4. Fundamental principle of double entry book keeping.—Thus, every transaction between the busi ness and another party, whether in commencing a con tract, performing it, or concluding it, involves the ex change of valuable rights and services. Either the right to some class of wealth is transferred or some service is received or given. Sometimes a property right is exchanged for another property right (mer chandise for cash) ; sometimes a personal right is exchanged for a personal service (workman's right to receive pay for his work) ; sometimes a property right is exchanged for a personal right (the pur chase or sale of goods "on account," or when the workman is paid). Theoretically, however, a prop erty right is never exchanged directly for a service; for his services the hired workman receives the per sonal right to receive money from his employer, and the money when paid is given in exchange for this personal right. But in every case there is the ex change.
It must be borne in mind that many of these ex changes are of a compound nature, involving the ex change of two or more items for a single item or for two or more other items. For example: Merchan dise may be exchanged for cash, $10 and the right to collect cash (a debt) $40.
For bookkeeping purposes the values of the rights and services thus exchanged are always considered equal. If I give $500 cash for 1,000 bushels of corn, the corn received is considered as having the value of $500. If I buy 1,000 bushels of oats from A. Yeoman, promising to pay him $400 at the end of 30 days, the value of the corn is considered to be equal to the value of the personal right given in exchange for it. Since every business transaction is an ex change of equal values and, since we debit the ac counts with that which is received and credit the ac counts with the outgoing items, an important prin ciple may be deduced, namely: in every transaction the sum of the debits is just equal to the sum of the credits, and vice versa.
5. Recording the exchanges.—Exchanges are re corded in bookkeeping records in two ways: (a) They are entered in the diary or journal in chron ological order. This entry is simply a memorandum, entered at the time of the transaction and put on rec ord before it is forgotten. (b) Subsequently, these transactions are analyzed, their effects determined and debts and credits are assigned to the proper accounts accordingly.
In this way we express every effect of a transaction. If our exchange is complex, such as the giving of money different kinds of goods, say, merchan dise and furniture, we must value two kinds of goods and services separately, and record their total as equal to the cash paid. In this case the credit to
cash would just equal the charges to the furniture and goods accounts.
Since for every debit we make a credit of an equal amount and vice versa, the sum of all the debits made must equal the sum of all the credits made during the same period of time. This enables us to prove the accuracy of our work but only to a limited extent. After the effects of transactions have been classified into the accounts, we make a partial proof by testing the equilibrium of the debits and credits entered in our ledger. This test, which is called a trial balance, is by no means absolute proof that all work has been done correctly. In Chapter IX the reader will find a thoro discussion of the trial balance and its uses.
6. Assets and liabilities.—Before going further it will be well to settle upon the meaning of various ac counting terms which will be used. The accounts ap pearing on the books of an enterprise may be divided into the following classifications: (1) assets, (2) liabilities, (3) income or revenue, (4) expenses or losses, (5) proprietorship.
An asset is any valuable right possessed by a busi ness. Land, buildings, amounts due from customers and the like are assets.
The right which others have to demand money from us is a liability. Amounts which we owe our credi tors, notes which we have given and the like are lia bilities.
7. Income and expenses.—Revenue or income consists of what the business receives as a result of its operations of buying or acquiring at one price or cost and selling at the same or other price. In come accounts are those accounts which show the sources or causes of income. For instance, if we sell John Smith 100 barrels of flour for $450 cash, our in come is $450. The credit of $450 to a merchandise or sales account records this source or cause of income. If the sale were made on 30 days time (without right of deduction for immediate cash) , the credit to "mer chandise" accomplishes the same thing; but in this case the receipt of the income is deferred. Since our busi ness is that of buying and selling flour our progress is denoted in part by the amount of these credits.
The term income is probably better than revenue because the latter is more frequently associated with public finances.