Accounting Equation
Assets = Liabilities + Equity
The accounting equation represents the fundamental basis of accounting and is expressed as:
Assets = Liabilities + Equity
This equation establishes the relationship between what a company owns (its assets), what it owes to its creditors (its liabilities), and what is left over for its owners (its equity).
Assets represent the economic resources that a company owns or controls, such as cash, inventory, property, and equipment. These resources are used to generate revenue for the company.
Liabilities represent the debts and obligations that a company owes to its creditors, such as loans from banks or suppliers, accounts payable, or taxes owed. These obligations must be met to maintain the company’s financial stability.
Equity represents the residual interest in the assets of a company after deducting its liabilities. It includes investments by the owners, retained earnings (profits that the company has not distributed to its owners), and other comprehensive income. Equity is important because it represents the ownership interest that shareholders have in a company.
The accounting equation is used to ensure that the balance sheet of a company is balanced. This is done by making sure that total assets equal total liabilities plus equity. The equation is important because it helps businesses and stakeholders to understand and interpret financial statements, which are an essential tool for evaluating the financial health of a company.
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