An owner contributes cash to increase the value of his or her company. This is called owner's equity.
Owner's equity, in terms of accounting, is considered the "book value of a company," according to accountingcoach.com. To understand its functions, you must look at its place in the accounting equation: assets equal liabilities plus owner's equity. To understand it further, rearrange the terms so owner's equity is assets less liabilities, or company debt. Learn the different areas of owner's equity to know what an owner's equity statement contains.
The Accounting Equation
Assets equal liabilities plus owner's equity. For those not familiar with accounting practices, assets are a company's cash, investments, land/equipment value and money that others owe the company. Liabilities are debts. Owner's equity completes the balance: "the reported asset amounts minus the reported liability amounts," according to accountingcoach.com. In other words, whatever the company has less what the company gives out is what the company is worth. Accountants record transactions under "owner's equity" whenever an owner contributes cash or other things of value, or assets. This is called contributed capital, according to Robert Libby's "Financial Accounting." Assets increase when owner's equity increases. The owner's equity statement generally appears on the balance sheet, with assets and liabilities, at the end of a business cycle, usually called a fiscal year, according to Garret Mausolf, Michigan State University accounting instructor.
For One (or Few) Owner(s)
When a company's single owner, the sole proprietor, contributes cash to the company he or she adds to the owner's equity value. This practice is simple when one person or partners own a company. Smaller businesses do this because there is less to account for.
For Many Owners
Owner's equity becomes stockholders' equity when a company has many owners who contribute. This is called stock. Companies issue stock to many, if not thousands of, owners who buy and sell shares of the company's value. The buying and selling of these shares are part of the stockholder's equity, or owner's equity. Common stock is issued to "real owners" who have rights to all net assets, according to Mausolf. Companies benefit by allowing stockholders to share the success of business activities. This success is transferred to stockholders as dividends, or portions of the company's earnings, according to Libby's "Financial Accounting."
Meaning of Book Value
Owner's equity is comprised of asset values at the time they were recorded or contributed, according to accountingcoach.com. This establishes book value. If one were to predict the worth of a company in the current market, or given the increase or decrease in value of assets since contribution, market value is determined.
