Learn Accounting Basics — Easy, Fast, and Fun for Beginners | Mathew Georghiou | Skillshare

Learn Accounting Basics — Easy, Fast, and Fun for Beginners

Mathew Georghiou, Entrepreneur, engineer, designer

Learn Accounting Basics — Easy, Fast, and Fun for Beginners

Mathew Georghiou, Entrepreneur, engineer, designer

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17 Lessons (1h 14m)
    • 1. About this Course

      1:03
    • 2. Let's Run a Business

      1:54
    • 3. Accounting Defined

      0:53
    • 4. Financial Transactions and Profit

      5:05
    • 5. General Journal and Ledger

      6:48
    • 6. Accounting and Financial Reports

      12:30
    • 7. Your've Just Learned Accounting in 29 minutes

      0:17
    • 8. Business Accounting Defined

      0:53
    • 9. Double-Entry Bookkeeping

      4:55
    • 10. Accounts

      2:15
    • 11. Debits and Credits

      3:42
    • 12. Let's Get Started with Financial Statements

      0:10
    • 13. Financial Statements

      1:00
    • 14. Revenue and Expenses

      3:47
    • 15. Assets and Liabilities

      2:55
    • 16. Step by Step Accounting for a New Business

      25:50
    • 17. End of Course

      0:26
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About This Class

Yes, learning ACCOUNTING can be EASY, FAST, and FUN!

Yes, you can learn ACCOUNTING even if you do not like MATH.

You will learn the basics of accounting by watching a business simulation game.

This is a basic and brief introductory course.

Bonus content included. 

Let's get started.

What you’ll learn

  • Accounting Basics
  • Balance Sheet
  • Income Statement (P&L)
  • General Ledger
  • Debits & Credits
  • Double-Entry Bookkeeping

Are there any course requirements or prerequisites?

  • No prior knowledge needed

Who this course is for:

  • Business Students
  • Business Owners
  • Startup Founders
  • Current and aspiring Managers

Meet Your Teacher

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Mathew Georghiou

Entrepreneur, engineer, designer

Teacher

My mission is to make learning fun and super-effective for you.

Break away from slow and boring courses!  

I've been designing educational games and simulations for over 20 years.  My educational programs are used in thousands of schools, universities, and businesses around the world.

Over 1 million people of all ages have gained valuable life skills using my programs, including children, senior executives, people with special needs, inmates in prison, farmers in Africa, and every type of person in between.

I've designed software games and simulations, MMO role-playing games, board games, card games, ebooks, and more.  All with a focus on making learning experiential, social, and gamified.

I hold patents in... See full profile

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Transcripts

1. About this Course: Yes, Learning accounting can be easy, fast and fun. I'm Matthew Georgia, and I'm gonna help you learn accounting by using a business simulation to demonstrate the concepts to you. You'll see exactly how accounting fits in the context of a business. If you know nothing about accounting, this course is for you. If you do know, accounting, I think you'll find is a hopeful refresher and perhaps even help you understand some concepts. You're not quite Europe. My mission is to make learning fun and super effective for you. I'm an engineer, writer, designer, trainer, technology entrepreneur who has founded and leads several companies. I hold patents and technology and learning, and my educational programs are used in thousands of schools, universities and businesses around the world, reaching over one million people. I'm now repackaging my innovative programs into self director courses just like this one, so that they're widely available to everyone. I hope I can help you quickly and fearlessly gain new skills so that you can achieve your dreams in life. Let's get started 2. Let's Run a Business: Hey there, Let's get started with learning accounting and we're gonna do so in the context of running a virtual business, what you're looking at here is the go venture entrepreneur game, which is a very realistic business simulation. And so we're going to practice accounting and while playing this virtual business. So let's take a look at our company. So we're running an ice cream kiosk. So this is a small business. It's just a kiosk business and we're selling ice cream. And we already established our name and logo and purchased our kiosk. Let's take a look at our products. So we're going to be selling three products and ice cream sundae, an ice cream cone, and an ice cream bar. In order to sell these products, we have to have the ingredients needed to make those products which are described as inventory. So you can see we have hard ice cream and an ice cream bar and a cone, Sunday toppings and serving containers. And we can purchase this one of three different suppliers. Each of their suppliers has different price and quality levels. And we can go inventory ordering screen, and choose a particular supplier, and then enter a quantity of each of the items that we want order. So I'm just quickly choosing a variety of quantities here. So now that we have our quantity set and you can see there are various prices for our individual inventory items. I'm going to now purchase this order for $85 incurred a financial transaction. We're going to learn a little bit more about financial transactions in a moment, then there's other things we could do as well. We could hire employees, so I'm not gonna do that right now. We could conduct some marketing. So let me spend $20 just done a little bit of social media advertising or e-mail advertising. Just so we can practice our accounting financial transactions. So now we're going to pause and let's take a look at the definition of accounting and what it really means. 3. Accounting Defined: So what is accounting? Accounting is the process of tracking financial transactions and reporting the results of those transactions. Ah, financial transaction occurs every time that money or something of value moves in or out of a business or organization. Examples of financial transactions include making a sale, delivering a product to a customer, converting raw materials into a finished product, buying advertising, paying employees, receiving loan money, making a payment on a loan, paying rent, buying office supplies, collecting taxes and much more. Tracking financial transactions is called bookkeeping. Once financial transactions are recorded, financial reports can be generated to display the results of those transactions. 4. Financial Transactions and Profit: Okay, So we've learned that accounting records financial transactions and anytime some cash or something else, a value moves in or out of the business, we're going to record that That's what accounting does and that's what we've been doing here in making these decisions. When I've chosen to invest money in advertising, that is a financial transaction. When we purchased our inventory, we order our inventory and you've got the inventory on or that is a financial transaction. So what we're gonna do now is we're just going to continue and actually run this business and see what happens. So we've got our products, we've got our inventory, we've got our kiosk are located here in the shopping center. Let's go ahead and open for business and watch customers come. So there we go, we've opened for business and these little dots actually represent our customers. And we can hear the time we're making a sale and we can see customer feedback, whether customers are happy with our product, our price, or quality, our speed of service, and so on. So, so far we're looking, it's looking pretty good for us. So we're going to continue watching these sales and monitoring customer feedback as we run our business. Now remember, customers are giving us money in exchange for our product, which in our case is ice cream. So that, that money that the customers are getting us are called series called sales or sales revenue from an accounting perspective. And we'll see how all of that fits in to our accounting model in a moment. Now here's our results. For the end of the day, we've served 26 customers. We'd lost 57 customers. That's part of businesses. Well, sometimes you lose customers. We won't go into that detail because we're focused on accounting here today. And we've sold 45 products. Our sales revenue, net sales revenue, is a term used in accounting to represent the money that customers give us for our product or service. So these 26 customers gave us a $121. In this case, it would be cached. Sometimes it might be credit or some other method. But we've earned a $121 in cash from these customers and that's classified as sales revenue. That's a financial transaction that accounting monitors. And we have a cost of goods of 45 dollars. Now, Cost of Goods doesn't tell us the whole story because what does cost of goods? That is the cost of the ingredients that we used to make the products that we gave to these 26 customers. So those ingredients cost us $45 and customers gave us a $121 in return because we package those ingredients into a finished product. Now, we purchased a bunch of inventory. We didn't sell all of our inventory. The cost of goods sold only reflects the amount of inventory that we sold to these customers. We still have some ingredients, some inventory remaining, which is unsold, that is not reflected In cost of goods sold. And the next number we look at is gross profit. So seventy-five dollars is our gross profit. So that's 121 of revenue coming in minus the 45 of value we put out for a total of 75 in gross profit. And the gross profit margin, which is the 75 divided by 121 times a 100 percent, gives us 62 percent gross profit margin. Now in business though, gross profit doesn't tell us the whole story because there's other expenses, other things that cost us money that are not reflected here. So don't think that we blocked away with seventy-five dollars in cash. We have not. Let's take a look at another report, which is called an income statement. And we're going to go into an income statement more detail later. But let's just look at the high level of the income statement. So we can see the sales revenue of a $121. There's totals here. That's how much money customers gave us. Our cost of goods, forty-five dollars. That's the cost of the ingredients we use to sell those products for a gross profit or seventy-five dollars. So that's the same information we saw on the previous window. But let's move down to what are called expenses. And let's take a look here. Okay, we have one expense today. That's our sales and marketing. Remember we spent $20 and that social media search, marketing or advertising, that cost is money. So we have to subtract that from our expenses of the day. So let's scroll down. We also had some inventory spoil as well or get damaged along the way. So that's an expense of a $1.90. So our total expenses are $21.90. So if we take the 75 dollars in gross profit and we subtract those expenses are net result is 53 dollars. That is our net profit. That is how much money we've completed the day with. So it actually was an okay day and that we did make money, but not as much as the gross profit might tell us. It's really the net profit. That's the important number here. So now we're going to learn how all of these numbers are generated and tracked through accounting. 5. General Journal and Ledger: So we're back in our virtual business and we've learned that accounting tracks financial transactions or changes a value in a business. Earlier we looked at our income statement, which showed us our profitability for the day. Now, where do these numbers come from? How is this report generated? It's all generated through accounting. So what happens is every time there's a financial transaction in business, and remember a financial transaction or like Bob, purchasing inventory or employees or conducting your spending money on marketing every time that there's a financial transaction that's logged in a report called the general journal. So this is the general journal and it basically, it is a log of every transaction that happens in business as it happens. So it's dated based on the time that you have had that transaction or occur. And if we scroll down to the bottom, we actually can see it in chronological order. It starts at the bottom end and moves up. So we can see when we first started our business, there was an $8 thousand transaction that was money. In this case, it's called start-up capital, that was put into the business to start the business by that, the business owners or shareholders. And so that's recorded in our log or journal here as an increase in our cash of $8 thousand. And then after that, we actually purchased a kiosk, which is under property, equipment and startup, and that costs us $3 thousand. And then after that, we did some startup activities like permits and licenses and registrations, and that costs us $2 thousand. So as you can see as we go, every transaction is logged in this journal. Now you see the numbers are duplicated here and that's based on double entry accounting. That's another concept of accounting we'll, we'll talk about later. But right now I just wanted to show you that everything is everything is tracked through report called a general journal. Now the general journal as useful as it is to track every transaction, it's not as easy to kind of pick out the information that you want. That's when we revert back to a different report called the general ledger. So the general ledger has the exact same info as the general journal, but it organizes things in a way that's easier to understand. So what it does is it categorizes different types of transactions into accounts. So for example, here we have our cash account. So everything that's related to cash, everything every time cash increases or decreases. So every change Recorded first in our journal, because remember that's running log, but then it's organized or reorganized into our ledger. So we could just see all of the transactions related to cash. So it's just a way of filtering the transactions. The other benefit of the ledger is it also has what's called a balance, which is this column here. So looking back at the start of our business again, this isn't reverse order as well. So the first transaction in our business was the $8 thousand in startup capital or seed funding needed to start the business. So what we see here is a running total or a balance of that account. So it was, it was 0 and then it became made 1000 once we receive the $8 thousand into business. And then we purchased a kiosk and made a payment in cash for that, I'll 3000 dollars. So that's reduced our cash by that amount. So now we are down to $5 thousand. Then we did some startup services, which reduced it by another 2000. So now we're down to 3000. We purchased inventory, reduced it again by eighty-five dollars. And then there's our balance. And then because some good news here, we actually started selling and we sold our products to customers or customers gave us a $121. And now that increased our cash. And then we reduced again by $20 because of the advertising charges. So as you can see, it's just a running total of everything. And the ledger organizes things are classifies things in categories, so it's a little bit easier to follow the accounts. Now what you're seeing here is two columns, one called a debit and one called a credit. That's an accounting term used in double entry accounting and basically just represents an increase or decrease in an account. So in the cash account here, when we increased cashed, it's called a debit. And when we decreased cash, it's called a credit. It's a simple concept, although one thing that's a little bit complicated about it, it can be reversed. So a debit could be a decrease and a credit could be an increase based on the type of account, but that's beyond the scope of this video. So we won't get caught up in the weeds on that one here today. But let's focus on simply the fact that This is recording every time a transaction happens and we can jump to other, other categories or accounts and like inventory for example. So here inventory is tracked, so we started with no inventory. Then we purchased inventory. So now we had this asset. An asset is a thing of value, caches. It has value. Inventory has value. Equipment has a value of land has value. So we now have these valuable assets of inventory, which we paid for in cash, $85 in inventory. Remember that eighty-five dollars up here? There it is here. So this is the same same posting just listed in multiple places where it applies. So we purchase inventory and now we have and inventory asset of eighty-five dollars. But then we sold the product to customers, not all of the inventory. We just sold our cost of goods. You may remember that from the earlier video. And that was forty-five dollars. And so that reduced our inventory on hand to 39. And then we had some damaged or spoiled items. And so that reduced our acid or inventory acid again. So as you can see, it's a simple concept of tracking transactions with simple math, increase, decrease, add, subtract. Very simple. And there's just simply accounts for different aspects of the business from taxes and loans and whatever your business specifically needs to track, you just create an account for it. And that's how it's tracked and accounting. It's as simple as that. And originally, this type of tracking was all done in paper logs and books, in actual physical books with pen and paper and so on and you write it. And still a lot of businesses still use those paper books, but most businesses have moved to using spreadsheets or accounting software itself or other apps that are designed to track. And once you have that software in place, it makes it a lot easier to pull these numbers and generate the reports that we saw earlier like that income statement report and all of those reports that we're gonna talk about in another video basically just pull numbers from the general ledger, as you see here. 6. Accounting and Financial Reports: Let's look at accounting and financial reports. So in our previous video, we looked at how accounting track financial transactions and changes in value using a report called the general journal, which is a log of all the transactions in our business. And we also looked at the ledger which has the same information but organized a little bit better and categorized by counts. That makes it a little easier for us to follow specific types of accounts like cash and inventory and so on. So now once we have all of our accounting working properly or all of our data in place, how can this help us make better business decisions and manage our business better? It does so by allowing us to generate reports that use that have it all in a software application or accounting application with a couple of clicks, we can generate very useful report. So let's look at some of those reports. We'll start with cash flow. So cash flow is perhaps most important thing you have to monitor and business because it tells you if you're going to potentially run out of cash or if you're growing your cache and so on. And of course, running out of cash is the biggest problem you could experience some business because if you don't have money, you cannot operate your business. You can't purchase inventory, you can't pay your employees, and so on. So cash is very important. And what this report does is it simply shows us if we're ending the day with more or less cash than we had at the beginning of the day and what our overall caches. So what you can see here is money in minus money out gives us the total difference for the day and then running balance of cash for the day. Now we've only run this business for one day, so we just have one day's worth of data. Let's look at it. So money in, it came in who was $8,121 where that money come from? Well, you may remember that 8 thousand was from start-up capital or seek financing, and then we generate some revenue from customers. So that's where that money coming in, money going out was buying our kiosk, startup services, buying inventory, some inventory spoiling and so on. And it's branded the day with $3,035 and that's our balance and that's the amount of money we have at the end of the day. And we can track this day by day to see if our cash is increasing or decreasing. If our cash is decreasing, that's a red flag. We've got to keep track of that and forecasts. If we're going to run out of cash and we're going to run out of cash. We got to take action before we do. Maybe we will try to sell more products and have a sale or be more aggressive in our marketing to increase our sales and hopefully in a profitable way, other options might be to take a loan, to bring money in and borrow money and bring money into the business or sell shares in the business that will bring money into the business to allow us to get to the point where we're profitable and the main business is generating positive cash flow for us. So cashflow critically important to a business and you can look at that with a cache will report. The next report we'll quickly look at is product sales and inventory. So we're selling products. We have to have inventory on hand in order to make those products. Otherwise, we can't make a product and can't sell it to customers, will pay a sport. So we have to track how much inventory do we have on hand? How much inventory, how you've been using, how much inventory is being used to make the products that we need to sell. So using a report like the one you see here, allows us to see what our sales have been and how much inventory we've been using, how many products are going to customers. And it allows us to forecast when we might need more inventory, when we should purchase that inventory and so on. So similar to cash and monitoring cache to make sure we don't run out of cash. We also want to make sure we don't run out of inventory. And then we can forecast that going into the future. So our product sales in inventory is very important. Now let's look at the income statement. The income statement, sometimes it's called a profit and loss or a P and L statement. And the income statement allows us to see if our business is making money or not through the operations of the business. So we look at money coming in from customers and similar sources, money going out. And then what's the result? Is that a positive number which is profit or is it a negative number which would be a loss? Now this sounds a little bit, maybe like cashflow, but cashflow specific and looks at cash only. The income statement gives you a breakdown of everything of where your money's coming and going. And it's specifically though, to the operations of your business in terms of selling a product or service, there are some numbers they may not appear here that might appear in the balance sheet, which we're going to look at in a moment. So the income statement is revenue, money received minus cost of goods and expenses. That's money you're paying out to create and deliver your products to customers. And the result is profit, that's money made or lost. And we can see based on our current numbers, we had a 121 and revenue 67 in cost of goods and expenses. And that resulted in a net profit. That's a good fifty-four dollars today. So let's look at a breakdown those numbers. So revenue was sales, a $121. Other income would be revenue that generated by our business through other sources. But in this case, we're not selling anything other than our ice cream. So we have no other revenue. If we did take out a loan or we sold shares and our business and money came in that way, it actually would not appear on the income statement, appear in our balance sheet, but not in our income stay because their income statement is focused on generating what's called revenue. Loan money and money from selling shares is not revenue, then we have cost of goods. So the, remember the cost of goods is the cost of the ingredients. So the inventory needed to make the products that we've sold for in this case for a $121. And here it's 45 dollars. Transportation if it costs us to actually transport our ingredients or inventory to get it on hand, that would be considered a cost of good. That's different than other types of transportation where maybe we're driving our car somewhere and recurring expenses in that way, that would be an expense. But here, it's related to our ingredients are in inventory, so it's a cost of goods in this case. In this simplified simulation, there is no cost. So that's why it's 0, so $45. So our gross profit, which is simply the revenue minus cost of goods sold, is $75. Then we have to consider other expenses. And you may remember we spent $20 on advertising, so that's reflected as an expense. We also had some of our inventory spoil or get damaged. A $1.90 worth of that was incurred. And so we add all that up and we have $21.90 in total expenses today. So that's in addition to our cost of goods up here. So when we add our cost of goods and our expenses, and we take those numbers and subtract them from our revenue. We will get the bottom line number, which is profit. That's the most important number here, is, are we making money? And in this case, it's $53 and net profit, a positive net profit. Now you'll notice this says loss in parentheses or brackets. If a number and accounting is shown in parentheses or brackets, that means it's negative. So instead of showing a little negative sign in front of the number, you'll often see it in brackets or parentheses. And that would indicate a negative number. In this case, we would indicate a loss of profit. We've actually lost money on our sales. In this case, it's positive, so that's good. So that's what the income statement does, is it takes all those financial transactions that were recorded for sales and cost of goods and brings them together into one report. And we can see whether we ended the day with making money on our sales or losing money. For losing money, of course, we have to consider things like our price to hello, Do we need to raise our prices? Is our inventory costs too high? Do we have to find suppliers that offer lower cost inventory? Our expenses to hide you would have to cut back on some expenses. And that's what the income statement will allow us to see. Let's look at the balance sheet. So the balance sheet gives us a snapshot Over the overall value or financial state, financial health of the business. And what it does is it has a simple formula to assets minus liabilities equals equity that you see here. Another way of explaining that is simply take everything that your business owns, subtract everything that your business owes, and that results in the value that you've created in the business or in this case called equity. So assets minus liabilities equals equity, and these things always have to balance. So you'll see here our assets in our example is $8,054. We have no liability, so we don't actually owe money to anyone, which is great. So our total equity is also $8,054. So it balances out this formula, assets minus liabilities equals equity. It should always balanced. If it doesn't balance, it's actually an indication that there's a financial transaction posted incorrectly in our accounting and we have to correct that. So numbers on the left-hand side here should equal the number on the right-hand side here. So let's take a closer look at what those numbers are. So assets are things of value, things of value. And that includes cash. In this case, we have $3 thousand in cash. Accounts receivable would be money that's owed to us from customers. In this case, the customers all paid us up front so they don't notice any money inventory that has value. So there's the value of our inventory, transportation that would be related to the inventory, that that would be considered value as well. But in this case, we don't have any transportation value. And then we have our property equipment in startups. So this is, this 5000 dollars represents the 3000 dollars paid to purchase our kiosk and the $2 thousand in startup setup. And another cost that we had to incur to start our business. Sometimes those costs, by the way, are put under expenses for some businesses, but in this case, it's considered an asset. So everything that we own that has value is here as an asset and it totals $8,053. Now everything that we owe accounts payable, that's money we owe to other businesses. Maybe when we purchased inventory, we didn't have to pay for it right away. And the supplier would let us pay for it later. Or maybe we put something on a credit card or pay with a credit card. These are things that we would owe and have to pay. In this case we have none, so it's 0, so that's great. And then we have our equity. So equity is money coming into the business related to a couple of things. So one is when we started our business, we had reinvested seed financing, the owner of the business, or in this case US. We invested 8000 dollars of our virtual savings into the business and that gets represented as equity because it's not money that we loaned to the business. It was loaned to the business. It would appear as a loan under liabilities because that would mean it's money that has to be paid back. But this $8 thousand and does not have to be paid back. It was given by the owner of the business into the business in return for shares. That's the ownership of the business. So we own a 100 percent of the business because we put all the money in to start the business. We didn't have any other partners or other shareholders owning a business. If we were to sell shares again in the future, it might appear on a separate line just to separate it out from the startup capital. That's simply why that's on two separate lines here. If shares in the business were sold again in the future, it would appear here. And finally, we have retained earnings. Retained earnings is just another word for profit. It's a cumulative profit, created it in the business. So it's the cumulative net profit generated by the business. So if we were to go back to our income statement and look at the bottom net profit number. And we just kept that number accumulating over time as we run the business. That's what appears at the bottom of the balance sheet here as retained earnings. Earnings is just another word for profit, and retain means it's kept in the business. In other words, the owners of the business, the shareholders of the business have not taken the profit out of the business and therefore it's retained. So retained earnings is simply means cumulative net profit that still remains in the business and that's what this number is. So when we take our, all of our assets, everything that we own, minus liabilities, everything that we owe. That's the overall value of the business. Now, if you were to sell your business, you may not sell it for exactly this number because there's other considerations that are beyond the scope of this video, which I may talked about in another video. But in this case, that's what equity represents is the value of the business on the balance sheet. So you can quickly look at the balance sheet to see everything that you own minus everything that you owe and how much value you are building in the business. And those are the primary financial statements that you can generate through accounting and to help you make better business decisions. 7. Your've Just Learned Accounting in 29 minutes: you've just learned the fundamentals of counting in only 29 minutes. That was very fast. So you may want to watch those videos again or keep on going to the bonus content. Where will review additional accounting concepts. I hope you're finding my free course. Ah, helpful start on your journey to learn accounting. 8. Business Accounting Defined: So what is accounting? Accounting is the process of tracking financial transactions and reporting the results of those transactions. Ah, financial transaction occurs every time that money or something of value moves in or out of a business or organization. Examples of financial transactions include making a sale, delivering a product to a customer, converting raw materials into a finished product, buying advertising, paying employees, receiving loan money, making a payment on a loan, paying rent, buying office supplies, collecting taxes and much more. Tracking financial transactions is called bookkeeping. Once financial transactions are recorded, financial reports can be generated to display the results of those transactions. 9. Double-Entry Bookkeeping: double entry bookkeeping businesses use a system called double entry bookkeeping to record their financial transactions. The system is believed have been developed over 600 years ago. A personal check book is an example of a single entry bookkeeping system. Each time you record a payment or deposit, you write it down once and add or subtract the amount from your bank balance. Each entry will either increase cash or decrease cash. Take a look at this example. Let's say you have to pay rent so you write down rent in the description. The rent costs $500 so you subtract $500 from your cash balance in your bank account. And if you started with $700 in cash in your bank account and subtract the 500 you're left with $200. You then pay your utilities at a cost of $125 so he subtract 125 from the 200. So now we have a running balance of $75 remaining. Then you get paid. $1000 is deposited into your bank account, and now your cash balances 1000 plus 75 for 1000 and $75. Pretty straightforward, but it's easy to make a mistake using single entry bookkeeping. This could result in the balance money available to be incorrect. A business needs a system which will not have this potential for error, and a business has to categorize all of transactions very carefully. Double entry bookkeeping solve these challenges. Double entry means that each item gets entered twice, wants to record the impact on cash and wants to record the category of the transaction by recording the amounts twice in different sub totals. The system tracks finances more carefully and cross checks the totals to make sure they're the same. This is similar to how a crossword puzzle requires letters to fit both down and across the puzzle. Here are three transactions recorded using double entry bookkeeping. Notice how each transaction has two entries, one to show the effect on cash and the other to show the effect on a related account. For example, when a business buys an office chair for $50 cash is reduced by the $50 used to pay for the chair and assets, which is a type of a business account, are increased by $50 because the business now owns a chair valued at $50 acid is a knob checked of value. And that, in this case, is the chair. The business did not lose $50. It converted $50 of value from cash to an asset. Let's repeat that when the business buys an office chair that's worth $50 they pay $50 in cash, which reduces their cash by $50. But they get something of value an asset in return, which is that chair. So now there increased by that same $50 that they just paid up. In terms of total value, it's the same zero. There's no difference. You gave 50 and received 50 but he recorded it in your counting system as shown in this table. So that's the office chair example. Let's take a look at selling a product so business sells a product to a customer who gives the business of $100 so you increase your cash by $100. But you also have an account called a revenue account sales revenue, which has increased by $100. This will become clearer later when we dive into accounting more deeply. Now let's say a business buys a product and it's going to re sell that product later. So the business buys the product for $75 in cash, so we reduced cash by $75 and that increases the assets of the business zones by the same $75. So they purchased something for $75 received that same thing of value of the same value of $75. So it balances in two different accounts the cash account and whatever that other account is in the case. Of the three examples we've seen here, the other account, in some cases is assets. In other cases is revenue. We'll learn more about accounts later, so double entry bookkeeping reduces the possibility of error because if an amount is entered incorrectly in my cosy counting to unbalance, which can immediately be seen and corrected. Traditionally, bookkeeping was done using paper, books and pen. But most businesses now use accounting software to save time and provide better reporting 10. Accounts: accounts. A proper accounting system does more than just track cash in and out of the business. It also tracks how cash is used and how any item of value is moved in and out of a business or changes value within the business. Let's clarify that for a moment, so cash is obviously something of value. But other objects land, equipment and so on also have value. And any time you move something of value in or out of the business, you have to record that. Sometimes objects will change value while the business still owns them. For example, a piece of equipment might get reduced in value as it's used and where, and terror becomes more prevalent on that piece of equipment. So usually most objects when you buy them, you're going to resell them. They're worth less. Not everything, but most cases. Most objects are. Therefore, while the business owns that object, it actually changes in value. In some cases, objects like land, for example, could actually increase in value. Examples we've seen use three types of account cash revenue and assets. Accounts are a way of categorizing financial transactions. In accounting, there are five major categories or classes of accounts commonly used in business accounting assets. These are items of value, like cash and product inventory Liabilities are debts that the business owes. Equity is money from selling shares or ownership in the business and also holds what's called retained profit. That's profit made in the business that still resides in the business, and we'll learn more about retained profit later as well. Revenue. That's money received from customers and others and expenses these air goods and services purchased by the business to operate the business. So these are the five major categories of accounts. Each category may also have sub categories. For example, assets could have cash, furniture, equipment, property and product inventory as categories. 11. Debits and Credits: debits and credits every time a financial transactions recorded in accounting at least two of the major categories that we discussed have to be modified. For example, assets liabilities, equity revenue expenses. Repeating the earlier example of buying an office chair for $50 cash is reduced by the $50 to pay for the chair, and assets are increased by $50 because the business now owns a chair valued at $50. Another way to show the above transaction is to use the counting terms, debits and credits I shown in the table below. A debit means to increase assets or expenses and decrease liabilities or equity or revenue . Those are the five major counting classes we discussed. Credit means to decrease assets or expenses and increase liabilities or equity or revenue. You may not have to remember all this perfectly, but if you are going to have a career in accounting, you will probably have to do so. So looking at the table below, we have two entries. The cash entry, which shows a credit which is a reduction of cash of $50 to buy the office chair and then we haven't increase in assets, which is a debit of $50 to purchase the office year, so assets are debited. Cash is credited again. Crediting cash means reducing it deboning assets means increasing assets. One easy way to remember cash and debit is to think of your debit card that you have with the bank. The debit card means you already have money that you can use, so it's called a debit card. Adding more money to your bank account actually increases your cash, which is a debit. So, Deb, it is an increase in cash. That's an easy way to remember Deb. It's worth cash. Accounting prefers the terms, debits and credits, which is sometimes abbreviated D r and C R so D. R for debit CR for credit. These terms are used to avoid the confusion that could arise with the use of. Plus, these terms are used to avoid the confusion that could arise if you use symbols or words like plus or minus or increase or decrease because of the fact that some accounts are increased and others are decreased in certain ways, the words, debits and credits are more accurately representative of what you should do what you're seeing now, are arrows that shows whether on account increases or decreases based on a debit or credit , so you can see assets increases if it's debited, and if it's credited, you want to decrease it. You want to increase a liability. You would credit it if you want to decrease the liability you debited. Equities is decreased on a debit, increased on a credit. Revenue is decreased on a debit, increased on a credit. Expenses are increased on a debit and decreased on a credit. This could be confusing early on, so it's nice to have an easy reference that you can look back on. You also have the option of playing a go venture business simulation, where you can actually practice definition credits, and if you practice debits and credits for some time, you'll find that become very natural, and you'll remember these things very easily. 12. Let's Get Started with Financial Statements: you're both to start the last section of my free course here, you will review the most common financial statements used in business. Let's get started. 13. Financial Statements: financial statements, Financial statements report The current and past financial state of the business proper accounting makes it easy to generate accurate reports for many aspects of the business. There are three primary financial statements for a business balance sheet income statement , which is sometimes called a profit and loss or PML and cash flow. Statement. Cash Flow statement shows the timing of money flowing in and out of the business. This report is particularly important in helping make sure the business does not run out of money. Unexpectedly. Income statement shows all of the money flowing in and out of the business to determine if the business is profitable or not. A balance sheet shows the value of the business by adding up everything their business owns and subtracting everything that the business owes. The actual value of a business is often more complex in the balance sheet shows, but the balance sheet provides an accurate view of its financial position. Well describe the reports in further detail 14. Revenue and Expenses: revenue and expenses. To understand the income statement, you must first understand some key definitions. Revenue or income. This is money earned by selling a product or service you receive this money directly from and consumers, resellers or distributors. Cost of goods sold, abbreviated as cards. The cost to produce the product you have sold are recorded as cock's for clarity. Coxes Onley for products that have been sold, not for products that are in inventory and not yet sold expenses. This is money paid out to sell your products and operate the business. It can include employees, wages, sales and marketing expenses, interest on loans and more profit. This is the money generated from your business activity that exceeds the costs of the business. If revenue minus cards minus expenses is positive, it means you have generated a profit. If it is negative, you have losses. Profit is also called earnings. The income statement adds up all the revenue, COGSA and expenses and applies this formula. Revenue minus cog minus expenses equals profit. If the formula bob results in a positive number, then the business has generated a profit. If the number is negative, then the business has suffered losses. Here is the income statement formula. Visually revenue, which is money received minus the cost of goods sold. Hercog and expenses, which is the money paid out, equals profit. That's the money made or lost. Here's an example that applies the income statement formula. Revenue minus COGSA minus expenses equals profit. The company has product sales of $5000 so that shows as revenue of $5000 the cost of goods that are sold or 1000 again clarified. The cost of goods that have actually been sold not necessarily produce you may produce more than you sell causes. Only specifically, the value of the goods sold hogs is 1000. The expenses for selling those goods or services and supporting the business are 2000 for a total of 3000. That's Cox and expenses so 5000 minus 3000 is $2000 in profit. So this business has generated a profit of $2000. That's good. Here's another example. Businesses product sales of $8000. So that's the revenue. The cost of goods sold is 2500 and expenses are 1000 for a total of $3500 Cox and expenses . So 8000 minus 3500 is $4500 in profit. That's good. Next example. Product sales of $6000 sale of services for $2000. So that's a total revenue of $8000. The cog there 3000 and expenses, or 6000. That's total Cox and expenses of 9000. So 8000 revenue minus 9000 colleagues and expenses leaves us with a net profit of minus $1000. So that's an actual loss. Profit is negative. A company have suffered a loss, losses and accounting, or sometimes shown with negative numbers or numbers in parentheses like this minus 100 with a minus sign or 100 in parentheses. Both of these mean negative $100 for a loss of $100. 15. Assets and Liabilities: assets and liabilities. To understand a balance, you must first understand some key definitions. An asset. This is something that a business owns. This could be cash, furniture, property, buildings, computer software and more liability. This is something that a business owes. This could be money owed to employees, vendors, the government or loans owed to banks and others. The balance sheet adds up all the assets and the liabilities and then applies this simple formula. Assets minus liabilities. If the business owns more value in assets than it owes in liabilities, then it has positive equity equities, the value held in the business and is the third component of the balance sheet formula. As shown here, assets are everything you own minus liabilities. Everything that you owe equals equity, the value you've created. Here's an example that applies. The balance sheet formula of assets minus liabilities equals equity for business. Has assets of cash. $4000 Furniture of 600. Computer 400 Dad adds up to $5000 in assets. If business has a bank loan for which it still owes $2000 and a credit card payment due of 1000 that's a total liabilities of $3000. So assets of 5000 mines liabilities of 3000 leaves. It was with 2000 in equity. One way to read this is to say that the businesses shut down and everything in it is sold or liquidated, and all the liabilities paid off to zero. There would be $2000 left over. This is how much value currently exists in the business. Let's look at a couple of more examples. In the first example, we have cash of 8000 furniture 700 a computer 400. These are all assets, and we add them. Together we get $9100. We have liabilities of a bank loan for 2500 and a credit card of 900. We had our liabilities. We get 3400. We subtract those two totals. We get 5000 $700 in equity. Second example. VF cash of $12,000 unpaid sales of 1000. So the sale is made but not yet paid. It still is a NASA, and we have land worth $10,000 that totals are assets $23,000. We have a bank loan of 9500 and $6000 owe to suppliers for a total of 15,500 liabilities, and we subtract 15,500 from 23,000 and we have total equity of 7500. 16. Step by Step Accounting for a New Business: This video is going to help us better understand the fundamentals of accounting and key financial statements. By pretending we're running a new business, starting and running and new business, new ice green kiosk. And we're going to build our accounting from the ground up, starting with nothing. What you're looking at here with the balance sheet and the income statement. The balance sheet may remember is everything that we, ONE minus everything that we owe, which gives us our equity. And the income statement is money in and money out. And ultimately whether we're making a profit or not, and everything is blank except for the five types of accounting accounts. So you see assets, liabilities, equity on the balance sheet side, and then on the income statement side, revenue, cost of goods sold, COGS, and expenses. So these are the five types of accounting categories. And everything is empty now because we haven't even started a business. And we're going to watch as accounting builds up these financial statements and how value moves in and out and to different parts of the business based on the accounting definition. So we decided we're going to start a new business. It's a kiosk business, going to sell ice cream at the kiosk. So the first thing we wanna do is we go through some process to register or business with the government, do some legal work and recounting work in that kind of thing. So let's say we've done all that and now we're ready to launch this business. So the first thing we're gonna do is put some money in the business because most businesses to get started, you need a little bit of money at least. So let's assume we have a $1000 and personal savings, thousand dollars in cash. Are we going to invest in starting this business? How does that look on our financial statement? That's, let's do that now. So $1000 cash is an asset. So cash is an asset and we're going to type in cash. So that's a new account right there. Remember, accounting tracks financial transactions and changes in value and we do that through the creation of accounts. And so cash is an account that we want to monitor. Now, remember that cash doesn't necessarily mean paper, bills and coins. It could also mean money in the bank and that type of thing. So we have $1000 cash that we're going to start a business with. So there's our $1000 right there. Now we have to remember that accounting is based on double entry transaction. So whenever you post something and accounting, there has to actually be at least two postings because it's called double entry. You're always making at least postings and that helps everything balanced. So when we post something like cash, $1000, we have to balance that with something else. So what did we balancing it out? Well, what are we classifying this $1000? We're going to assume that this money doesn't have to be paid back. It's not alone, it's not, a company is not borrowing the money from him. By the way, when we create a company like a limited liability corporation at that as a separate entity. It's not us, it's a separate organization, a separate entity we're creating. So even though we may own it, we don't own it the same way as a sole proprietorship where it's actually part of us anyway, that's beyond the scope of an accounting course. So let's focus more on the double entry aspect of it. So we're going to put this as equity. Means we're going to get shares or ownership in return for this $1000. So we're the only one creating this business. We have no partner to other shareholders. It's us. So we're putting it at $1000 in, and we're getting in return all of the shares, that business. And so we're going to call it start-up capital. There's other terms that might be used for this, but we're going to use start-up capital and we put our $1000. Now remember the balance sheet always has to balance, which means the formula, assets, assets minus liabilities equals equity. That formula always has to balance. So whatever we enter up here has to balance with what's down here, has to equal what's down here. And does it, assets minus liabilities is 1000 minus 0, liabilities are 0. We haven't done equals 1000. Perfect balanced. All right, so there we go. We've just started our business and we just made our first accounting transactions of the $1000 in startup capital or seed, seed money, as it's sometimes called, to get the business going. Let's do something else. Let's assume that $1000 is not enough money because we got to buy kiosk and we got to buy inventory. And let's hit a kiosk is going to cost us $2 thousand. So we need to go out and get some more money. And instead of selling shares, let's look at getting a loan. Let's get a loan of $2 thousand. All right? So we're going to get a loan of $2 thousand. So we go to the bank or financial institution or maybe a friend or an angel investor or something like that. And they agree to give us $2 thousand, but it's borrowed money, we have to pay it back with interest. So now it's alone. So let's put a loan on our balance sheet here. So a loan is a liability, it's something we owe. So we're going to create a new account called the loan account. There it is right there. And somebody going to give us 2 thousand in cash. So when the 2000 cash, what happens to our cash account? We add to it, right? So we already have 1000 in cash. Someone's gingiva is 2 thousand. That means we're now up to 3000 in cash. And that 2000, how do we balance it? Remember double entry, where else do we put it? Well, it's alone. So we put it at 2000 right here. Let's look at what happened here. We started with $1000 in cash, then we've got 2000. And that's an asset, cash. But we also have a liability of 2000. By 2000 that we added here in the 2000 Year actually cancel out when we do our formula of assets minus liabilities equals equity. So assets 3000 minus liabilities 2000 gives us 1 0, 0, 0. So 1, 0, 0, 0, 0, 1 0, 0, 0. That's the same as it was when we just had a $1000 in cash. And that's because the value of the business has not changed. Even though we got $2 thousand more cash. We now also 0, 2 thousand dollars. The value of business had not changed when we first started the business and there is nothing in the business and we put 1000 in. The value actually increase by 1000 at that time because it was classified as startup capital or equity. It was not a liability. So the value of business actually grew by $1000. So the value of the business can actually continue grow as we raise more money through the sale of shares were more likely more commonly it's going to grow through sales and we're going to look at that in a moment. All right, so we've got our loan money. So now we've got enough cash to buy some equipment and some other expense that we have to deal with. So. Let's say we buy our kiosk and the kiosk is going to cost $2 thousand. All right, So we go, we get a kiosk made or built, or we buy it as it is, and it's an asset. A kiosk is something of value, something we can continue to reuse and over and over again, it's a physical asset in this case. So we're going to put kiosk here, and the value of that asset is $2 thousand. And we paid $2 thousand cash for that asset. So our cash is no longer 3000 because we just paid over 2000. That drops back down to a 1000. So all that happened here is we took $2 thousand of value, which was cash, and we moved it to right here to the kiosk. The asset, the total assets has not changed. It's still 3000. That's what it was before. Watch this. If I undo that, it was 3000. We moved to 1000 from cash to kiosk. So the value of the business has not changed. And let's do our formula again. Assets 3000 minus liabilities 2000 equals 1, 0, 0, 0, 0, that balances. And notice again the value of the business is still $1000. That has now changed. We have not created any new value in our business at this time. Okay, so let's keep going. Now. Let's say we are going to purchase some signage. So we've got our kiosk and we want to get some nice signage for that kiosk. Now, signage is not necessarily an asset. It can be depending on the type of signage, but let's assume it's not robust signage. It could also be some paint or some things like that, but we'll assume it's signage and it's not really an asset. So we buy some signage for $200. All right, so what happens now is our cash diminishes by 200. So now we're going down to 800. But we just purchased $200 worth of signage. Where does that go? Well, actually doesn't go on the balance sheet because it is not something of value. It is not an asset. We've already paid for it, so it's not a liability and it's not equity because that's generally either shares or profit. So we have to now introduced income statement. And notice there's a section called expenses. It is an expense, so I'm going to put signage under expenses and we pay $200 for that signage. So now we have recorded the signage as an expense. Remember it's not an asset. If it was an asset, we'd actually add it here under Assets and have it there, but now it's an expense, so it has to go on the income statement to a $100 and notice now has a balance sheet change. Does it still balanced? Let's see. 2800 minus 2000 is $800.800 thousand know, we're unbalanced by $200, something's wrong, something's missing. Let's do that again. 2800 and assets minus 2000 and liabilities equals $800, it should equal 1000 somethings on balanced. Here's what's unbalanced. This $200 has to also be recorded on the balance sheet. Has to be recorded in the balance sheet in order to make everything balance. Where does he get recorded in the balance sheet? Right here. When you and your new account, and it's going to be called retained earnings. Retained earnings. Retained earnings. Let's explain that to earnings is another word for profit. It's just the same word, just different, different term. Retain means held in the business. So once the business has profit, the owners of the business in this case, it tells us where the shareholder we could pull money out of the business as profit because that's why we created the business is to generate cash. And if we pull money out, it's no longer retained. So we'd actually be reduced from there. We'll skip over that for a moment and just focus on the fact that we've spent $200 on an expense. So retained earnings profit, what is our profit? Profit is the bottom line of the income statement. So if we took revenue minus cost of goods minus expenses, we would get our profit. I'm going to put that right there. And right now revenue 0, cost of goods is 0, signage expenses is 200. So revenue minus cost of goods minus expenses. It's minus 280 counting. Sometimes you'll do the minus and brackets that we're going to keep it as a negative for an app. So this minus 200, this profit. And actually, more specifically, it is net profit. Net profit, which means net earnings. That actually appears right here. So all of the income statement, the entire income statement, the final bottom line number, net profit, feeds into the balance sheet right here, right there. So everything that we can't post as an asset can't post as a liability, can't post as share related equity. All gets captured under this number which is posted from the income statement. To help us going forward, I've added the formulas at the bottom of the balance sheet income statement so we can refer to them as we go. All right, What's next? Now it's going to start getting interesting. Let's buy some inventory. So we're going to be selling ice cream. We have no ice cream at the moment to sell. Let's buy some inventory. So we can actually make ice cream and then sell it. We're going to buy inventory. Now, inventory, Let's say we buy $500 worth of inventory. Inventory is an asset. It's something of value. In the case of ice cream or buying hard ice cream. We're buying cones, Sunday toppings and containers. These are all things you can readings we're going to use to make our product and sell that product. So that's that value. So we're going to spend $500 to purchase inventory. That means our cash could be reduced by 500 if we pay with cash, but we're not gonna pay with cash, we're going to put it on a credit card. So let's say our business now has a credit card and we're going to post that balance sheets. So first let's put our $500 and inventory right here as an asset. But we do are going to pay $500 for that inventory, but we put it on our credit card. So that means we should have another account now, probably a credit card. And we're going to put 500 here. So now we have a liability, something that we owe a credit card. We all the credit card $500, but we got something that value back. Inventory or $500. Notice there are formula assets minus liabilities equals equity has not changed because we basically got an increase of $500 in assets, but immediately a decrease in liability. So there's no change in value. At the moment, now, is there a reason why I didn't put the $500 here under alone? Why don't I just lump everything under loan? That's possible, but usually it's better to have separate accounts because alone might be what's called a long-term liability, something that may not have to pay for a couple of years or maybe I'm paying monthly, but it won't be fully repaid for a few years. Whereas a credit card is usually something you have to pay right away. You may maybe in 14 days or 30 days, maybe if I extend it and pay some interest might be 60 or 90 days. But it's a short-term liability. Short-term generally means something that has to be repaid within a year and a long-term, usually more than a year. And so it's better to actually have separate accounts for things like that. So you can track them separately and you can track payments made on those things separately. All right, So the good news now is we have our business up and running. We've started the business, we have our equipment of our kiosk, we've got some signage to attract customers, could even do some advertising. Let's do that. Because now we have our inventory and we can start selling. Let's do some advertising. So advertising is an expense. It's not an asset. You know, you pay for it, it's gone, you use it. It's God. It's not a liability or equity. It's not revenue or cost of goods, it is an expense. So what we're going to say advertiser. So we do some advertising, just a modest amount, let's say $50 worth. And we're going to pay cash with that. That means our cash is diminished by $50. So does everything balance here. So 2500 balance with that, and that leaves us with 750. So our assets minus liabilities is 750 and our equity is 800. So the 750 equal 800. No, It's off by $50.50 dollars. Aha, our advertising. Because when we add our advertising, what happens here, our net profit is actually lower. It's even worse. So now we spent $250 of expenses. So our net profit now is minus 250. And remember, net profit feeds into this ask, this part of the balance sheet. So that's going to match minus 250. So if we add all these, add these up, subtract the liabilities, we get 750, and we add these, we get 750. So our balance sheet balances again. Okay, customers are now coming. They're buying our products. Good news. What happens now? All right, so let's say we've sold a thousand dollars worth of ice cream. So we had great day, great opening day. Lots of customers came. They paid us well for our products. They enjoyed our products and they gave us $1000 in cash. Where does that go? Well, that is called sales revenue. So money from customers, sales, we're going to call it sales revenue. Now we could call it ice cream sales. If we wanted to. Maybe we're going to sell different types of things. In fact, we could track our products separately. We can track our Sunday sales different than our ice cream cone snails. Different than our ice cream bar sales. So we could actually have a line item here for all types of our products. And that would actually allow us to track our products individually and we can see what selling better and what's making us more money and so on. But for sake of simplicity, we're just going to have one line item or one account and we're going to call it sales. And it's under revenue because it's sales revenue and is $1000. We were given a $1000 by customers. All right. What else does this impact now? And that's moved down here. Okay, cost of goods, that is, it's going to impact that in a moment. Expenses, no expenses, no additional expenses at this time. So what's our net profit? What should this be based on that 1000, by the way, I'll just point out, I haven't finished making my postings for this transaction yet. I'm just gonna do them one at a time. So we can see this slowly. So 10000 minus cost of goods was a 0 minus 250 is 750. So 1, 0, 0, 0 minus 250 is a positive 750. So we went from a minus 250 to now a positive 750. So our net profit is looking a lot better at the moment. Although again, I haven't finished posting all the transactions. That means that 750 would also change this number to 750. But before I do that, let's complete some of our transactions. So customers gave us a $1000 in cash. That also means we have to increase our assets by $1000, right? Because we've got now have new cash of $1000 or 750 is now increased. We add it there, that one hundred, seven hundred and fifty. Great. So we've gotten we've just built value in the business here. So we now have a 1000, 750. Let's put the 750 of net profit. Let's adjust that and put that there. So let's do our formula again, assets minus liabilities. So if we add all these and subtract these, we get one hundred seven hundred and fifty equals equity, which is one hundred, seven hundred and fifty. So it all balances. Great, but we still haven't finished making our postings. Why? Because of this inventory. So remember, we purchased ice cream ingredients so we can make products and sell them to customers. And we did that. That means some of this inventory is no longer with us. We no longer have it because we gave it to our customers. We use it to make our products. They gave us a $1000 for those ingredients that we put together into a finished product. So we no longer have $500 and inventory. Even though our balance sheet balances, something is still wrong because it's inaccurate. We do not have this much inventory. What happened in inventory? We gave to our customers. How much of that did we give? All right, let's take let's take an estimate. Let's say we used up $400 worth, $400 worth of that 500, and about 80 percent of the inventory is now gone. That means this is no longer 500. We've used up $400 worth. We means we only have a $100 left. So we've just reduced this account, this asset account by 400. We have to have a similar reduction on the balance sheet somewhere else. We're just going to be here. And you may have guessed that it's going to be on retained earnings. Let's see how that happens. So we go to their income statement and notice we have cost of goods sold. So that's COGS, cost of goods sold, inventory or goods. We've sold $400 worth of those goods. And what is the cost? The cost is $400. So we have inventory of 400. That's how much the ingredients cost us that we use to generate this $1000 in sales. So now let's do our formula for income statement. 1000 minus four hundred and six hundred minus two hundred and four hundred minus 50 is $350. So our profit now $350 at the end of the day, because again, our inventory cost is money. It wasn't pure profit. You actually cost us money to make those products. So there's our 350. So now are our 350 feet into our balance sheet here. 350. Let's add it all up. So if we add these up, our assets is 3,850. We subtract 2500 and we get 1350. Does our equity equal 1350? It does. So our formula is perfectly balanced, wonderful. Our accounting is perfect order now. So see what happened here is we just increased the value of the business. We did it by generating sales. But not just sales, specifically sales that are profitable. So if you look at the balance sheet, the way we increase value in the business is by building up equity. And there's really two ways to build up equity. One is we either raise money, where people give us money, returned for ownership in the business, where we could sell shares in the business. Although that's not a very common way, the more common small business approach is through generating sales profits, specifically profits. And profits. Feed rate here. They feed our retained earnings, which increases our equity. And remember everything has to balance and we increase this side of the equation, the equity, we also have to increase this part. And that's normally done through cash. Customers gave us cash. So our cash increases, which increases our profit, vice versa, and that increases the overall value of the business. So let's consider for a moment. Let's say we go the entire year and we sell a $100 thousand worth of ice cream. And if we sell a $100 thousand with ice cream, let's say we make $40 thousand in net profit on that. That net profit will appear here, which means we also have $40 thousand worth of cash that will appear here in our cash account. And our overall value or business on our balance sheet grows. So the income statement is showing us how we're building value in the business and how that feeds into the balance sheet. Let's do a couple of more examples to finish this off. Our credit card, we owe $500. Let's say we're ready to pay that $500. How do we do that? Well, we reduce our cash because we have to pay cash to pay off the credit card, so we reduce our cash by 500. So now that's $1250 and we paid off as 500, so it's no longer a liability and that gets erased. Does a formula still balanced? This is 30, 350 minus 2000 is 1350. Add these up 1350. It's still balanced because all we did basically got rid of a liability and reduced our cash at the same time. Now let's say we want to pay off some of this loan. Maybe we're paying it off every month. So let's say we're going to make a payment of $250. So alone that is paid with interest. What happens is every time you're making a loan payment, you're paying some of the principle of the loan, some of that interest that was accumulated at that time. And so let's say we make a loan payment of $250. And we're going to assume based on the amortization schedule, that loan, that 200 of that 250 goes to principal and 50 is used to pay the interest that period in time. So how would we record that? Well, first, we pay 215 cached on the loan, so our cash gets reduced by 250, and then our loan principal gets reduced by the 200 to 250. Because remember, 50 was the interest didn't reduce our principal only 200. And now this is 1800. Now you may say, Wait, our formulas now at a balance because you took out 250 here, but only 200 here, that means our equity is going to be out of balance. That is exactly right. We gotta get it back and balance. How do we get back in balance? Well, we got to record that $50.50 dollars in interest. That $50 in interest is actually considered an expense. So do we move over to our income statement? It's not revenue, it's not cost of goods, it's an expense. And we're going to create an account called interest for interest expense. And we paid $50 of the 250 as interest expense, which then further reduces our profit down to 300. Which means that 300 feeds over here. So it's no longer 350 is 300. So that $50 that was missing is now back on our balance sheet. To make everything balance does balance. 3100 minus 1800 is thirteen hundred thirteen hundred balances. So we've just built and accounting system with financial statements for our brand new business using the fundamentals of accounting. Hopefully this example helped illustrate how the basics work and that now you're more confident in understanding how accounting feeds into these two important financial statements and how they interrelate to build value in a business. Thanks for watching. 17. End of Course: Hey there, This is the end of the course. If you've carefully reviewed the videos, you now have a fundamental understanding of counting in only minutes. This is a short course, and it's free, so I hope you found it a valuable use of your time. If you want to take your learning further, review the other courses that I offer my courses, use games and simulations to keep you engaged and make it easier to understand the concepts presented. I hope you achieve your goals in life.