In the business world it is common to hear about equity , especially when it comes to a company’s balance sheet . However, this financial indicator is also extremely important at other times, such as when it comes to analyzing future investments .
The term equity , which can also be represented only by the acronym PL, is nothing more than the result of the subtraction between the assets and rights of a company and its obligations. It therefore corresponds to the total wealth of an enterprise.
In this article, you will understand in detail what equity is, what components are part of it, how the PL can be calculated and how it works, in practice, in the world of business and accounting.
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What is and what makes up a company’s net worth?
As we said, shareholders’ equity represents the difference between a company’s assets and liabilities. In other words, the PL is a financial metric that shows how much money that venture would have if all assets were liquidated and all the company’s debts were paid off.
Equity is one of the most common financial metrics used by analysts to assess the financial health of businesses in general.
There are several accounts that make up the company’s equity. According to Brazilian law, according to Law 6404/76, the shareholders’ equity accounts are as follows:
Share capital
According to SEBRAE (Brazilian Micro and Small Business Support Service) , the share capital is the sum of the “ initial own resources that will keep the company ‘alive’, while its client portfolio is not solid enough to sustain the company alone ”.
In other words, the share capital is the total amount needed to start a business. Basically, it is the initial amount of money that an enterprise must have to survive until it starts to make a profit.
This capital is modified each time a partner divests the company (capital reduction) or increases in invested capital. That is, all those resources raised by the company in stock offers are also accounted for in this subaccount.
Profit and capital reserves
These two types of reserves are clearly intended for the formation of accumulations with specific functions.
The profit reserve, for example, is a set of values obtained through the appropriation of the company’s profits, values that were not distributed to its partners and shareholders.
The profit reserve is subdivided into the following sub-accounts:
- Legal reserve
- Statutory reserve
- Reserve for contingencies
- Profit retention reserve
- Unrealized profit reserve
- Special reserve for mandatory dividend not distributed.
Capital reserves are accumulated through amounts that have no connection with the sale of goods or services provided by the company. In general, they are resources of the organization’s members.
Equity valuation adjustments
The equity valuation adjustments measure a company’s assets based on a calculation of their fair value. “Fair value” means the amount for which an asset can be exchanged in negotiation between two parties that are independent of each other, and its function is to ensure the value without final changes.
Actions in Treasury
Basically, treasury shares are shares that were sold on the market, and then repurchased by the company itself. When this happens, the shares are held in treasury and can be issued again or even canceled, if this is the organization’s wish.
Accumulated profits or losses
Commonly, this is the most well-known item within a company’s net worth, since the profits or losses accumulated by an enterprise show the positive and negative results obtained in a company’s financial statements and are often indicative. financially controlled by organizations.
See also: DRE: What it is and how important it is to your business
How to calculate the company’s net worth?
Calculating a company’s net worth is quite simple:
Equity = Assets – Liabilities
It is worth mentioning that the asset is the sum of all assets, rights and values that the company already owns or will soon receive. Included in the asset package are things like real estate, machinery, trade receivables, product patents, among others.
On the other hand, the liability is the sum of all financial obligations that the company has, including, among others, employee salaries, all types of debts, taxes, rents, trade bills to be paid….
Thus, we can interpret the equity formula as “everything the company has minus everything the company should / needs to pay”.
In a practical example, in a calculation where the asset is equivalent to R $ 500 thousand, while the liability is R $ 300 thousand, the net equity result will be positive in R $ 200 thousand.
Conclusion
An essential resource for the analysis of financial health, net worth, in addition to determining the value of a company , it is also important for companies, as it can be used to finance its expansion.
The PL takes into account different components such as: share capital, accumulated profits or losses, among other aspects. Although it may seem complicated, the equity formula is very easy to understand, being seen in a summarized form as “assets – liabilities”, or even, “what the company has – what the company has to pay”.
Assessing a company’s equity, in isolation, does not convey much information directly. However, several important financial indicators are calculated using equity. One of the most important is ROE (Return On Equity), which links net income to equity. That is, it shows the profitability of a company in relation to the investment made by the shareholders.
It is important to note that, as in other aspects of corporate financial management, in order to carry out the calculation of shareholders’ equity and a correct analysis of the results, it is essential to have a good knowledge of corporate finance and financial management in general.
Although the company may hire specific professionals to carry out the task, it is also valid that the entrepreneur understands how the processes are carried out and, even, can participate in them.
