The concept behind the balance sheet is very simple. In order to acquire assets, a firm must pay for them with either debt (liabilities) or with the owners’ capital (shareholders’ equity). Therefore, the following equation must hold true:
Assets = Liabilities + Shareholders’ Equity
For example:
This equation is the foundation of the balance sheet.
Choose wisely. There is only one correct answer to each question.
If the total liabilities of a company are 2 million dollars, and total assets are 5 million dollars, how much is shareholder equity?
3 million dollars. Shareholder equity is the difference between total assets and total liabilities. When creating a balance sheet, however, you must include shareholder equity with liabilities.