Calculating a Missing Amount within Owner's Equity
The income statement for the calendar year 2018 will explain a portion
of the change in the owner's equity between the balance sheets
of December 31, 2017 and December 31, 2018. The other items that account
for the change in owner's equity are the owner's investments
into the sole proprietorship and the owner's draws (or withdrawals).
A recap of these changes is the statement of changes in owner's
equity. Here is a statement of changes in owner's equity for the
year 2018 assuming that the Accounting Software Co. had only the eight
transactions that we covered earlier.
Example of Calculating a Missing Amount
The format of the statement of changes in owner's equity can be used to
determine one of these components if it is unknown. For example, if the
net income for the year 2018 is unknown, but you know the amount of the
draws and the beginning and ending balances of owner's equity, you can
calculate the net income. (This might be necessary if a company does not
have complete records of its revenues and expenses.) Let's demonstrate
this by using the following amounts.
The owner's equity at December 31, 2017 can be computed using the accounting equation:
The owner's equity at December 31, 2018 can be computed as well:
Insert into the statement of changes in owner's equity the information that
was given and the amounts calculated in Step 1 and Step 2:
The "Subtotal" can be calculated by adding the last two numbers on the
statement: $94,000 + $40,000 = $134,000. After this calculation we have:
Starting at the top of the statement we know that the owner's equity before the
start of 2018 was $60,000 and in 2018 the owner invested an additional $10,000. As a
result we have $70,000 before considering the amount of Net Income. We also know that
after the amount of Net Income is added, the Subtotal has to be $134,000 (the Subtotal
calculated in Step 4). The Net Income is the difference between $70,000 and $134,000.
Net income must have been $64,000.Step 6.
Insert the previously missing amount (in this case it is the $64,000 of net income) into
the statement of changes in owner's equity and recheck the math:
Since the statement is mathematically correct, we are confident that the net income was $64,000.
You can reinforce what you have learned by using our
Quiz for the Accounting Equation
Crossword Puzzle on the Accounting Equation.
The remaining parts of this topic will illustrate similar transactions and their effect on the
accounting equation when the company is a corporation instead of a sole proprietorship.
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