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# State the accounting equation components

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State the accounting equation. Explain and define all components of the equation and provide examples of each.

You need to state the accounting equation. As part of this, you need to discuss each component of the equation and give appropriate examples, such as accounts or types of accounts found in the equation.

#### Solution Preview

The basic accounting equation is Assets = Liabilities + Owner's Equity. This is also the equation for a Balance Sheet.
To explain how this works, first we should consider the types of accounts existing in accounting and how they fit together.
There are three types of "real" or permanent accounts. These accounts exist on the Balance Sheet, and they are Assets, Liabilities and Owner's Equity.
In addition, there are three types of "nominal" accounts. These types of accounts close at the end of a period and reset to zero to begin the next period (typically a month or a year). The results of these accounts roll into the Owner's Equity portion of the Balance Sheet in an account called Retained Earnings. These types of accounts appear on the Income Statement and are called Revenues (or Sales), Cost of Goods Sold and Expenses.
So, how this fits together is:
Company A
Balance Sheet Real Accounts
12/31/08

2007 ...

#### Solution Summary

The solution states the accounting equation components.

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## Decomposition equation

18 Which of the following would least likely be considered as signaling a potential problem regarding the "quality of earnings" for a firm?
a. the firm has experienced a significant increase in earnings relative to the industry overall
b. the firm's accounts receivable account is increasing at a rate faster than the firm's increase in sales.
c. the firm has announced a delay in their release of financial statements due to a change in auditors
d. the firm's accounts receivable account is increasing, but at a rate slower than the firm's increase in sales.
e. all of the above would be considered signals of potential problems regarding he firms' quality of earnings

19 The extended Du Pont equation, a. k. a. the 3 components ROE decomposition equation, (i.e.ROE = (profit margin)x(total asset turnover)x(equity multiplier) is used to
a. compute the firm's ROE, as the equation states.
b. decompose the firm's ROE into sub-components, for a better understanding of the firm's financial health.
c. determine if the firms is liquid
d. compute the firm's ROA, as the equation states

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