Definition Of Equity For Beginners


Definition Of Equity For Beginners

The definition of equity says the amount of money that the company’s shareholders will receive. They get it from their assets given if they were liquidated and all of its debts were paid off. In simplest terms, it just means the monetary value of assets (e.g. properties or businesses) after debts have been paid off. There are two types of equity: book value and market value. The former is in the balance sheet. It is the difference between the liabilities and assets of the company, while the latter is based on the current share price that is decided by investors or professionals. This article will further discuss more concepts about the book and market value of equity.

Book Value

Definition Of Equity For Beginners
Definition Of Equity For Beginners

Equity is book value in accounting. Accountants determine the value by preparing financial statements and represented in the equation as assets = liabilities = equity. The equation is equity = assets – liabilities.

Assets are the sum of each current and non-current asset on the balance sheet. Some examples include accounts receivable, cash, fixed assets, prepaid expenses, inventory, and intellectual properties. On the other hand, liabilities are the sum of each current and non-current liability on the balance sheet. Some examples include account payable, credits, deferred revenue, short-term debt, and any fixed financial commitments.

Equity is more detailed in reality, though. They are also functions of accounts such as retained earnings, contributed surplus, net income, dividends, and share capitals.

Market Value

Equity is the market value in finance. It depends whether it’s materially lower or higher than its book value because professionals analyze its financial performance by looking into the future and accounting statements are typically backward-looking. It’s hard to find out the market value if the company is private because they ought to hire accounting firms and investment bankers since companies need to be formally valued. On the other hand, calculating the market value by determining the latest share price then multiplying it to the total number of shares is easier when a company is traded publicly.

How To Estimate Market Value Of Equity?

Definition Of Equity For Beginners
Definition Of Equity For Beginners

The market value must be determined especially when the company is private. It can be a subjective process because two different professionals might end up having different values even if they are of the same business.   There are three most common methods to estimate the market value of equity: comparable company analysis, precedent transactions, and discounted cash flow analysis.

As much as it does to businesses, the same concept can be applied to people as well. Every individual has their self-worth. Hence, they include varieties of liabilities and assets that can use to calculate net worth. Personal assets can be real estate, cash, vehicles, household items, and real estate. While personal liabilities can be electric, phone, internet, water bills, mortgages, student loans, credit card debts, and lines of credit. Lastly, note that your net worth will be the difference between all your assets and all your liabilities.

Subscribe to our monthly Newsletter
Subscribe to our monthly Newsletter