In the study of the basic elements of Corporate Financial Accounting, Prof and MEMBA 11 students incorporated a business called MEMBA11 World Class Business Education Trainers (MEMBA11 WCBET). That became our Business ENTITY. I learnt that the ambition of any business will be dwarfed if it does not have tools of trade.
We took one of the LBS classrooms as the Entity’s location, where we carry out the business. Different businesses have what they use to carry out their business. The following items were identified as the things we need to carry out our business. Chairs, Tables, Projector, Smart Board and Public address system.
All these Items we identified for our business are called RESEOURCES. It was emphasised that the list of what one uses to carry out its business is called resources available to a business. These resources are funded through some sources. Therefore, as we have RESOURCES, we also have SOURCES OF FUNDS.
The resources that MEMBA11 WCBET own, have been funded by some sources. In the finance world, there are two basic sources. They are:
This is the reason some people say their business is partly funded by DEBT and partly by EQUITY. There is a connection in all of this. At any point in time, the Naira, and Dollar, one puts on the resources of a company, or an entity is equal to the sources of funds. This can be summarised as follows:
RESOURCES = SOURCES OF FUND
SOURCES OF FUND = DEBT + EQUITY
In accounting terminology, Accountants call resources, ASSETS. The first source of fund, which is debt they call it LIABILITY. The second source of fund which is equity, they call it OWNERS EQUITY. This eventually gives what is called Fundamental Accounting Equation: A = L + OE.
A stands for ASSETS, L stands for LIABILITY, and OE stands for OWNERS EQUITY. In summary, Assets at any point in time is equal to Liabilities plus Owners Equity.
I learnt that there is a financial statement that its business is to tell us what the Asset, Liability and Owners Equity is, at any point in time. That financial statement is called the Statement of Financial Position or Balance sheet.
Essentially what the balance sheet does is to tell us at any point in time what is the Asset position of the entity, what is the Liability position of the entity, and what is the Owners Equity. If the sum of Owner Equity and Liability is equal to Assets, we say the balance sheet is Balanced.
A = L + OE. The statement of financial position has the A, L, and OE as its elements. This is the information content of a balance sheet of an entity at any point in time.
The amount required for MEMBA11 WCBET to acquire the resources it needs to start the business was put at
N5M. 39 of us in class as shareholders contributed N100,000 each.
Prof asked us the shareholders two questions.
- Is our contribution enough?
- If not, how much loan do we need?
What we are trying to do at this stage is to put into practise the fundamentals of accounting equation. Which is A = L + OE.
As at the day of formation of MEMBA11 WCBET, how mush asset (A) the entity has was
N5M. The total owners equity (OE) was N3.9M (39x N100,000). If we look at the right hand of the accounting equation, is the contribution of the shareholders enough. The contribution of the shareholders is not enough. The shareholders need a loan of N1.1M.
Based on the Balance sheet equation:
A = L + OE
5 = 1.1 + 3.9
Is the right side summed up equal to the left side? Answer is YES. We can comfortably say the balance sheet of MEMBA11 WCBET is balanced as at that point. The key accounts we have seen so far from the MEMBA11 WCBET balance sheet are ASSETS, LIABILITY, and OWNERS EQUITY.
MEMBA11 WCBET, We Move.