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The accounting equation is the most commonly used equation on balance sheets, and it is necessary to understand the equation in order to properly evaluate and understand balance sheet.
With a basic understanding of the terms associated with the equation, it is relatively easy to understand the formula and how it works. The worth of a business's liabilities is the total amount of money or resources the business paid out in order to acquire its assets. The worth of a business's assets is the total amount of money or products in possession of the business owner. The accounting equation is represented: worth of assets - worth of liabilities = total equity.
It is important to understand that this illustration is very basic and does not take into consideration factors that influence the worth of business's assets and liabilities, such as depreciation, that can fluctuate over time.
The accounting equation works not only to accurately assess the equity of a business, but also to alert a business to problems regarding the calculation of its equity. If the equation is properly used and the liabilities are accurately subtracted for the assets, the calculated equity should match the actual equity.
If there is a discrepancy between what the accounting equation calculates as a company's equity and the actual equity, then there is clearly a problem that should be investigated. Or, if the sum of the worth of liabilities and the worth of the equity does not equal the worth of assets, there is an accounting error. Thus, a discrepancy can alert businesses to a problem with their balance sheet.
Don't leave your small business behind. Manage everything with our free online accounting service. Go to saas accounting software.
With a basic understanding of the terms associated with the equation, it is relatively easy to understand the formula and how it works. The worth of a business's liabilities is the total amount of money or resources the business paid out in order to acquire its assets. The worth of a business's assets is the total amount of money or products in possession of the business owner. The accounting equation is represented: worth of assets - worth of liabilities = total equity.
It is important to understand that this illustration is very basic and does not take into consideration factors that influence the worth of business's assets and liabilities, such as depreciation, that can fluctuate over time.
The accounting equation works not only to accurately assess the equity of a business, but also to alert a business to problems regarding the calculation of its equity. If the equation is properly used and the liabilities are accurately subtracted for the assets, the calculated equity should match the actual equity.
If there is a discrepancy between what the accounting equation calculates as a company's equity and the actual equity, then there is clearly a problem that should be investigated. Or, if the sum of the worth of liabilities and the worth of the equity does not equal the worth of assets, there is an accounting error. Thus, a discrepancy can alert businesses to a problem with their balance sheet.
Don't leave your small business behind. Manage everything with our free online accounting service. Go to saas accounting software.
About the Author:
Cheryl L. True is a Manila-based freelance writer who writes on a variety of topics.
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