Is Accounts Payable Equity?

Having understood what a balance sheet is, it will be good to focus on two specific accounts namely accounts payable and equity which represent very different things. Accounts payable is known as an ‘‘A/L’’ account while equity is the owners’ or shareholders’ investment in the business. In this case, they are different financial measurements that have different significance although they are used in the same statement of financial position. To help you understand better about the two, this article will discuss the general and specific distinction between accounts payable and equity.

What is Accounts Payable?

Accounts payable refers to another short-term line which is simply an amount of money that a company owes to its vendors or creditors for products or services that have been purchased on credit. Common examples include:

- Purchase of inventories with subsequent payments to suppliers within 30, 60, or 90 days.
- Other expenses such as; utility bills, repairs, promotion, and other fees.
- Office supplies, rents of equipment, insurance, etc.

These are costs that a business suffers while the business is being run or during the operation of the business. However, since payment is made after receipt of goods or services, they are debts or obligations since the company is legally bound to pay the supplier at some point in the future. Accounts payable can be categorized as current liabilities whereby most of the values are often due within a year.

As a credit, growth in accounts payable implies more liability since it represents the amount owed by the business. The other side of the accounts payable increase is typically an expense account such as purchase, operating expenses, utility expenses, etc The accounts payable may also offset the inventory account or the capital asset account depending on the used accounting method. When the payment is made later, the accounts payable account is reduced or credited and decreases cash.

What is Equity?

In fundamental accounting, equity refers to the ownership claim on a corporation’s assets that are more than its liabilities. Also referred to as shareholder equity in the case of corporations, equity represents the net of all assets that belong to owners or shareholders.

The two main equity accounts are:

- Common stock – the par value or stated value is the amount of money for stock shares given to the investors.
- Accumulated and/or retained profits – the aggregate net income or profits of a business over its existence in the event it has paid out dividends.

Collectively, they reflect the value of a firm’s stock to its owners, measured based on its book value. Consequently, equity stands as the least prioritized residual asset in the event of liquidation or bankruptcy as it represents the residual claims of the owners on the firm’s assets.

Hence, in conclusion, the assets portray what a firm owns, while the liabilities portray what it owes, and the equity tells of the net assets, or book value left for the owners.

Major Differences between AP and Equity

There are several key differences between accounts payable as a liability, and equity:

- Outside Liabilities – AP includes the amounts owing to the outside suppliers and creditors in the form of claims on the company’s assets. Equity refers to inside equity which is the sum of total claims that shareholders have on any residual assets.

- AP offers working capital to defer cash payments needed for operations which enables the business to continue running. Equity may be defined as the invested capital that belongs to shareholders and that they have put into the business.

- Term – AP is a short-term liability arising out of obligation that is payable within less than one year from now. Equity is long-term and has no horizon as specific as the payback period.

- Offset – Fluctuating AP offset expenses that demonstrate profit utilization. Profits to be used for increasing the stockholders’ equity reduce contributed capital from the issue of stocks or retain earnings.

- Solvency Impact – AP increases, which means that solvency has reduced implying that there are more liabilities to meet out of assets. It also leads to greater solvency and financial strength with each rise in equity.

In other words, accounts payable is the short-term due to the company on the part of suppliers as well as creditors for the acquired products and services. Equity is commonly defined as the ownership interest which is the balance sheet total of the owners’ stake in a business after netting out all the liabilities. If a business owner knows what makes a specific account a liability and what makes it an equity account, he or she has all the tools needed to assess his/her company’s financial position.

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