Multiple Choice
Which of the following statements should be considered to maximize owner's equity value according to the fundamental accounting equation?
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1. Introduction to Accounting
Fundamental Accounting Equation
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When a company borrows cash from the bank, what is the effect on the fundamental accounting equation ($\text{Assets} = \text{Liabilities} + \text{Equity}$)?
A
Liabilities decrease and equity increases by the same amount.
B
Assets increase and equity increases by the same amount.
C
Assets increase and liabilities increase by the same amount.
D
Assets decrease and liabilities decrease by the same amount.
Verified step by step guidance1
Step 1: Begin by recalling the fundamental accounting equation: Assets = Liabilities + Equity. This equation must always remain balanced.
Step 2: Analyze the transaction described in the problem. When a company borrows cash from the bank, it receives cash (an asset) and simultaneously incurs a liability (a loan payable).
Step 3: Determine the impact on the accounting equation. The cash received increases the company's assets, while the loan payable increases the company's liabilities. Equity remains unchanged because this transaction does not involve owner contributions or retained earnings.
Step 4: Compare the options provided in the problem. The correct answer is the one that reflects an increase in both assets and liabilities by the same amount, ensuring the accounting equation remains balanced.
Step 5: Conclude that the correct effect of borrowing cash from the bank is: Assets increase and liabilities increase by the same amount.
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