What is owner’s equity?
Owner’s equity measures what a business is worth. It doesn’t tell you what the business would sell for because you can’t know that until you negotiate with a buyer. But it tells you the book value – or net worth – of the business, which can be calculated at any time.
How to calculate owner’s equity (or net worth)
To calculate owner’s equity, you add up the value of all the things the business owns (assets) then subtract the amounts the business owes (liabilities). What’s left is your equity.
Owner’s equity formula
Equity = Total business assets – Total business liabilities
When calculating owner’s equity
It’s important to count up all your assets and liabilities correctly.
Assets include tangible things like equipment, real estate, inventory, accounts receivable (money owed by customers) and cash in the bank. Intangible items such as intellectual property or a brand are also assets.
Liabilities include amounts of money that a business owes to lenders, suppliers, employees, or the tax office.
Examples of owner’s equity
If you own a house worth $300,000 but you have a $120,000 mortgage against it, your equity is $180,000. Breaking it down, the $300,000 house is your asset while the $120,000 debt is your liability. Subtracting the liability from your asset leaves you with $120,000 of equity.
Business example of owner’s equity
A repair shop owns a $600,000 garage, $50,000 worth of machinery, plus $50,000 worth of inventory for $700,000 in total assets. It owes $300,000 on the premises. So the owner’s equity would be $400,000.
Where to find owner’s equity
Your owner’s equity is a section on the balance sheet. It’s shown after sections on assets and liabilities. Owner’s equity is also reported on the statement of changes in equity.
What is a statement of changes in equity?
A statement of changes in equity is one of the four basic financial statements, alongside the:
- profit and loss (P&L)
- balance sheet
- cash flow statement
The statement of changes in equity ties together the P&L and the balance sheet. It does this by showing how the earnings for the year (from the P&L) affect the value of owner's equity (from the balance sheet).
How the statement of changes in equity is used
While it’s interesting to know how the book value of the business (and your share in it) has changed over the year, it doesn’t provide much insight for managing performance. The P&L and the balance sheet contain the main details needed to make strategic decisions and so most small business owners focus on those.
Meaning of owner’s equity: recap
Owner’s equity is what a business would be worth after collecting all the money it’s owed and settling all its debts. It can be used as a starting point for valuing your business when you want to sell, although it’s no guarantee of what the final sale price will be.
Owner’s equity is tracked on the balance sheet and is a product of your assets minus your liabilities. It moves up and down over time as the business invoices customers, banks profits, buys assets, takes loans, runs up bills, and so on. These changes are reported in your statement of changes in equity. This is one of the four main accounting statements that a business produces each year, in line with the globally recognised International Financial Reporting Standards.
Frequently asked questions about business owner’s equity
Is shareholder’s equity the same thing as owner’s equity?
Yes. Some types of business, such as sole traders or partnerships, refer to owner’s equity. Companies and corporations tend to call it shareholder’s equity. But it’s the same thing. A shareholder is an owner, after all.
How do I calculate the owner’s equity statement?
An owner’s equity statement covers the increases and decreases in the company’s worth. It is calculated with the accounting formula of net assets minus net liabilities which equals owner’s equity. Creating this statement relies on the accurate recording and analysis on your business’s balance sheets.
Do all transactions affect the owner's equity?
Virtually every transaction your business makes has an impact on equity. Sales earn money and add to your assets, expenditures deplete assets and may increase liabilities.
Xero does not provide accounting, tax, business or legal advice. This guide has been provided for information purposes only. You should consult your own professional advisors for advice directly relating to your business or before taking action in relation to any of the content provided.