Financial Accounting – Basic Transactions and the Equation.docx

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Financial Accounting – Basic Transactions and the EquationInventoryAssets that are manufactured or purchased for the purpose of being sold to customers. In its final form, inventory is the product that is being sold and when it is sold, the cost of the inventory that was sold is recognized as an expense asCost of Goods Sold. For a manufacturing company, the inventory may be found in various stages of completion, known as raw materials inventory, work in process inventory, and finished goods inventory. The valuation of inventory is the subject of cost accounting and it is a crucial element of accounting for and managing any manufacturing business.1.2.1 – Starting a businessTransactions-Every day events occur which impact the financial position of a business, in accounting this is called a transaction -Theses can include taking out a loan, selling merchandise or paying invoices. -When transaction occurs, it will have an impact on one or more components of the accounting equation -For that reason, analysing these transactions is a core aspect of accounting.-All accounting transactions, no matter how big or small affect the balance sheet equationCash – It can mean either physical currency or money in a bank account. When a company makes a payment by either writing a check or making an electronic transfer from a bank account. It is considered a cash transaction. A non-cash transaction would involve business buying goods on credit terms, which means that payment isn’t required right away.Example-Let’s suppose Frank Cardullo used $5,000 that he had saved from the German restaurant and invested it into his new business, Cardullo’s Gourmet Shop. Cardullo’s initially had no assets, no liabilities, and no owners’ equity. But after Franks investment of $5,000 of assets in cash and $5,000 of owners equity. $5,000$5,000Assets=Liabilities+Owners EquitySuppose Frank also took out a $10,000 bank loan to start the business. The loans would impact the financial equation by increasing assets as cash received and increasing liabilities, as Cardullo’s has the responsibility to pay the money back to the bank. $5,000$10,000$5,000Assets=Liabilities+Owners EquityAfter both transactions, Cardullo’s has $15,000 in assets, $10,000 in liabilities and $5,000 in equity.$15,000$10,000$5,000Assets=Liabilities+Owners EquityPurchases of Equipment and InventoryThe impact of other types of transactions is very similar. Take, for example, a purchase of machinery or equipment. What components of the accounting equation would be impacted by the purchase? If the equipment is purchased with cash, assets will increase to reflect the new equipment obtained by the business, but assets will also decrease because cash will have been paid out to the vendor of the equipment. If the equipment was purchased on credit, rather than assets immediately decreasing by the amount of cash paid, liabilities would increase to show the obligation to pay.

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