The basics of accounting is:

What do I own? and... How did I pay for it?

The most powerful invention in accounting is called double-entry book-keeping, also known as T accounts.

On the left is our assets, or “What do I have”

On the right is our liabilities and equity. “How did I pay for it?”

Liabilities represent the amount of money I borrowed to buy my asset, while equity represents the portion that I fully own.

As companies make money, the income becomes part of “retained earnings” which sits under equity.

The fundamental accounting formula is Assets = Liabilities + Equities. This must always hold, and so one simple way I think about it is What I own = Paid for by Debt + Paid for by Ownership.

To illustrate with an example.

I start a company and I give myself $10,000 to start.

Each entry or bucket are called “Accounts”, Cash is an account that is of type asset. I gave myself $10,000 of cash and now I own it, in return my company issued shares to represent ownership, and my equity is also worth $10,000.

Now I use $5k of cash and buy some books as inventory.

I manage to sell all my books for $7,000.