1. Chapter 3 Business Transactions and the Accounting Equation

2. The Main Ideas Property and Financial Claims
What types of items are owned by people or businesses?
Is the owner the only person who has a legal claim to the item?

3. “Bell Ringer”
Consider your own property. What items of property are you wearing?
What rights do you have of your property?
What are some items of property in which other people might have rights?
Who else may have a legal claim to those items?

4. Accounting is the Language of Business!
What is property?
Property is anything of value that a person or business owns and therefore controls.
When you own an item of property, you have a legal right to that item.
Examples???
You pay for the full amount of an item
Renting something
Making a down payment, then making monthly payments on a piece of property

5. Financial Claims
Businesses also own property. One of the purposes of accounting is to provide financial information about property and financial claims to that property.
A financial claim is a legal right to an item.
In accounting, property and financial claims are measured in dollar amounts. Dollar amounts measure both the cost of the property and the financial claims to the property.
This relationship between property and financial claims is shown in the following equation:

6. Property (Cost) = Financial Claims______ Car = Your Claim to the Car $1500 = $1500
When you buy the property with cash, you acquire all of the financial claims to that property at the time of purchase.
What happens to the financial claim, however, when you don’t pay for the property right away?

7. When you buy something and agree to pay for it later, you are buying on credit.
The business or person selling you the item on credit is called the creditor.
A creditor can be any person or business to which you owe money.
When you buy property on credit, you do not have the only financial claim to the property. You share the financial claim to that property with your creditor.

8. Example: Suppose you want to buy a used car from a car dealership for $10,000. You pay the dealership $2000 in cash and take out a loan from the credit union for the remaining $8000.
Since you owe the credit union (the creditor) $8000, you share the financial claim to the car with the creditor.
The creditor’s financial claim to the car is $8000 and your claim is $2000.
The combined claims equal the cost of the property.

9. Your purchase of the car can be expressed as an equation:
Property = Financial Claims
Car = Creditor’s Claim + Owner’s Claim
$10, = $ $2000
As you can see, two (or more) people can have financial claims to the same property.
Only the property owner has control of the property.
As the owner, you have control over the vehicle. However, if you don’t make the monthly payments to the credit union, the credit union can exercise its legal claim to the vehicle and you will lose ownership (repossession).

10. Financial Claims in Accounting
Property or items of value owned by a business are referred to as assets.
Businesses have various types of assets, such as:
Cash
Office equipment
Manufacturing equipment
Buildings
Land
The accounting term for the financial claims to these assets is equities.

11. Property = Financial Claims Truck = Creditor’s Claim + Owner’s Claim
Example:
Suppose Roadrunner Delivery Service purchases a delivery truck for $10,000. Roadrunner makes a cash down payment of $3,000 to the seller. A local bank loans Roadrunner the remaining $7,000. Both Roadrunner and the bank now have financial claims to the truck.
Property = Financial Claims
Truck = Creditor’s Claim + Owner’s Claim
$10, = $7, $3,000

12. Property = Financial Claims Truck = Creditor’s Claim + Owner’s Claim
Over the years as Roadrunner repays the loan, its financial claim will increase. As less money is owed, the financial claim of the creditor (the bank) will decrease.
For example, after Roadrunner pays ½ of the loan ($7,000 * ½ = $3,500), the financial claims to the property will change as follows:
Property = Financial Claims
Truck = Creditor’s Claim + Owner’s Claim
$10, = $3, $6,500
When the loan is completely repaid, the creditor’s financial claim will be canceled. In other words, the owner’s financial claim will then equal the cost of the truck.

13. In accounting there are separate terms for owner’s claims and creditor’s claims:
The owner’s claims to assets of the business are called owner’s equity.
Owner’s equity is measured by the dollar amount of the owner’s claims to the total assets of the business.
The creditor’s claims to the assets of the business are call liabilities.
They are measured by the amount of money owed by a business to its creditors.

14. ASSETS = LIABILITIES + OWNER’S EQUITY
The relationship between assets and the two types of equities (liabilities and owner’s equity) is show in the accounting equation:
ASSETS = LIABILITIES + OWNER’S EQUITY
Property = Creditor’s Claim + Owner’s Claim
Assets = Liabilities Owner’s Equity

15. Assignment
Problem 3-1 on page 53

16. Transactions that Affect Owner’s Investment, Cash, and Credit
When you purchased a new sweater, bought popcorn at the movies, or put cash in your saving account, you were participating in business transactions.
Business transactions involve the purchase, sale, or exchange of goods or services.

17. Business Transactions
A business transaction is an economic event that causes a change—either an increase or a decrease—in assets, liabilities, or owner’s equity.
The change is reflected in the accounting system of the business.
For example, when a business buys a computer with cash, its cash decreases, but its computer equipment increases. It records increases and decreases caused by business transactions in specific accounts.

18. An account is a subdivision under assets, liabilities, or owner’s equity. It shows the balance for a specific item and is a record of the increases or decreases for that item.
Accounts represent things in the real world, such as money invested in a business or owed to a creditor. An account for office furniture represents the dollar cost of all office furniture the business owns.

19. Every business sets up its accounts and its accounting system to meet its needs. The number of accounts needed varies. Some businesses use only a few accounts, but others use hundreds.
No matter how many accounts a business has, all of its accounts may be classified as either assets, liabilities, or owner’s equity.
Let’s look at our Roadrunner example!

20. Assets = Liabilities + Owner’s Equity
Cash in Bank = Accounts Payable + Maria Sanchez, Capital
Accounts Receivable
Computer Equipment
Office Equipment
Delivery Equipment
The 2nd asset account listed is accounts receivable.
Accounts receivable is the total amount of money owed to a business—money to be received later because of the sale of goods or services on credit.
The accounts receivable account is an asset because it represents a claim to the assets of other people or businesses. It represents a future value that eventually will bring cash into the business. When a business receives payment, it cancels the claim.
The liability account is accounts payable.
Accounts payable is the amount owed, or payable, to the creditors of a business.
The owner’s equity account is the owner’s name, and then the word “Capital”.

21. Effects of Transactions on the Accounting Equation
When a business transaction occurs, an accounting clerk analyzes the transaction to see how it affects each part of the accounting equation.
Analyzing business transactions is simple!
Use the following steps:
1. Identify the accounts affected.
2. Classify the accounts affected (asset, liability, or owner’s equity).
3. Determine the amount of increase or decrease for each account affected.
4. Make sure the accounting equation remains in balance.

22. Most businesses have the following types of transactions:
investments by the owner
cash transactions
credit transactions
revenue and expense transactions
withdrawals by the owner

23. Investments by the Owner
An investment is money or other property paid out in order to produce profit.
Owner Maria Sanchez made two investments in her business, Roadrunner Delivery Service.
The 1st was a cash investment; the 2nd was a transfer of property.

24. Business Transaction 1
Maria Sanchez took $25,000 from personal savings and deposited that amount to open a business checking account in the name Roadrunner Delivery Service.
Analysis:
Identify 1. Cash transactions are recorded in the account
Cash in Bank. Maria is investing personal funds in
the business. Her investment in the business is
recorded in the account called Maria Sanchez,
Capital.
Classify 2. Cash in Bank is an asset account, Maria Sanchez,
Capital is an owner’s equity account.
+/- 3. Cash in Bank is increased by $25,000. Maria
Sanchez, Capital is increased by $25,000.
Balance 4. The accounting equation remains in balance!

25. Cash in Bank Maria Sanchez, Capital
Assets = Liabilities Owner’s Equity
Cash in Bank Maria Sanchez, Capital
1. +$25, = $25,000

26. Business Transaction 2
Maria Sanchez transferred two telephones valued at $200 each from her home to the business.
Analysis:
Identify 1. Maria Sanchez gave two telephones to the business.
This affects the account Office Equipment. The
investment of these assets affects the account
Maria Sanchez, Capital.
Classify Office Equipment is an asset account. Maria
Sanchez, Capital is an owner’s equity account.
+/ Office Equipment is increased by $400. Maria
Sanchez, Capital is increased by $400.
Balance The accounting equation remains in balance!

27. Cash in Bank Office Equip. Maria Sanchez, Capital
Assets = Liabilities Owner’s Equity
Cash in Bank Office Equip Maria Sanchez, Capital
$25, = $25,000
+$ ____
Bal $25, $ = $25,400
Now, let’s do a “cash payment” transaction
(Go to page 56 in your accounting textbook.)
Business Transaction 3
Then, let’s do some “credit” transactions
(Go to pages 57 and 58)
Business Transactions 4-7

28. Chapter 3; Section 3 Revenue and Expense Transactions
What Is Revenue?
Income earned from the sale of goods or services is called revenue.
Examples of revenue are fees ($) earned for services performed and cash received from the sale of merchandise.
Revenue INCREASES owner’s equity because it INCREASES the assets of the business.

29. What Are Expenses?
To generate revenue most businesses must also incur expenses to buy goods, materials, and services.
An expense is the cost of products or services used to operate a business.
Expenses DECREASE owner’s equity because they DECREASE the assets of the business (or increase liabilities).
Examples of business expenses are
Rent
Utilities, and
Advertising

30. Let’s Review
The effects of revenue and expenses are summarized as follows:
Revenue INCREASES assets and INCREASES owner’s equity.
Expenses DECREASE assets and DECREASE owner’s equity OR INCREASE liabilities and DECREASE owner’s equity.

31. Let’s Analyze Some Transactions!
Transaction 8: Your business received a check for $1,200 from a customer for delivery services.
What two accounts are affected?
Will these two accounts increase or decrease?
The accounting equation (Assets = Liabilities + Owner’s Equity) should remain in balance!

32. Transaction 9: Your business wrote a check for $700 to pay the rent for the month.
What two accounts are affected?
Will these two accounts increase or decrease?
The accounting equation should stay in balance!

33. Withdrawals by the Owner
What is a withdrawal?
If a business earns revenue, the owner will take cash or other assets from the business for personal use. This transaction is called a withdrawal.
Withdrawals and investments (p. 55) have opposite effects.
A withdrawal DECREASES both assets and owner’s equity.

34. Let’s Analyze A Transaction!
Transaction 10: You, the owner of the business, withdrew $500 from the business for personal use.
What two accounts are affected?
Will these two accounts increase or decrease?
The accounting equation should stay in balance!

35. Turn to page 59 in your book! Problem 3-2
Let’s do the whole problem together.
Turn to page 63 in your book!
Let’s do Problem 3-3 together, also.

36. On Your Own (with 1-on-1 help from Mrs. Sales!)
In class, for the remainder of the week and not when you’re working in the Wildcat Branch, complete the following assignments:
Problem 3-4 (p. 68)
Problem 3-5 (p. 68)
Problem 3-7 (p. 69)
Problem 3-8 (p. 70)
Problem 3-9 (pgs )
Problem 3-10 (pgs )
Problem 3-11 (p. 72)