What is equity in business? A simple guide

Knowing how much equity is in your business is important because it helps you to monitor the health of your company and drive further growth.

Read on to find out the definition of equity in business, the different types of equity, and how to calculate equity in your accounting.

What is equity? – meaning and definition

The equity meaning in business is the amount of money that could be returned to a company’s shareholders if all its assets were liquidated and debts paid off.

For small businesses, the shareholders are likely to be the owners, alongside anyone who has put money into the business in return for a stake, such as an angel investor.

A company’s equity is a good indicator of its financial health. It’s included on the balance sheet and is often used by potential investors to work out which companies they want to fund.

Also known as the company’s value on paper, equity is calculated by subtracting the value of a business’s assets (such as buildings and cash) from its liabilities (such as salaries and tax). The more equity a business has, the more valuable it is.

What are the different types of equity?

Here’s an overview of some of the different types of equity in business:

• private equity – any funding or stock that represents ownership of a company
• shareholders’ equity – the value of assets distributed among shareholders after they’ve been liquidated and debts have been paid
• ownership equity – how much the business is worth if it goes into liquidation and all of its debts are paid

Selling equity in your business

Selling equity can help you expand if you want hire more staff or rent new premises. To get funding, you’ll need to give away a share of your equity. For example, an investor may offer you £100,000 in exchange for 20 per cent of your business.

When you sell equity, your new shareholders will be entitled to the value of their share (assets minus liabilities) when they sell it, the business is sold, or goes into liquidation.

Here are some things you’ll need to do before selling equity:

• work out the equity of your business so you know how much it’s worth
• decide how much investment you want and the share of equity you want to give away
• be prepared to give up some control as you’ll have new shareholders
• set a realistic timeframe so you have a plan to work to

What is equity funding?

Equity funding is another way of saying that you’re selling equity – giving away part of your business in exchange for a cash injection.

There are several types of equity funding, each with different advantages and disadvantages. Here are some of the most common:

• crowdfunding – asking lots of people to make a small investment in your business. Read our guide to crowdfunding for more information
• angel investment – an investor or group of investors looking for innovative businesses with big growth potential. Our guide to angel investment can help you get started
• venture capital – venture capital trusts are companies that invest in growing businesses, aiming to turn a profit for their customers. Read our venture capital guide to find out more

What is equity in accounting?

Equity is used in accounting when preparing a balance sheet or other financial statements. It can be calculated by a professional accountant or by using accounting software.

Download our balance sheet template to find out what you need to include and how it can help you to monitor the financial performance of your business.

How to calculate equity in accounting

As we explained earlier, to work out the equity of your business you’ll need to subtract your assets from your liabilities. The equity of your business can be positive or negative.

For example, a business with positive equity has enough assets to cover its liabilities. On the other hand, a company with negative equity would have liabilities worth more than its assets.

Equity in accounting examples

If your assets (such as cash, stock, property, and prepaid expenses) add up to £300,000 and your liabilities (such as unearned revenue and money you owe for tax) add up to £150,000, your business has a positive equity of £150,000.

However, if your assets add up to £225,000 and your liabilities add up to £325,000, your business has a negative equity of £100,000.

Working out the equity of your company can be complicated, so make sure you speak to a professional accountant before you get started.

More useful guides for small businesses

• How to write a business plan
• How to file company accounts
• Setting up a limited company guide
• What is a cash flow forecast?
• Why do I need business insurance?

Do you have any unanswered questions about equity in business? Let us know in the comments below.

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