Owner’s equity usually refers to a person’s business's net worth. It is the business owner’s stake in the business and what would be left over when a business has been sold and liabilities have been paid off. It also represents the stake of company shareholders.
It is worth noting that a business person could have negative equity even as the business still generates revenues. That’s because revenue is the total sales generated when one sells various products or services at a set price. On the other hand, business expenses refer to the costs of doing business. They include the costs of buying raw materials, overhead costs, property taxes, leasing or mortgage costs and employee wages, among others.
You can find revenue and expenses as separate items on income statements, while owner’s equity is available on a balance sheet or in the statement of owner’s equity.
Expenses, Revenues and Owner’s Equity
Several relationships exist between owner’s equity, expenses and revenue. As a result, all these aspects of business affect each other. So, you need to understand them if you want to invest in a business.
Generally, getting owner’s equity involves deducting all your business liabilities from the assets. And its formula is:
Owner’s Equity = Assets - Liabilities
Secondly, the total revenue less total expenses gives you the business net income. And that tells you whether your company is making or losing money. When you make money, you can pay down your debts and increase your owner’s equity. But when you lose money, you may have to borrow more, thus reducing your owner’s equity.
The formula for income or loss is:
Net income = Total Revenue - Total Expenses
Loss occurs when the expenses exceed the revenue, and it is usually expressed as a negative.
Concerning expenses formulas, you have various options, depending on the values you are considering. However, when total expenses increase, you are likely generating fewer sales and dealing with higher business costs while running your core business operations.
It is easy to deduce the total expenses formula from the above net income formula. In that case:
However, you can also calculate the total expenses from the balance sheets or the owner’s equity statement. In such a case, you would use the formula:
Remember, during the calculation of net income, dividends and treasury stock are usually added to the ending equity, while issued shares are added to the beginning equity.
Calculate Total Expenses From Total Revenue and Owner’s Equity
Find the company’s quarterly (10Q) or annual (10K) reports from the investor’s relations page or via the SEC’s Edgar search tool and select the income statements and balance sheets. You may need to find reports for the previous accounting period too to get the beginning equity.
From the balance sheets, determine the beginning and ending equity, dividends and shares issued. For example, suppose the fashion company Black Royal Inc., had beginning equity of $1.5 million, ending equity of $3 million, cash dividends paid worth $500,000 and issued shares worth $750,000.
Calculate the net income for the company. In this case, using the formula Net Income = Ending Equity - Beginning Equity, you would calculate: Net income = ($3,000,000+$500,000) - ($1,500,000+$750,000), which is equal to a net income of $1.25 million.
Determine the total revenue of the company from its income statement. Also, you could calculate the revenue by multiplying the product units sold by the price of each unit. In this case, based on the total revenue figures on the income statement, Black Royal Inc. generated $4 million in total revenue by selling 20,000 outfits at $200 each.
Determine the total expenses based on the formula: Total Expenses = Total Revenue - Net Income. Based on the Black Royal Inc. example, you would calculate that as $4 million -$1.25 million, which is equal to $2.75 million. The result, $2.75 million, is the value of the total expenses that the company incurred during the specified accounting period.
- Corporate Finance Institute: Owner’s Equity
- Study: What Is Revenue? - Definition & Concept
- Patriot Software: What Are Business Expenses?
- Lumen Learning: The Income Statement
- MyAccounting Course: Net Income
- ProfitWell: How to calculate and manage your total expenses
- SEC.Gov: The new EDGAR advanced search gives you access to the full text of electronic filings since 2001
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