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How Does a Statement of Shareholder's Equity Help a Company's Plan?

Original post by David Carnes of Demand Media

The statement of shareholders' equity is a financial statement that companies must prepare each year in addition to the balance sheet, the income statement and the cash flow statement. Management uses it to determine the likely future value of company shares, and to make executive decisions that meet shareholder expectations.

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The statement of shareholders' equity reports changes in all components of shareholders' equity during a particular time period -- typically, a quarter or a year. These components include retained earnings, distributed dividends, shares issued and shares bought back by the company. The statement reports beginning and ending dollar values for these components during the period in question, and reports beginning and ending values for total shareholders' equity.

Retained Earnings and Dividends

Retained earnings are net earnings minus distributed dividends. Retaining earnings increase shareholders' equity, while distributing dividends decreases it. The greater the amount of retained earnings, the greater the ability of the company to reinvest in the business by, for example, opening new sales outlets or hiring more employees. Nevertheless, shareholders might not be pleased if the company retains more of its earnings while distributing fewer dividends, and a reputation for failing to distribute dividends might depress share prices.

Share Offerings

Share offerings increase the company's total shareholders' equity because purchasers pay the company for the shares. At the same time, however, they dilute the value of existing shares. Doubling the number of outstanding common shares, for example, reduces the ownership percentage and voting power of the original common shares by 50 percent. Increasing the supply of company shares, also tends to depress share prices. Management must balance these positive and negative aspects when considering whether or not to issue more shares.

Treasury Stock

Treasury stock is created when a company buys back its own shares from its shareholders. This reduces shareholders' equity by the aggregate amount the company pays for the shares. A company might decide to create treasury shares when management determines that share prices are too low, because reducing the supply of company shares on the market tends to raise their price. Management might closely monitor the effect of creating treasury shares of the market price of outstanding shares. If prices increase enough, the company might re-issue them at their new price, resulting in a net increase in shareholders' equity.

                   

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About the Author

David Carnes has been a full-time writer since 1998 and has published two full-length novels. He spends much of his time in various Asian countries and is fluent in Mandarin Chinese. He earned a Juris Doctorate from the University of Kentucky College of Law.

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