Question

Please identify three causes for Negative Equity.

Answer 1

Negative equity refers to the situation when an organization experience a negative balance of equity share capital in their balance sheet.

The negative equity may be caused by various factors such as:

(i) When an organization has suffered substantial losses over a constant phase or consecutive years which lead to the decision wherein the organization will offset their reserves and equity capital appearing on the balance sheet.

(ii) When an organization is over-leveraged i.e., they are having the huge amount of debt. Thus, whatever cash inflows are earned by the organization it is been used to settle the payment of interest on debt which technically leads to incurring of losses.

(iii) Huge payment of Dividends to Shareholders may lead to negative equity because the organization has paid more amounts of cash dividends than the profits it has earned.