Creating a statement of changes in equity
Amanda White
What is the Statement of Changes in Equity? (SoCiE)
The SoCiE is a reconciliation between the opening balance of Equity and any transactions related to equity, to provide the closing balance for equity. We already know from our understanding of the accounting equation that transactions related to equity include
- Issuing shares to shareholders
- Payments of dividends to shareholders (in the form of cash or more shares)
We also know that the profit (or loss) from the period does technically belong to shareholders/owners of the business. However, revenue and expense accounts are re-set at the beginning of each period. So where do profits (or losses) go? Technically they are transferred from revenues and expenses into an account called retained earnings. The account’s purpose is exactly as it describes – it retains the earnings (revenues minus expenses) of the business. However,
A business can use its retained earnings to reward shareholders or reinvest in the firm by using the cash generated by those earnings to grow the business. This could be purchasing new equipment or investing in product development.
Creating a Statement of Changes in Equity
If we think about Saanvi’s Chic Celebrations (SCC) – the profit of $2500 is an increase in the overall value of the business (the business’s Equity) and we record this by adding it to retained earnings.
| Profit and Loss Statement for Saanvi’s Chic Celebrations Pty Ltd | |
| For the period ending 30 June 2022 | |
| Revenue | 18,000 |
| Less Cost of sales | (5,500) |
| Gross profit | 12,500 |
| Less expenses | |
| Marketing expense | (2,500) |
| Rent expense | (3,500) |
| Wages expense | (2,800) |
| Utilities expense | (1,200) |
| Net profit before tax | 2,500 |
Therefore the SCC Statement of Changes in Equity looks like this (assuming that the business started with no equity):
| Statement of Changes in Equity for Saanvi’s Chic Celebrations Pty Ltd | |
| For the period ending 30 June 2022 | |
| Opening balance for Equity at 1 July 2021 | 0 |
| Retained earnings | 0 |
| Add Profits | 2,500 |
| Add Issue of share capital/equity | 50,000 |
| Less Dividends | (2,000) |
| Closing balance for Equity at 30 June 2022 | 50,500 |
Why prepare the SoCiE as the second financial statement? It is because the closing balance for Equity is required to create the Balance Sheet.
Note about complications in the SoCiE
If you look at the financial statements for any publicly listed firm, you will notice that their Statements of Changes in Equity look a LOT more complex that what we’ve described above. You’ll likely see transactions related to purchasing back shares from shareholders and transfers from profits into accounts called Reserves. A reserve is an account where the business can transfer funds from Retained Earnings into a reserve for a specific future purpose.
What happens if the business’s Retained Earnings goes into the negative? That is, past profits accumulated are wiped out by significant losses? During the COVID19 pandemic, this occurred to many large publicly listed companies, including Qantas Airways Ltd. It is recorded on the Balance Sheet as “Accumulated Losses” (you can check this out for yourself in the Qantas 2021 annual financial statements on page 68).
