The Accounting Equation: Assets = Liabilities + Equity What does that mean? Well, consider purchasing a home. Your ASSET is what Equity, Accounting, Quickbooks


Expense accounts are normally debit in nature, while income amounts are credit in nature. The Accounting Equation is a fundamental principle stating that a company’s assets (i.e. resources) must always be equal to the sum of its liabilities and equity (i.e. funding sources). Adding up the sum of liabilities and the total owners/shareholders equity, which will equal the sum of the assets. Current assets are the cash, inventory and accounts receivables. Dividend payments by companies to its stockholders are completely discretionary.

Add the $10,000 startup from the first example to the $500 sales equity in example three. Add the total equity to the $2,000 liabilities from example two. The accounting equation is important because it forms the foundation for all financial statements. The income statement, balance sheet, and statement of cash flows can all be derived from this one simple equation. Furthermore, the accounting equation helps to ensure that a company’s financial statements are accurate. For all recorded transactions, if the total debits and credits for a transaction are equal, then the result is that the company’s assets are equal to the sum of its liabilities and equity. Stockholders’ equity can be calculated by subtracting the total liabilities of a business from total assets or as the sum of share capital and retained earnings minus treasury shares.

Accounting Equation in Practice

We want to increase the asset Cash and increase the equity Common Stock. Creating a separate list of the sum of all liabilities on the balance sheet. Let us now individually inspect the components of the accounting equation. Barbara is currently a financial writer working with successful B2B businesses, including SaaS companies.

There are various kinds of that companies may compensate its shareholders, of which cash and stock are the most prevalent. Understanding the equity equation is critical from an investor’s point of view. Shareholders of a company are typically interested in the company’s shareholder’s equity, which is represented by their shares. The shareholder’s equity is dependent on the total equity of the company.

Equity and the Owner’s Equity Formula

Treasury Stock is a stock repurchased by the issuance Company from its current shareholders that remains non-retired. Moreover, it is not considered while calculating the Company’s Earnings Per Share or dividends.

This is usually one of the last steps in forecasting the balance sheet items. Below is an example screenshot of a financial model where you can see the shareholders equity line completed on the balance sheet. The accounting equation states that a company’s total assets are equal to the sum of its liabilities and its shareholders’ equity. Equity refers to the owner’s value in an asset or group of assets. Equity is also referred to as net worth or capital and shareholders equity.

Relationship to Double Entry Accounting

The rationale is that the assets belonging to a company must have been funded somehow, i.e. the money used to purchase the assets did not just appear out of thin air to state the obvious. We want to increase the asset Cash and increase the revenue account Service Revenue. During the month of February, Metro Corporation earned a total of $50,000 in revenue from clients who paid cash.

income statement

Account classes such as Assets & Expenses tend to have a debit balance, while account classes such as liabilities & income have a credit balance. The main idea behind the double-entry basis of accounting is that Assets will always equal liabilities plus equity. The owner’s equity represents the amount that is invested by the owner in the company plus the net profit retained in the company. For a sole trader, equity would be the amount invested by the sole proprietor plus net income. Similarly, for partnerships and private limited companies, it may be the cumulative investments by all partners plus net income.