Accounting Fundamentals Certification (AFC) Practice Test

Net income directly affects owner's equity because it represents the profit a company earns after all expenses are deducted from total revenue. When a business has net income, it typically increases retained earnings, which is a component of owner's equity. This increase reflects the cumulative earnings that have not been distributed to shareholders as dividends, thus enhancing the overall equity stake that owners have in the business.

In the context of accounting, while net income does eventually contribute to the asset base of the company through retained earnings, the direct link of net income to the enhancement of owner’s equity is the most significant. In contrast, liabilities are related to the debts and obligations of the business, and revenue is simply the income generated from sales or services before expenses are subtracted. Therefore, the relationship of net income with owner’s equity is the most accurate reflection of how profits contribute to the financial position of the company.