FABM 1 – Fundamentals of
Accountancy, Business, and
Management 1
Lesson 2: The Basic Accounting Equation
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I. Lesson Objectives:
- Define and explain the Basic Accounting Equation.
- Identify the components of the accounting equation.
- Demonstrate how business transactions affect the accounting equation.
- Analyze simple business transactions using the accounting equation.
II. Key Concepts and Explanations:
A. The Accounting Equation
The Basic Accounting Equation is the foundation of double-entry bookkeeping. It shows the
relationship between assets, liabilities, and owner’s equity.
Accounting Equation:
Assets = Liabilities + Owner's Equity
- Assets are resources owned by a business (e.g., cash, equipment, buildings).
- Liabilities are obligations or debts the business owes to others (e.g., loans, accounts
payable).
- Owner's Equity represents the owner's claims to the business resources (e.g., capital,
retained earnings).
B. Importance of the Equation
This equation must always be balanced. Each transaction affects at least two accounts,
maintaining the equality of the equation.
C. Examples of Business Transactions:
1. Owner invests cash in the business:
- Assets increase (Cash)
- Owner's Equity increases (Capital)
2. Business purchases equipment on credit:
- Assets increase (Equipment)
- Liabilities increase (Accounts Payable)
3. Business pays rent:
- Assets decrease (Cash)
- Owner's Equity decreases (Expense reduces net income)
III. Activities/Exercises:
Activity 1: Identify Components
Classify the following items as Assets (A), Liabilities (L), or Owner’s Equity (OE):
1. Office Supplies
2. Bank Loan
3. Owner’s Capital
4. Accounts Receivable
5. Salaries Payable
Activity 2: Effects on the Accounting Equation
Analyze the effect of each transaction:
1. The owner invested Php 50,000 cash in the business.
2. The business borrowed Php 20,000 from a bank.
3. The business purchased Php 10,000 worth of equipment in cash.
4. Paid Php 5,000 for rent.
5. Earned Php 15,000 service income on account.
IV. Assessment/Quiz:
Multiple Choice. Choose the letter of the correct answer:
1. Which of the following is an example of a liability?
A. Cash
B. Accounts Payable
C. Owner’s Capital
D. Equipment
2. What is the correct form of the basic accounting equation?
A. Assets + Liabilities = Owner's Equity
B. Assets = Liabilities - Owner's Equity
C. Assets = Liabilities + Owner's Equity
D. Assets = Owner’s Equity - Liabilities
3. If assets are Php 120,000 and liabilities are Php 50,000, what is the owner’s equity?
A. Php 70,000
B. Php 50,000
C. Php 120,000
D. Php 170,000
4. A business purchases supplies for cash. What is the effect?
A. Increase in assets and liabilities
B. Decrease in assets and increase in equity
C. Increase and decrease in assets (no net change)
D. Increase in liabilities and equity
5. Which transaction increases both assets and liabilities?
A. Owner invests cash
B. Borrowing from the bank
C. Paying salaries
D. Purchasing supplies for cash
V. Answer Key:
Activity 1:
1. A
2. L
3. OE
4. A
5. L
Activity 2:
1. +Assets (Cash), +OE (Capital)
2. +Assets (Cash), +Liabilities (Bank Loan)
3. +Assets (Equipment), -Assets (Cash)
4. -Assets (Cash), -OE (Expense)
5. +Assets (Accounts Receivable), +OE (Revenue)
Assessment/Quiz:
1. B
2. C
3. A
4. C
5. B