To review, the statement of changes in owner's equity is a financial statement that provides information about changes to the equity of a business, for a given time period. Note that it is period- or activity-based. It can also be referred to as the statement of retained earnings.
Owner's equity refers to owner activity--activity such as income, draws, or loss. Typically, the statement of changes in owner's equity involves one year or less of an activity period, detailing the changes in owner's equity for that time period, similar to the income statement.
The formula for the statement of changes in owner's equity starts with the beginning capital, or the beginning balance in owner's equity at the beginning of the year. Then, we add any investments by the owner, plus any net income that the business might have earned, and then subtract owner drawings, meaning any money that the owner or owners pulled out of the business. This results in the ending owner's equity, or the ending balance in the owner's equity account.
Now, if we have a net loss instead of having net income, we would have to subtract the net loss in this formula instead of adding that income.
Let's look at a detailed example of preparing a statement of changes in owner's equity.
The first order of business is to look at the adjusted trial balance, which we can get from our trial balance worksheet. You may recall that it is necessary to go through the adjusting process to prepare the adjusted trial balance, prior to preparing the financial statements.
Now, the adjusted trial balance will help to identify the balances and accounts that we need to use to prepare the statement of changes in owner's equity.
The other financial statement needed in order to prepare the statement of changes in owner's equity is the income statement, because we need to know if there is net income or loss for the period.
The income statement, from the trial balance worksheet, is used to identify the accounts that we need to put into our statement of changes in owner's equity:
Now that we have used our trial balance worksheet to identify the accounts needed, we are ready to prepare a detailed statement of changes in owner's equity, using the information from the trial balance worksheet. Remember, we have captured the adjusted trial balance and income statement information.
The first line is the header. It includes the:
The first thing we do is to input the beginning balance of retained earnings as of January 1, 2012. Now, where do we get this information? We get it from the adjusted trial balance, shown below. Therefore, our retained earnings as of the beginning of the year is $12,000.
The next step is to add any net income. We pull the net income from our income statement, shown below. In this case, our net income is $33,500. We add the net income to retained earnings for a subtotal of $45,500.
Next we have our subtractions. In this case, we have owner drawings, as shown on the adjusted trial balance. This means that the owner has pulled money out of the business, in the amount of $2,000.
Now, we don't have to include a net loss as a subtraction, because, in this case, we had net income. Therefore, we subtract the owner draws from the subtotaled retained earnings and net income to arrive at our ending balance, as of December 31, of $43,500.
Source: Adapted from Sophia instructor Evan McLaughlin.