Free Guide to
Bookkeeping Concepts

Accounting Bookkeeping Concepts PDF Cover

Receive our free 18-page Guide to Bookkeeping Concepts (PDF) when you subscribe to our free newsletter.

You are already subscribed. This offer is not available to existing subscribers.
Step 2: Please check your email and click the confirmation link.

268,917
Subscribers

If a company earns a profit, which balance sheet items change?

Since every transaction affects at least two accounts, there will likely be many changes to the balance sheet. One change is that the owner's equity or stockholders' equity will increase by the amount of the net income. (The amount of the profit or net income is the net of the revenues, expenses, gains and losses reported on the income statement.) The other changes to the balance sheet depend on the revenue transactions and the expense transactions.

If the revenues resulted from providing services on credit, the amount in the asset Accounts Receivable increased. When the client pays the amount owed, Accounts Receivable will decrease and the asset Cash will increase.

If the expenses incurred in earning the revenues were paid with cash, the amount in the Cash account decreased. If the company does not pay cash for an expense, its liability account Accounts Payable increases. When the company pays the supplier, the amount in Accounts Payable will decrease. If a company had prepaid its insurance and some of that insurance expired while the revenues were earned, the asset Prepaid Insurance will decrease. Similarly, the equipment used to earn revenues results in a credit to Accumulated Depreciation, a contra asset account that causes Property, Plant and Equipment to decrease.

If the revenues were sales of merchandise, the asset Inventory decreased. (The amount of the decrease in Inventory was reported as the Cost of Goods Sold on the income statement.)

As we have shown, when a company earns a profit there are many entries to various balance sheet accounts. However, the balances in those accounts might not change significantly. For example, a credit sale will increase Accounts Receivable, but the collection of the amount will decrease Accounts Receivable. A purchase on credit will increase Accounts Payable, but the remittance will decrease Accounts Payable.