Owner’s Equity

What is Owner’s Equity?

In short, owner’s equity is the leftover total assets that the owner of the business can claim after liabilities are subtracted. 

This then can raise a bunch of questions, how can I raise owner’s equity? Does this apply to all business structures? How do I calculate owner’s equity? 

All of these questions will be answered with additional information that can help your understanding on owner’s equity.

Formula:

Owner’s Equity & Business Structures

Before diving into more technical terms, it’s important to understand where your business stands on owner’s equity.

Sole Proprietorships: Sole Proprietorships are the main culprits for the term owner’s equity. This is the case because the business as a whole is a reflection of the owner’s investment. This means that the total assets, after subtracting liabilities, fall under the one owner.

Partnerships: With two or more partners, owner’s equity becomes a bit tricky. However, owner's equity still applies to a partnership, except in this case, each partner will hold a share of the business. In some cases, this can also be referred to as the partner’s equity.

C-Corp & S-Corp: Unlike the past two structures mentioned above, corporations use shareholder or stockholder equity. This will be explained further down

Capital Contributions

One of the best ways to increase equity in a business is to directly contribute funds or assets to the business

Capital Contributions from Owner 

When a business first opens its doors, the owner may have chosen to provide funds directly into the business as a way to start off their investment in the company. These funds, directly from the owner, can be referred to as capital contributions.

Capital Contributions from Investors

Moving on to investors, capital contributions from investors also increase equity. Remember, this is still cash that is going towards your company for reinvestment!

Retained Earnings 

Another great way to increase equity is to use retained earnings for reinvestment into the business.

What Are Retained Earnings?

Retained earnings are the profit that is kept by the business after paying out to shareholders. With these funds, you can directly invest in your business and thus increase equity.

As a business makes sales through its services, income is then earned and then goes towards increasing the value of the business. On top of this, additional revenue can go towards increasing the portion of profit set aside for retained earnings. Furthermore, you are investing more in your business!

How Do I Calculate Retained Earnings?

In order to calculate your retained earnings, add any previous retained earnings (if applicable) to your current net income. Then subtract any dividends you may owe to shareholders.

Dividends (Only C-corporations)

What are dividends?

Dividends are portions of a business’s profit that is paid out to shareholders. These payments are usually received to shareholders quarterly.

How are Dividends Paid?

Once a business earns profit, its board of directors discuss a plan in order to share their profit to shareholders in the form of dividends. Apart from cash, dividends can also be paid out as additional stock to the company to its shareholders. As mentioned above, these payouts are usually sent quarterly.

What does this do for my equity?

Unlike retained earnings, by paying out dividends with cash, you are losing money that could not be reinvested into your business, furthermore this decreases equity.

Gains from Asset Sales

On top of revenue gained from daily operations, business owners can also choose to sell off an asset for cash in order to contribute to the business’s revenue and thus increase the owner’s equity.

Conclusion

In short, owner’s equity is what you get after subtracting liabilities from your total assets to show a business owner what they own from the business. 

For those looking to increase equity, capital investments, retained earnings, daily business operations, and other sources like selling assets can be a great way to raise equity.

To top it off, building good equity can be a great insight for investors looking to see if your company is in great standing! Need help with equity? Reach out to our team at Ledgerfi to help build your equity and keep your business in great shape!