilities and equity, you debit the account if they are being increased and credit the account if they are being decreased.
Financial statements show where a business gets its money from, how the money is spent, and how much money is left. The main financial statements that are dealt with when one is introduced to accounting are balance sheets, income statements, and statements of cash flows. The balance statement shows a business's financial position at a point in time. The statement is set up like the accounting equation with assets on the left side and liabilities and equity on the right side. Assets must equal the sum of the liabilities and equity. If the balance sheet doesn't balance, something is missing and the balance sheet needs to be reconstructed.
The income statement shows how much revenue a business receives for a specific period of time. It also shows the expenses that the business incurred. The income statement basically takes revenues and subtracts expenses. The result is the business's net income.
The statement of cash flows shows the cashing coming into and coming out of a business. The statement has three parts: operating activities, investing activities, and financing activities. Operating activities reports cash flows that are directed related to the business. Cash receipts from sales and wage payments are examples of operating activities. Investing activities reports the purchase and sale of long-term investments, property and equipment. Financing activities report cash flows that are related to the business's debt. This includes payments of dividends, and the issuance and purchases of stock. The statement of cash flows uses the information from a company's balance sheet and income statement to tell you whether thebusiness generated cash.
The accounting equation, financial statements, and understanding credits and debits are essential to one's understanding of accounting. I am hopeful that my introduction to the basics of accounting has been helpful and will make accounting more logical.
