Owners Equity Paper

Investors invest monies into companies as a means to make money. Without proper classification of income on the financial statements investors can be misled into making decisions based on inaccurate or misleading information. This paper will outline the difference between paid-in capital, and earned capital, discuss the reasons it is important to keep paid-in capital separate from earned capital, discuss the reasons paid-in capital or earned capital is more important to investors, and discuss reasons basic or diluted earnings per share are more important to investors than the other, and if so, why.

To understand why it is important to keep paid-in capital separate from earned capital one must understand the differences between the two. Paid-in capitals are funds provided to a company from the sale of capital stock. There are two types of paid in capital; stated capital and additional paid in capital. Stated capital known as (par value) is the company’s stated value of any shares issued for private sale. Additional paid in capital is the money that investors have paid into stock over and above the par value amount. Earned capital is the monies that a company earns as a direct result of profitable operations.

It is important to keep paid-in capital separate from earned capital because these represent two distinctive source of funding and helps to prevent misinterpreting the sources from which the operational funding originally originated. Paid-in capital is new money, whose use is intended to aid the company in increasing their earned capital. In other words paid-in capital is monies that are paid into the corporation by means of investors, stockholders, and the corporation; for a means of increasing earned capital, while earned capital is monies earned by profitable operations within the company.

From an investor perspective, earned capital is more important than paid-in capital when making investing decisions because the earned capital shows the investor that the company is making a profit. According to Jacobsen & Wachterhauser, PLC, “it is far more important from a prospective investor that a company earns money from operations rather than the sale of stock”. The amount of earned capital reported on financial statements shows investors and stockholders the value of their investment. When a firm continually reports paid-in capital in excess of earned capital this could be perceived by investors as a sign that the company is not a very good investment. When a firm continually reports earned capital in excess of paid-in capital this shows investors that the