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1.16 Owner's Equity
The document explains owner’s equity as the residual interest in a firm's assets after liabilities are deducted, illustrated through examples involving personal financial situations like buying a phone and a house. It highlights the accounting equation (Assets = Liabilities + Owner's Equity) and its application in various scenarios, including the impact of loans and market fluctuations on equity. The document also mentions that negative owner’s equity indicates financial distress.
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1.16 Owner's Equity
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- 2. Video of thispresentation at… YouTube Channel for VCE Accounting
- 3. © Michael Allison.Author’s permission required for external use. 1.16 OWNER’S EQUITY Assets Liabilities Owner’s Equity Revenues Elements of Accounting Expenses
- 4. © Michael Allison.Author’s permission required for external use. 1.16 OWNER’S EQUITY Owner’s Equity Definition: Owner’s equity is: • The owner’s residual interest in the Assets of the firm after the deduction of Liabilities
- 5. © Michael Allison.Author’s permission required for external use. Example: you need $800 for a new phone but you only have $600 in your bank account To make up the difference, your parents give you $200 as a loan to buy the phone to be repaid by the end of the year Owner’s Equity How much are your Assets? Assets Liabilities Owner’s Equity $800 How much are your Liabilities? $200 So what is your “residual interest” in the Asset? $600 Owner's Equity, $600 Liabilities , $200 Your $800 Asset is made up of… 1.16 OWNER’S EQUITY
- 6. © Michael Allison.Author’s permission required for external use. This relationship between Assets, Liabilities and Owner’s Equity is expressed as the “Accounting Equation” Assets Liabilities Owner’s Equity= + $800 $200 $600= + 1.16 OWNER’S EQUITY
- 7. © Michael Allison.Author’s permission required for external use. The “Accounting Equation” can also be expressed another way… Assets Liabilities Owner’s Equity= + Owner’s Equity Assets Liabilities= — $600 $800 $200= — 1.16 OWNER’S EQUITY
- 8. © Michael Allison.Author’s permission required for external use. The “Accounting Equation” also applies in your personal life… Example: you decide to buy a house worth $500,000: You have $100,000 in cash in the bank You will need to borrow the remaining $400,000 from the bank How much do you “own” of the house? How much does the bank “own”? $100,000 $400,000 House value $500,000 The $100,000 is your Owner’s Equity in the house The $400,000 is your Liability or how much you owe on the house Assets Liabilities Owner’s Equity= +$500,000 $400,000 $100,000 1.16 OWNER’S EQUITY
- 9. © Michael Allison.Author’s permission required for external use. The “Accounting Equation” will change over time… This year you pay off $50,000 from the loan Next year you pay off $70,000 from the loan $500,000 $400,000 $100,000= +$500,000 $350,000 $150,000$500,000 $280,000 $220,000 1.16 OWNER’S EQUITY
- 10. © Michael Allison.Author’s permission required for external use. You buy $200,000 of shares in JB Hi-Fi with a $150,000 loan and $50,000 cash of your own… A year later, there’s a rise in the share market and your shares are now worth $250,000 Assets Liabilities Owner’s Equity= +$200,000 $150,000 $50,000$250,000 $150,000 $100,000 1.16 OWNER’S EQUITY
- 11. © Michael Allison.Author’s permission required for external use. How do people and businesses go broke? They end up with a negative balance in Owner’s Equity… So being broke happens when you have Negative Owner’s Equity In other words… Assets Liabilities Owner’s Equity= +$100,000 $110,000 —$10,000 BROKE=<Assets Liabilities 1.16 OWNER’S EQUITY
- 12. © Michael Allison.Author’s permission required for external use. You buy a $900,000 house with a $800,000 loan and $100,000 cash of your own… A year later, there’s a crash in the property market and your property is now worth only $600,000 Assets Liabilities Owner’s Equity= +$900,000 $800,000 $100,000$600,000 $800,000 —$200,000 1.16 OWNER’S EQUITY
- 13. © Michael Allison.Author’s permission required for external use. TASK In-class Homework Cambridge Exercise 1.6 – Owner’s Equity X