Assets, liabilities and equity: how does accounting answer the questions «what do we have» and «where did it come from» on the day a café opens?

Before opening the café Malika gathered everything she needed: she put in her own savings, took a loan from the bank, and a supplier gave her the first batch of food on credit. On the evening of the opening day she wrote two questions in her notebook: «What does the café have?» and «Where did all of this come from?» These are exactly the questions promised in the first lesson. Today we answer them in the language of accounting and learn the most essential words of that language.

What does the café have and where did it come from?

Malika registered her café as a limited liability company. The situation on the opening day (in soum):

It is easy to follow how the money moved: Malika's 60 million and the bank's 30 million soum, 90 million soum in total, arrived in the bank account. Of this, equipment was bought for 55 million soum, and of the remaining 35 million soum, 5 million soum was withdrawn in cash into the till. The food, on the other hand, came without money, on credit.

In accounting the left column is called assets and the right column liabilities and equity (the sources). The totals of both columns came out the same. This is no coincidence; we will see the reason below. First let us unpack the words themselves one by one.

Nine key terms

1. Asset. Wealth that is in the business's hands and is expected to bring it benefit later: money, stock, equipment, amounts others owe us. Mini example: Malika's cooker is an asset, because it cooks food every day and brings in takings.
2. Liability. The business's debt to others, which must later be settled with money, goods or services. Mini example: the 30 million soum taken from the bank is now in the café's account, but it belongs to the bank and will be repaid. So it is a liability.
3. Equity. The owner's own share in the business. NAS No. 21 defines it briefly: «Equity is the difference between the organisation's assets and liabilities» (paragraph 342). Mini example: if we subtract 40 million soum of debt from 100 million soum of assets, Malika's own 60 million soum remains. For now this amount is in the form of charter capital; if the café makes a profit, equity grows, and if it makes a loss, it shrinks.
4. Liabilities and equity (sources). The sources that show where the assets came from: liabilities and equity together. NAS No. 21 likewise states that liability-type (passive) accounts are intended to reflect liabilities and equity (paragraph 3). Mini example: the right column of Malika's table.
5. Accounts receivable. What others owe the business. Even though the money has not arrived yet, it is expected to arrive, so it counts as an asset. Mini example: a nearby office took lunch for 20 people and said it would transfer 1 400 000 soum next week. Until the money arrives, this amount is the café's accounts receivable.
6. Accounts payable. The business's debt to suppliers, employees or others; one kind of liability. Mini example: the 10 million soum not yet paid to the supplier for flour and meat.
7. Balance sheet. A report showing assets and their sources as at a certain date. Under NAS No. 1, the balance sheet must show the totals of non-current and current assets, equity, and non-current and current liabilities (paragraph 61). Mini example: Malika's table is a simplified balance sheet for the opening day. It is like a snapshot of a single moment: if takings come in tomorrow, the picture changes.
8. Account. A separate «page» on which the state and movement of one type of asset, liability or capital are recorded. Every account has a four-digit code. Mini example: soum in the till are kept on account 5010 «Cash in national currency», and soum in the bank on account 5110 «Settlement account». That is why cash and money in the bank never get mixed up.
9. Primary document. A paper or electronic document confirming that an event really took place; every accounting entry rests on one. Mini example: the loan agreement concluded with the bank and the bank statement, the supplier's invoice for the food, the equipment acceptance certificate.

The glossary page for each term is in the links at the end of the page.

Why do the two columns always come out equal?

Because they look at the same thing from two sides. The left column answers the question «what has the money turned into?», and the right column «whom did this money come from?». Every soum in the café has a source: either Malika herself, or the bank, or the supplier. Therefore:

Assets = Liabilities + Equity

In Malika's example: 100 000 000 = (30 000 000 + 10 000 000) + 60 000 000.

Even once business gets going, the equality is not broken. Let us look at two different events separately, starting from the opening-day position:

• If Malika pays the supplier 2 000 000 soum from the till, in the left column the till decreases by 2 million soum, and in the right column the debt also decreases by 2 million soum. Both totals become 98 000 000 soum.
• If Malika buys a coffee machine for 4 000 000 soum from the bank account, within the left column the money in the bank decreases and equipment increases. Both totals stay at 100 000 000 soum.

We will look at these types of events in detail in lesson 4.

Three places where beginners often go wrong

• Equity is not the cash in the till. Malika's 60 million soum of capital is not lying in the till: most of it has turned into equipment. Capital is not a thing; it shows the owner's share.
• «Passive» does not mean bad. In everyday language the Uzbek word «passiv» means «inactive», whereas in accounting it only denotes the source of assets.
• A bank credit and the «credit» side of an account are not the same thing. A bank loan (credit) is a liability. The «credit» side of an account is a completely different concept, which we will study in lesson 5.

In the next lesson

In the third lesson we will see how the chart of accounts is built: which sections it is divided into, what the four-digit code means and which types accounts fall into.