I’ve always wondered why assets always equal liabilities in a financial statement. This is true no matter how well or badly a company is doing. I would have assumed that if a company is succeeding that its assets would surely exceed its liabilities. But, this is not the case. What is the logic behind this?
well, it isn’t really assets=liabilities. It’s assets=liabilities+owners_equity. The value of the business is considered a liability so the two equal.
Why isn’t the value of the business considered an asset?
Assets are items owned by the company. These include the land, building, equipment, supplies, any money in the bank or cash on site, etc.
The liabilities are things the company owes, like employee salaries, payments on any equipment or cars or building or land or whatever.
A company doesn’t own itself - it is owned by individuals or other companies. In essence, the company “owes” these individuals or companies money (could be that it was money these people invested in the form of cash [when the company was created], or invested via purchasing stock in the company, or it could be profits made by the company that will be distributed sometime [which are usually called dividends]).
Think about if the company went out of business but still had more value to their assets (like they bought an excellently located building in NY when business was booming) but then their market disappeared (maybe 8-track tape players) so they decide to close the business, sell the building, pay off any suppliers to whom they owe money, AND THEN the left over $$ is given to the owners. The company owed them that money - so, it is a liability (but called owners equity because that’s they way it is).
I hope that helps a little…
Powers106, excellent explanation. Minor nit:
Profits a company makes can go one of three places: Out to pay loans (not really relevant to your point), Out to owners (Dividends), or back into the company to reinvest (Retained Earnings).
Retained Earnings are different from Dividends; There is no mandate that all Profits will be distributed at some point.
To answer this directly, its because the value is too volatile. As accountants, we have to have a consistent way of valuing the asssets of a company and historical value is the best, and most logical, way.
What you’re thinking of is what is termed “Goodwill.” It is an asset, an intangible asset. It has no way of being accurately valued. Goodwill may consist of customer list, prescription files, etc, but those really don’t have a historical value. They are considered when a business is being bought or sold.
And is this fair?! As an owner, I demand my profits!!
Maybe you don’t. Perhaps the earnings are being retained because the company expects a big jump in the price of raw materials, and wants cash in the bank to pay for it. Perhaps it’s about to make some major capital expenditures, and would rather pay cash than take on additional debt. Maybe its on an acquisition binge and would rather pay cash for another company than try to set up a stock swap. Maybe the business is cyclical, and the Directors would rather pay out a steady dividend than go up one quarter and down the next. All valid reasons for holding back.