What does the accounting equation express?

The accounting equation is a fundamental principle in financial accounting that illustrates the relationship between a company’s assets, liabilities, and equity. It states that the total assets of a business are equal to the total liabilities plus the total equity. This equation reflects the idea that what the business owns (assets) is financed either through borrowing (liabilities) or the owners’ investment (equity).

In a balanced accounting system, this equation must always hold true. For instance, if a company acquires new assets, it must either incur additional liabilities or increase its equity to maintain balance. This structure ensures that a company's financial position is accurately represented, providing valuable insights into its solvency and shareholders' equity.

Options like stating revenues or cash in relation to liabilities and equity misrepresent the relationships defined by the accounting equation, as they do not accurately reflect the fundamental balance between what a business owns and what it owes, alongside the owners' residual interest.