Why must Assets = Liabilities + Equity?

Question

Equity seems to be the difference maker. How is it valued? What is the concept I am missing?

Answer 1

On a very basic level, if assets were equal to liabilities you would not be making any profits. For example, you would be selling your product at the price you produced.

Since you are in business to make a profit, you can think of shareholders equity as the difference between the selling price and production price, which can be thought of as your owners equity.

Of course, the above example is oversimplified, and there are a lot of other variables that determine each of the Balance sheet categories.

Answer 2

Assets are what you own. Liabilities are what you owe. Equity is what’s left over. It is your net worth.

Assets always equal your liabilities plus equity. If assets are less than liabilities then your equity is negative.

Assets are on the left of the balance sheet; liabilities and equity are on the right. This directly corresponds to debits and credits. Debits mean left; credits mean right.

Assets and liabilities are grouped into two main categories: current and non-current.

Current assets are those assets that can readily be converted to cash. Bank accounts are of course most readily convertible, but any assets that can be converted to cash within a short time are current assets.

Current liabilities are those liabilities that have to be paid off within a short time.

Short time for both current assets and current liabilities usually means one year or less. For some companies, it may be “the normal business cycle”.

Non-current assets are further divided into fixed assets and other assets.

Even though items of machinery and other assets may be sold in less than one year, fixed assets are still non-current. This is because they are intended to help operate the business for periods of greater than a year. If an asset is bought with the intent to sell for a profit, then it is inventory and is a current asset.

Equity consists of money invested in the company by the owners, money taken out of the company by the owners (i.e. their return on their investment), and net income.

Answer 3

Because they are the items that create a BALACE sheet. The simple answer: The value difference in equity comes from Reatined Earnings. At the end of the accounting year the business profit or loss is posted to Retained Earnings which changes the Equity amount. Dividend payouts are also involved.

Answer 4

Assets are what the business owns.  Liabilities and equity are how the biz got the assets--it borrowed the money to buy them, liabilities, it received capital from owners, equity, or it earned money through operatins, retained earnings, also part of equity.