They include cash on hand, cash at banks, investment, inventory, accounts receivable, prepaid, advance, fixed assets, etc. The basic accounting equation is used to provide a simple calculation of a company’s value, based on a comparison of equity and liabilities. For a more specific breakdown of the components of equity, use the expanded equation instead. Substituting for the appropriate terms of the expanded accounting equation, these figures add up to the total declared assets for Apple, Inc., which are worth $329,840 million U.S. dollars. The expanded accounting equation is derived from the common accounting equation and illustrates in greater detail the different components of stockholders’ equity in a company.

What is the Expanded Accounting Equation?

Required Explain how each of the above transactions impact the accounting equation and illustrate the cumulative effect that they have. While we mainly discuss only the BS in this article, the IS shows a company’s revenue and expenses and includes net income as the final line. This transaction affects only the assets of the equation; therefore there is no corresponding effect in liabilities or shareholder’s equity on the right side of the equation. However, due to the fact that accounting is kept on a historical basis, the equity is typically not the net worth of the organization. Often, a company may depreciate capital assets in 5–7 years, meaning that the assets will show on the books as less than their “real” value, or what they would be worth on the secondary market.

  1. Ted decides it makes the most financial sense for Speakers, Inc. to buy a building.
  2. (Note that, as above, the adjustment to the inventory and cost of sales figures may be made at the year-end through an adjustment to the closing stock but has been illustrated below for completeness).
  3. The basic formula of accounting equation formula is assets equal to liabilities plus owner’s equity.
  4. Learn financial statement modeling, DCF, M&A, LBO, Comps and Excel shortcuts.
  5. All assets owned by a business are acquired with the funds supplied either by creditors or by owner(s).
  6. The accounting equation is a core principle in the double-entry bookkeeping system, wherein each transaction must affect at a bare minimum two of the three accounts, i.e. a debit and credit entry.

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As this is not really an expense of the business, Anushka is effectively being paid amounts owed to her as the owner of the business (drawings). The business has paid $250 cash (asset) to repay some of the loan (liability) resulting in both the cash and loan liability reducing by $250. $10,000 of cash (asset) will be received from the bank but the business must also record an equal amount representing the fact that the loan (liability) will eventually need to be repaid. The cash (asset) of the business will increase by $5,000 as will the amount representing the investment from Anushka as the owner of the business (capital).

Classification of Assets and Liabilities

In the latter case, the only way to correct the issue is to review all entries made to date, to find the unbalanced entry. This increases the inventory (Asset) account and increases the accounts payable (Liability) account. Thus, the asset and liability sides of the transaction are equal. This increases the fixed assets (Asset) account and increases the accounts payable (Liability) account.


Obligations owed to other companies and people are considered liabilities and can be categorized as current and long-term liabilities. The process of recording these transactions will continue across the period. In reality, a business may have thousands, with each one affecting at least two accounts.

Everything You Need To Master Financial Statement Modeling

We could also use the expanded accounting equation to see the effect of reinvested earnings ($419,155), other comprehensive income ($18,370), and treasury stock ($225,674). We could also look to XOM’s income statement to identify the amount of revenues and dividends the company earned and paid out. The assets in the accounting equation are the resources that a company has available for its use, such as cash, accounts receivable, fixed assets, and inventory.

Expanded Accounting Equation: Definition, Formula, How It Works

While dividends DO reduce retained earnings, dividends are not an expense for the company. Metro Corporation collected a total of $5,000 on account from clients who owned money for services previously billed. During the month cost of debt of February, Metro Corporation earned a total of $50,000 in revenue from clients who paid cash. Finally, a cash flow statement can be produced for the period and reports the change in cash balances between periods.

For example, accounts payable are monies owed to suppliers as a result of that supplier delivering goods or services at some time in the past. In this expanded accounting equation, CC, the Contributed Capital or paid-in capital, represents Share Capital. Retained Earnings is Beginning Retained Earnings + Revenue – Expenses – Dividends – Stock Repurchases. A screenshot of Alphabet Inc Consolidated Balance Sheets from its 10-K annual report filing with the SEC for the year ended December 31, 2021, follows.

Below are some examples of transactions and how they affect the accounting equation. The third part of the accounting equation is shareholder equity. The revenue a company shareholder can claim after debts have been paid is Shareholder Equity. Shareholders’ equity is the total value of the company expressed in dollars. Put another way, it is the amount that would remain if the company liquidated all of its assets and paid off all of its debts. is similar to the format of the balance sheet. Additionally, it doesn’t completely prevent accounting errors from being made. Even when the balance sheet balances itself out, there is still a possibility of error that doesn’t involve the accounting equation. To understand the accounting equation better, let’s take a few practical transactions and analyze their effect. Creating the balance sheet statement is one of the last steps in the accounting cycle, and it is done after double-entry bookkeeping. Double-entry bookkeeping is a system that records transactions and their effects into journal entries, by debiting one account and crediting another.

Recording accounting transactions with the accounting equation means that you use debits and credits to record every transaction, which is known as double-entry bookkeeping. You can automatically generate and send invoices using this accounting software. Further, creating financial statements has become considerably easier thanks to the software, which lets you draft balance sheets, income statements, profit and loss statements, and cash flow statements. It’s telling us that creditors have priority over owners, in terms of satisfying their demands. While the basic accounting equation’s main goal is to show the financial position of the business. At the same time, it incurred in an obligation to pay the bank.