Basic Accounting: The sources and use of money

There's an obvious factor: for a business to operate, it needs money. Both to set-up a company and for its further operating activities business needs funds. In this instance the question about the company's financing arises, and here we speak about the sources of money. The sources of the company's money are the owners' investments (i.e. equity) and borrowings from lenders, as well as income received from the sale of products or services.

The company uses the available money to acquire the factors of production, i.e. to cover the expenditures, capital returns and profit distribution, as well as to keep them either in cash desk or in a bank for a while.

Information of what the money has been used for, and where the money came from is needed for each business transaction.

EXAMPLE. Let's consider the following situation:

• We have just established the company X
• Our company's sources of money: loan capital and own capital
• We have decided to deposit money in cash desk

Company's operations cause changes in the its existing situation. Changes are tracked by recording business transactions. In our example, the financial position of the company may change as a result of the following transactions:

• cash purchases of goods have incurred the EUR 8 500 expense
• cash sales of goods have generated revenue in amount of EUR 15 000
• the loan has been paid by withdrawing EUR 5 000 from the cash register (15 000 - 5 000 = 10 000)
• the money has been transferred from cash register to the bank account in amount of EUR 12 300

After this chain of events, there are following calculations that describe the company's sources of funds and directions of money spending:

* Money in cash register = 19 000 – 8 500 + 15 000 – 5000 -12 300 = EUR 8 200

To find out the company's result, it is necessary to combine the factors influencing it in one calculation, and the factors influencing the financial situation in another. The result is determined by calculating the difference between the company's income and expenses. The financial situation is determined by calculating the difference between assets and liabilities.

**Profit = 15 000 – 8 500 = EUR 6 500

The result for the period is a profit of EUR 6 500. When the profit is left in the company, it increases the company's equity and is recorded in the financial position statement as one source of money.