Occasionally a small business owner, when asked about how much equity they have in their company, responds with their bank account balance. But this is not equity.
As an owner of a business, it is good to know your total equity in your company and how it is calculated. Your equity is what you would walk away with if you were to sell or close your business, after all debts are paid and assets liquidated. Your total equity in your company is a simple equation that takes into consideration three things. Let’s first take a look at the equation and then the meaning of each variable.
Opening Balance + Net Income = Total Equity
The Opening Balance, or investment equity, is simply the initial investment that you made in your business.
Your Net Income is broken down into two categories. First is your total net income (or loss) up to the last fiscal year or when your books were last closed. The next figure is your net income (or loss) for the current year – business since you last closed your books. Add these two figures together for your total Net Income.
The equity in your business is an indicator of the health of your business, but also is helpful in making business decisions or in seeking financing. If your business finances are a bit of a mystery beyond your bank balance, calculating your equity is a good place to start in understanding how your business is performing