Question 3.16: The following is the balance sheet of Jonathan & Co., a ...

Its value was estimated at $14,000. The dual effect of these transactions is set out next.

1   Increase in inventory of $100,000 matched by a decrease in cash

Increase of inventory of $100,000 matched by an increase in creditors

2   Reduce cash, reduce creditors—$105,000

3   Plus sales revenue (i.e. capital),

plus debtors—$120,000 Plus sales revenue, plus cash—$210,000

4   Plus cash, reduce debtors—$110,000

5   Reduce capital (an expense), reduce debtors—$5,000

6   Reduce inventory, reduce capital (an expense)—$200,000

7   Reduce cash, reduce capital (an expense)—$2,800

8   Reduce cash, reduce capital (an expense)—$40,000

9   Reduce cash, reduce capital (an expense)—$15,000

10 Reduce fixtures, reduce capital (an expense)—$2,000 Reduce premises, reduce capital (an expense)—$5,000

11  Increase a current liability (accrued wages), reduce capital (an expense)—$1,000 Increase assets (insurance prepaid), increase capital (a reduction in an expense)—$100 Increase a current liability (accrued rates), reduce capital (an expense)—$1,000

12  Cash reduced by $45,000 (capital), a drawing reduced by $45,000

13  Vehicle increased by $14,000 capital, (an injection) increased by $14,000 The transactions all reflect the dual effect.

This can be reflected by including them on the balance sheet as a series of pluses or minuses, as shown in the balance sheet below. A two-sided format is used because of the duality link and the link with ledger accounts and double entry book-keeping, which will be introduced in the next chapter. The opening balances are shown in the plus column.

So far we have followed the approach used in Chapter 2. All the revenues and expenses are recorded directly onto the statement of financial position. We explained earlier in this chapter that the income statement is effectively an appendix to the statement of financial position. In effect, all the items shown in the statement of financial position above, under the heading revenues and expenses, could be summarised elsewhere and the net figure included in the statement of financial position.

This would give us:

The equity section of the balance sheet will simply consist of the opening balance, plus any new injections, plus the final figure of profit (or minus any loss), less any drawings over the period.

More formally, the above model can be developed as shown below.

Assets = capital + revenues – expenses + liabilities

This can be rearranged to:

Assets + expenses = capital + liabilities + revenues

This equation provides a base for the preparation of the income statement and the statement of financial position, so a list set out as follows must balance.

Assets                  Liabilities

    +

  +               =       Equity

…………………………………………………………………..

    +

Expenses            Revenues

The section above the dotted line represents the statement of financial position. The section below the dotted line represents the income statement. In order to separate the two sections, all that needs to be done is to calculate the profit or loss (revenues less expenses) and insert it in the capital/equity section of the statement of financial position.