In this video, we're going to begin a case where we're going to trace through a startup company from its initial transactions up through its first set of financial statements. So, we're going to look at a series of transactions and events and ask the question, do we need to record anything in response to this transaction and event? And if so what? And here we need to make sure that the balance sheet equation stays in balance. Each video in the case is going to concentrate on specific types of transactions and events. And this one it's going to be balance sheet type transactions. So, let's start. In the very first transaction, the firm raises 60,000 dollars of cash by issuing shares out to investors. So, what does it record? Well, clearly it has 60,000 in cash so that asset is going up. The question is what else does it have to record to keep the balance sheet in balance? It doesn't owe anything to anybody so, the other transaction has to be to the owners equity account and we would call that a stockholders equity account like common stock or paid in capital. An important thing to note here is, even though cash went up, and even though owners equity went up, nothing happens to income, there's no profits that are recorded on this transaction. This is a very important feature in accounting, it distinguishes between stockholders equity going up because of new investments as happened here, versus your generated profits. A ponzi scheme mixes together those two types of things, it takes new investment from investors and pretends that its profits, and then pay some of it out to early shareholders to try to give the illusion that the promise is making money, but raising money is not the same thing as making money. So here, cash and stockholders equity go up but no income. Now the firm has 60,000 in cash, in the second transaction it's going to actually use the cash to acquire some resources. It's going to buy some land in a building for 50,000 dollars so, cash goes down 50,000, and property plant and equipment is going to go up by 50,000. But we actually have to allocate that to the land and the building separately because a county is going to treat the building on the land differently later on, as we'll see the building we depreciate whereas the land we don't. So, suppose 14 of it is for the land and 36 is for the building, then we would record cash goes down 50, the land goes up 14, and the building goes up 36. Note that cash has gone down but again there is no impact on income. Cash going out is not the same thing as an expense, it's not the same thing as income going down because there's still future benefits to be obtained here. Ok. We've got the land and the building that's going to generate us benefits in the future. If on the other hand we'd spent the money by betting on red in Las Vegas and lost clearly there's no future benefit associated with that $50,000 help, so, that wouldn't be an asset. Accounting is future oriented, it's trying to say is there a future benefit? Here the answer is yes. So, we've got a building, we've got some land, now we're going to go out and acquire some inventory. So, we acquire 30,000 dollars of inventory but we don't pay for it in cash, instead we buy it on credit, and we're expecting to sell the inventory for 50,000. So, what do we record at this point? Well, we've got inventory, our asset goes up 30,000, we didn't pay cash so, cash doesn't go down 30, instead we've got a liability to pay the cash and that's the accounts payable account that goes up by 30. Note that we don't do anything with the fact that we expect to sell it for 50 because maybe it's really we hope to sell it for 50, counting doesn't let you record those kinds of hopes. If you sell it for 50, then you can record it, but until then you have to wait. Ok. This is the historical cost principle in accounting. Now, there are some kinds of assets more in the securities category where they will let you increase the value of the asset before you actually sell it, this is mark-to-market accounting. If you are allowed to do that you'd value the asset at 50, but you still only owe 30 so there's another 20 that you need to balance it, where would that be? Well, it would have to be in the owner's equity account. Mark-to-market accounting lets you record things in income and owners equity before you actually sell it much more speculative than if you had actually got in cash. Ok. Our last transaction, we're going to hire some employees, we expect to pay them $45,000 a year but they haven't done any work yet and we haven't paid them anything yet. What do we record on the balance sheet at this point? Nothing, certainly we have to inform human resources, certainly we have to be ready to pay them in the future but nobody's done anything yet so, we don't record anything yet either. So, where are we at this point? We can look at each of our accounts, see which transactions have made it go up or down, and what our ending balances are. We want to make sure that assets equals liabilities plus owners equity which they do. Ok. So, things are good at this point, and then we're going to continue this video with other transactions that are going to now begin to hit the income statement as well.
