Accounting 101_ What You Should Know About Assets, Liabilities, and Equity
What comes into your mind when you hear the words: asset, liability, and equity? Chances are you think about what you have, what you owe, and how much is left between the two.
In a nutshell, that is basically what asset, liability, and equity mean. In the world of accounting, however, these concepts are quite complex and have serious implications for every business. Accounting makes use of these concepts to run a business. Business decisions are often based on these facts and figures.
In other words, it's important to learn the basics of these accounting terminologies, especially if you have a business of your own. In the next section, we will learn more about assets, liabilities, and equity.
An asset is any valuable resource owned by a company. It is anything tangible or intangible that can be controlled or produced to create value. It can come in the form of buildings, equipment, intellectual property, or land. Simply put, an asset represents the value of ownership, which can be converted into cash. Some of the common types of assets include the following:
● Accounts receivable: Accounts receivable basically refers to any payments that your clients or customers owe you. It pertains to the outstanding invoices that you raise and deliver to customers for payment within a certain timeframe.
● Cash: Cash simply pertains to the money you have in your business bank account.
● Inventory: Inventory consists of any goods that you have in stock that you will sell in the future. It's a list of items which may include property, goods in stock, or the contents of a building.
● Property and Equipment: These refer to any buildings or tools that you need to operate and use for your business.
A liability simply refers to any debts your business has or an obligation that you have to somebody else. It may pertain to bank loans, IOUs, mortgages, unpaid bills, or any other sum of money that you owe another company or person. The company's financial debts or obligations arise during the course of business operations. Below are some common types of liabilities:
● Accounts payable: Accounts payable are payments you owe your suppliers. These are the amounts of money you owe to suppliers or vendors usually reflected on your company's balance sheet.
● Bank loans: Bank loans are typically the principal you owe investors. These are the amounts of money you borrow from a bank or financial institution.
● Salaries and wages payable: These refer to what you've agreed to pay your employees in the future. Basically, these are wages that a company's employees have earned, but have not yet received.
It's important to understand what your company's assets and liabilities are before you'll be able to understand what equity is. Once you've figured out how much you have and how much you owe, you'll find out how much is left over - and that pertains to equity. You can do the math: add up everything valuable to you and subtract everything that you owe. In other words, take all of your assets and deduct all of your liabilities, and you get equity.
● Stock: Stock refers to how much of a company someone owns, in the form of shares. This is the type of equity that most people are familiar with.
● Preferred stock: Preferred stock is like a regular stock, but when you hold the former, you are entitled to some extra perks. Individuals who hold preferred stock usually have first dibs on profits.
● Capital: Capital basically pertains to whatever is left of the money that the company's founders initially invested in the business.
● Retained earnings: Retained earnings are any profits that owners decide to keep in the company for future spending, rather than pay out to themselves.
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