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The accounting environment

Example 1: Solution (cont.)

When Ahmed sold 150 boxes, he made a profit of (150 × 7¢) = $10.50. His
remaining inventory was reduced to 250 boxes at 5¢ each ($12.50). He also
acquired a further asset in the process: cash in hand of $18. The accounting
equation now looks like this:

Assets = Liabilities + Capital
Bank $100.00 = Payables $20.00 + Capital $100.00
Cash $18.00 + Profit $10.50
Inventory $12.50

––––––– –––––– –––––––
$130.50 = $20.00 + $110.50
––––––– –––––– –––––––

Don't forget that when Ahmed sold the inventory we must remove the cost of
items sold from the inventory balance, i.e. 150 boxes × 5¢ = $7.50. We can
see that the sale had three effects on the accounting equation – inventory was
reduced by the cost of the goods sold, i.e. $7.50, cash increased by the
amount the goods were sold for, i.e. $18 and the capital balance increased by
the profit on the sale amounting to $10.50.

Then Ahmed withdrew $5 from the business entity for his private use. This
amount (referred to as drawings) reduced the sum owed to him by the
business entity. The accounting equation now looks like this:

Assets = Liabilities + Capital
Bank $100.00 = Payables $20.00 + Capital $100.00
Cash $13.00 + Profit $10.50
Inventory $12.50 – Drawings

––––––– –––––– –––––––
$125.50 = $20.00 +
––––––– –––––– –––––––

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