Accounting For Dummies®, 4th Edition

5.4. Financing a Business

NOTE

To run a business, you need financial backing, otherwise known as capital. In broad overview, a business raises capital needed for its assets by buying things on credit, waiting to pay some expenses, borrowing money, getting owners to invest money in the business, and making profit that is retained in the business. Borrowed money is known as debt; capital invested in the business by its owners and retained profits are the two sources of owners' equity.

How did the business whose balance sheet is shown in Figure 5-2 finance its assets? Its total assets are $14.85 million at year-end 2009. The company's profit-making activities generated three liabilities — accounts payable, accrued expenses payable, and income tax payable — and in total these three liabilities provided $1.78 million of the total assets of the business. Debt provided $6.25 million, and the two sources of owners' equity provided the other $6.82 million. All three sources add up to $14.85 million, which equals total assets, of course. Otherwise, its books would be out of balance, which is a definite no-no.

Accounts payable, accrued expenses payable, and income tax payable are short-term, non-interest-bearing liabilities that are sometimes called spontaneous liabilities because they arise directly from a business's expense activities — they aren't the result of borrowing money but rather are the result of buying things on credit or delaying payment of certain expenses.

It's hard to avoid ...