Sign up to receive accounting tips, videos, news and webinar info before anyone else
Mailing Address
21750 Hardy Oak Blvd
Ste 104 PMB 63328
San Antonio, TX 78258-4946
(760) 697-1033
What is Equity?
Equity equals ownership. The easiest way to think about this is if you own a home and it’s worth $500k and you have a $250k mortgage. How much of your home do you actually own? The answer is you don’t own the full $500k because if you sell it, you still have to pay off the remaining $250k loan balance.
It is the difference between the fair market value and your loan. When it comes to business, think about it in basic terms of equity is ownership.
Equity in Small Business
The term “owner’s equity” is also known as shareholder’s equity or stockholder’s equity if the business is structured as an LLC or a corporation.
There are two different kinds of equity in business:
- Equity on your financial statements
- Equity that is a fair market value
Equity on your financial statements is similar to a piece of real estate. It is the assets that you have inside of your business minus the liabilities equals your ownership (Assets-Liabilities = Equity)
Assets are anything the business owns. Liabilities are what you owe other parties.
Most small business owners have 70-80% of their net worth tied up inside of the equity ownership of their business. If you’re in a business that has a patent or technology that somebody could use and make millions of dollars from, your ownership maybe valued at whatever those patents are worth regardless of how much money you’re making. For most businesses though, it’s a measure of how much cash you can generate with the business very similar to a real estate investment.
Equity on the Balance Sheet
While you can find equity on your balance sheet, a measure of your financial strength, ultimately ownership and the real equity that you have in your business comes from its ability to generate cash. Owner’s equity is an asset to the business owner themselves, not the business even though it is listed on the balance sheet. If you can generate more cash, you’ll generate a higher value for your business.
Conclusion
To conclude, increasing the owner’s equity every year in a business shows that it’s successful. Just make sure that the increase in equity is because the profitability of the business is increasing and not the contributions from the owner. This will give you a clear picture of how the business is growing in value and ultimately making you more successful.
This post was reviewed by our team of accounting and financial experts. TGG’s mission is to make business owners’ lives better through excellent financial management. We strive to provide the most up-to-date and objective information on accounting-related topics so our readers can make informed decisions based on factual content. All posts undergo a review process with at least one member of our Leadership Team to ensure accuracy.
This post contains trusted sources. All references are hyperlinked at the end of the article to take readers directly to the source.
Read More >>>
Matt Garrett is the Founder and Chief Executive Officer of TGG. He is a regular speaker across the country on behalf of Vistage educating business owners on the need for sound financial practices, and is Vice President of the Board of Directors of FINACA. Under Matt’s leadership, TGG has received the following recognition: INC. 5000 top companies in the U.S. five years in a row; one of “San Diego’s Fastest Growing Companies” the past four years; and is among San Diego’s “Best Places to Work.”
