Equity, Liabilities and Assets

"Equity and liabilities" refer to funds obtained by the business to purchase assets plus any profits from the activities of the enterprise. "Employment of capital" show what has been done with funds and profits.

The terminology used for equity will depend on the form of enterprise:

• Company - Share capital
• Close corporation - Members' funds
• Partnership - Capital accounts
• Sole proprietorship - Capital

Undistributed profit also forms part of equity and is shown as "Retained Earnings".

Equity

The equity part of the balance sheet of a company may look like this:

Ordinary share capital

+

Reserves

+

Retained earnings

=

Shareholders equity

Companies issue ordinary and preference shares:

• Ordinary shares have unlimited profit sharing and normally carries voting rights.
• Preference shares have limited but preferential profit sharing with no or limited voting rights.

Reserves are created for various reasons e.g. statutory requirements or revaluations of fixed assets. Since reserves belong to the owners, it is also grouped under equity.

Liabilities

Equity is followed by the enterprise's long-term liabilities.

Examples are:

• Long-term loans at organisations such as commercial banks or government institutions.
• Mortgage bonds over fixed property.
• Leases and hire purchase agreements.

Short-term liabilities, normal creditors, provisions and short-term loans such as a bank overdraft follow long-term liabilities.

A balance sheet is always prepared at a specific date. The date of the balance sheet corresponds with the date on which the balances of the various accounts were summarized in the trail balance.

The balance can be prepared for any date but must be done on the last day of the business' financial year.

Assets

The first item under assets is fixed assets.

Examples:

• Land and buildings
• Machinery and equipment
• Furniture and fittings
• Computer equipment
• Computer software
• Vehicles
• Technical library

These items are summed and only shown as one figure on the balance sheet.

The value of fixed assets in the balance sheet (except land and buildings) is decreased annually by the amount of depreciation.

The next item is "Investments". Investments are surplus cash that are, at least for the time being, not required to purchase assets or pay for operational expenses. Investments can be shares in other companies.

Fixed assets are followed by current assets, which normally consist of cash debtors and stock.

A positive balance in a cheque account is a current asset and a bank overdraft is a current liability.

Note that the total of equity and liabilities and that of assets are equal, that is "the balance sheet balances". This is also proof that the BAE is still in balance.

Note also that on some balance sheets the current liabilities are reflected on the ASSETS SIDE of the balance sheet (where it of course must be subtracted to keep the BAE in balance).

Click here to view an example of a Balance Sheet.