What is the statement of owner’s equity?
The statement of owner’s equity, sometimes referred to as a statement of cash flows, cash flow statement, statement of changes in owner’s equity or owner’s equity statement, is a financial statement that represents the changes of the owner’s equity accounts after all its obligations have been met over a specified period of time.
This financial statement shows the movement of capital through a business. Generally, it reflects the amount of capital the owner(s) has invested plus any profits the company generates that is, in turn, reinvested into the business.
This reinvested Income is called retained earnings.
The statement of owner’s equity reports the changes in the owner’s equity from business transactions for a specified period of time, typically at the end of the year. The total is the ending balance in the capital account, which is the basic accounting equation of Assets Liabilities= Owner’s Equity. The amount of owner’s equity is increased by additional contributions from the owner and Income.
The owner’s equity is typically reserved for sole proprietorships. It may also be known as shareholder’s equity or stockholder’s equity if the business is an LLC or a corporation.
If you do need to prepare one, it is usually prepared after the income statement because the Net Income or Net Loss for the period is reported on this statement.
Similarly, it is prepared before the balance sheet, since the owner’s equity at the end of the period must be reported on the balance sheet.
Because of this, the statement of owner’s equity is often viewed as the connecting link between the income statement and balance sheet. This statement is crucial because it provides owners with financial information to make important business decisions. It can also give the opening balance of the owner’s equity, explanations for increases and decreases during the accounting period, and the closing balance.
What is the statement of owner’s equity used for?
This statement can show the financial health of a business and whether that business has sufficient cash flow to fund its operations without the aid of outside investment. An exception is a business that is quickly growing, and the owners have to invest capital to fund additional inventory, accounts receivable, wages, etc. If a business is unable to show it could financially support itself without capital infusions from the owner, creditors would be unlikely to loan the business money.
Remember from earlier lessons, that current assets and current liabilities are often amounts that are settled in one year or less. Working capital, which is current assets minus current liabilities is used to calculate the dollar amount of total assets a business has that can be used to meet its short-term liabilities.
Another way to use the statement of owner’s equity is how the business’s net worth, but not necessarily market value, changed over the period of time.
One of the key factors for understanding basic accounting principals is to understand how the elements of the financial statements relate to each other.
How do you calculate the statement of owner’s equity?
The statement of owner’s equity is commonly calculated by referring to the company’s balance sheet and income statement during a specific period of time. The income statement provides information about the net income or losses of the business, while the balance sheet will provide the information regarding owner contributions and draws.
The Income Statement should be prepared first as the resulting company’s net income or net loss can be added to the Owner’s Equity Statement, which is used to calculate the ending owner’s capital balance. The ending owner’s capital balance is then used in the Balance Sheet, which is important because then the balance sheet can balance at the end of the accounting period.
In order to calculate the statement, the beginning balance is needed to start and is obtained from the previous accounting periods ending equity balance. Income and capital contributions are added to the beginning balance total, while business losses and owner draws are subtracted. This sum is the ending equity balance.
Beginning capital balance
+ Income earned
+ Owner contributions
– Losses incurred
– Owner draws
= Ending equity balance
Example of a statement of owner’s equity
For this example, the fictitious company, XYZ Inc., has $5,000 of capital at the beginning of the period. The owner, Jane Smith, added $1,000 of cash to paid-in capital contributions, and the business earned $2,000 from sales. The owner also withdrew $2,000 from her account balance to pay for personal expenses. The resulting statement of owner’s equity shows an ending capital balance of $6,000. The ending equity balance will be carried forward to the following reporting period and become the beginning capital balance.
We also have a free Excel template to download for the statement of owner’s equity.
We also have a free Excel template to download for the statement of owner’s equity The statement of owner’s equity is a powerful statement that draws on multiple financial statements to gauge the financial health of the business. This is one calculation that many small business owners overlook as they don’t understand the value of monitoring in order to assess changes over time.
If these statements are being used to compare the financial performance of multiple businesses, be sure to use percentages as the final number won’t provide actionable data if being used between small and large businesses.