Negative shareholders’ equity indicates that a company's debts exceed its assets. It is seen as a sign of financial distress.

Shareholders’ equity is calculated by taking a company's total assets and subtracting its total liabilities. Both assets and liabilities are itemized on the balance sheets of public companies.

When either result is negative, the company has negative shareholders’ equity. That means that the shareholders wou❀ld receive nothing if the company declared bankruptcy and was forced to liquidate its assets.

How to Calculate Shareholders' Equity

A company’s shareholders’ equity is calculated by deducting total liabilities from total assets: 

Total Assets - Total Liabilities = Shareholders' Equity

The information you need for this formula is found in the company’s 澳洲幸运5官方开奖结果体彩网:balance sheet:

• Total Assets: This includes current assets like cash and accounts receivable, plus noncurrent assets such as property and equipment.
• Total Liabilities: These include short-term liabilities like accounts payable and long-term debts such as loans and bonds.

Shareholders’ equity represents a company’s net worth (also called 澳洲幸运5官方开奖结果体彩网:book value) and is a gauge of a company’s financial health. If total liabilities exceed total assets, the company will have negative shareholders’ equity💛.

A negative balance in shareholders’ equity is generally a red flag for investors to dig deepe🔴r into the company’s financials to assess the risk of holding or purchasing the stock.

Reasons for Negative Shareholders' Equity

Here are some common reasons for negative shareholders' equity:

Accumulated Losses

Losses that accumulate over several quarters or years can result in negative shareholders' equity. In the balance sheet's shareholders' equity section, 澳洲幸运5官方开奖结果体彩网:retained earnings indicate the balance left over from profits, or net income. This is the𒉰 money that can be set aside to pay dividends, reduce debt, or reinvest in the company.

After a net loss, the defiꦦcit is carried ඣover into retained earnings as a negative number and deducted from any balance left from prior periods.

Retained earnings are the cumulative profits a company has earned over its history that have not been distributed as dividends. As a result, a negative stockholders' equity could mean a company has incurred losses for multiple periods, so much that the existing retained earnings and any funds received from issuing stock have been exceeded.

For investors, a negative stockholders' equity is a traditional warning sign of financial instability. It can damage a company's ability to secure financing or investment. It can also make it difficult for investors to assess the company's financial health using traditional metrics since a negative stockholders' equity can skew important financial ratios like the debt-to-equity ratio.

Large Dividend Payments

Large 澳洲幸运5官方开奖结果体彩网:dividend payments that have exhausted retained earnings or exceeded shareholders’ equity would produce a negative balance. Combined financial l𓆉osses in subsequent periods fo♚llowing large dividend payments can also lead to a negative balance. 

Cash dividends reduce shareholders' equity on the balance sheet, reducing retained earnings and cash. Companies may issue excessively dividends large for several reasons, each with implications for the firm's financial health and stability.

• A short-term stock boost: Company leaders may believe that higher dividends will temporarily boost its stock price and attract new investors, which benefits those looking to sell their shares.
• Investor expectations: A history of solid dividends may have set high expectations. Investors could perceive reducing or skipping dividend payments negatively.
• Competitive Pressure: Firms may issue large dividends to stay competitive with peer companies, even if it's not financially prudent to do so.
• Overconfidence: Executives may be overly optimistic about future earnings and cash flow, thinking that future performance will easily cover the dividend payout.
• Signal of Health: Companies may use dividends to signal to the market that they are in good financial health even when they're not.

Borrowing Money

When a company borrows money, it receives cash, which appears on its balance sheet as an asse🦩t. But this, of course, also incurs debt, which goes into the balance sheet as a liability. As the company spends the borrowed money, it reduces its assets and lowers its shareholders’ equity unless the busin♓ess repays its debt.

Issuing new shares to raise funds rather than borrowing money could be a strategy for avoiding negative shareholders’ equity. Tthe funds received from issuing stock would create a positive balance in shareholders' equity.

However, selling new shares isn't necessarily better than borrowing money. Any time a company issues new shares, it dilutes the outstanding shares, meaning that current owners own a smaller stake in the business, which can cause share values to drop.

Amortization of Intangible Assets

The amortization of intangibles, such as patents🅰 or trademarks, is the process of expensing the cost of an intangible asset over its projected life꧂. The amortization appears on a company’s profit and loss statement under the expenses category and in the corporate balance sheet in the noncurrent assets section.

In certain circumstances, if a company already has low or negative retained earnings, the additi🍒onal amortization expenses can further reduce shareho𓃲lders’ equity and even push it into negative territory.

 This most often happens after an acquisition. The acquiring entity records the intangible assets of the acquired company at the fair market value. That can temporarily inflate the company’s assets value. Over time, as the intangible assets are amortized, the process can overwhelm low or𓄧 negative retained earnings, especially if the acquisition was largely financed through debt.

At that poi💖nt, sinking shareholder equity turns negative.

The Bottom Line

Negative shareholders' equity could be a warning sign that a company is in financial distress. It’s also possible that a company spent its retained earnings, as well as the funds from its stock issuance, by purchasing costly property, plant, and equipment.

Negative shareholders' equity is a signal for an investor to dig deeper and explore the reasons for the negative balance.