Illustration 3: Effect of cash contribution Claims Assets = Liabilities + Equity +$5,000 = + +$5,000 Note that the amount of this single transaction is recorded twice. The first time it is recorded as an asset and the second time itis recorded as equity (the asset source). In accounting any transaction is recorded at least twice, as a rule. This rule is knownasdouble-entry bookkeeping. Thedouble-entry bookkeepingrule states that any transaction isrecorded at least twice. Because this transaction providedassets to the company, it is called anasset source transaction. An asset source transaction is one of the four types of accounting transactions. Asset source transactionsresult in an increase in an assetaccountand in one of the claim accounts ( liabilityor equityaccounts). 2) Next, assume that Friends Company acquires an additional$2,000 of assets by borrowing cash from creditors (e.g., taking a loan from a bank). This is also an asset source transaction. In the table below the beginning balances are derived from the ending balances of the previous transaction: Illustration 4: Effect of borrowing Claims Assets = Liabilities + Equity Beginning balance $5,000 = + $5,000 Effect of borrowing +$2,000 = +$2,000 Ending balance $7,000 = $2,000 + $5,000 Equity is usually viewed as a source of assets, and that's why itis necessary to subdivide the owner's interest into two components. First, owners' claims are established when a business acquires assets from owners. These claims result from the contributions of capital resources by the owners; therefore, they arefrequently calledcontributed capital. Contributed capitalis a component of equity resulting from contributions of capital resources by owners. The second source of assets associated with equity occurs when a business obtains assets through its earnings activities. This source is calledretained earnings. Retained earningsare a component of equity resulting from earnings activities. Taking into account the definitions above, the basic accounting equation can be presented like this: Assets = Liabilities + Equity Contributed Capital + Retained Earnings 7. Effects of transactions on the basic accounting equation, cont. 3) An increase in assets resulting from rendition of goods or services to customers is calledrevenue. Earning revenue can be an asset source transaction. To illustrate the effect of a revenue transaction, let's assume that Friends Company received $3,000 cash for services it provided to customers. Note in the illustration below that both assets and retained earnings increase which is a characteristic of an asset source transaction. Illustration 5: Effect of revenue transaction Equity Assets = Liabilities + Contributed Capital + Retained Earnings Beginning balance $7,000 = $2,000 + $5,000 + $0 Effect of revenue +3,000 = + + +3,000 Ending balance $10,000 = $2,000 + $5,000 + $3,000 4) Assets acquired through operating activities are called revenues. Assets used in the process of generating revenues are calledexpenses. Expenses decrease retained earnings. Assume Friends Company used$1,000 in assets to earn the $3,000(see above) in revenues. This is anexample of anasset use transaction. Asset use transactionsresult in a decrease in an asset account and in one of the claim accounts (liability or equity accounts).