What Is Stockholders' Equity?
Definition & Examples of Stockholders' Equity
Stockholders' equity is the value of a business' assets that remain after subtracting liabilities. This amount appears in the firm's balance sheet, as well as the statement of stockholders' equity.
Learn what stockholders' equity means for a company's value and how it should inform your investing decisions.
What Is Stockholders' Equity?
Stockholders' equity is the money that would be left if a company sold all its assets and paid off all its debts. Whatever would be leftover is the money that belongs to the owners of the company, including its stockholders, who are partial owners. It is the net worth of a company.
It's also referred to as owners' equity or shareholders' equity. It can be found on a firm's balance sheet and financial statements, along with data on assets and liabilities.
Stockholders' equity illuminates the quality of a firm's economic stability and provides insights into its capital structure. Understanding stockholders' equity on a balance sheet is one way investors can learn about the financial health of a firm.
Alternate names: shareholders' equity, book value, owners' equity, net worth
How Stockholders' Equity Works
Stockholders' equity usually comes from three sources:
- Capital stock: Cash or other assets paid in by investors when the company was raising capital in exchange for issuing shares of common stock or preferred stock
- Paid-in surplus: Capital given by investors in exchange for stock, not including stock from money generated from earnings or donations (also known as paid-in capital)
- Retained earnings: Accumulated profits a business has held on to for reinvestment in the firm and has not paid out to its shareholders as dividends or used in the repurchase of stock.
A firm's balance sheet will typically feature two columns: a left column listing the company's assets, and a right column showing its liabilities and owners' equity. Some balance sheets will list assets at the top, then liabilities, and finally, stockholders' equity at the bottom.
In either case, total assets should equal the total liabilities plus stockholders' equity.
A balance sheet provides a snapshot of a company's assets, liabilities, and shareholders' equity at the end of a firm's financial reporting period.
Shareholders' equity on a balance sheet is adjusted for a number of items. For example, the balance sheet has a section called "Other Comprehensive Income," which refers to revenues, expenses, gains, and losses that aren't included in net income. This section includes items like translation allowances on foreign currency and unrealized gains on securities.
Stockholders' equity increases when a firm generates or retains earnings, which helps a company balance debt and absorb surprise losses. For most firms, higher stockholders' equity means a larger financial cushion. This provides more flexibility and a greater ability to recover in the event that the company experiences losses or must take on debt, whether due to poor underwriting or an economic recession or depression.
Unlike creditors, shareholders can't demand payment during a difficult time, which allows a firm to dedicate its resources to fulfilling its financial obligations to creditors during financial downturns.
Lower stockholders' equity is sometimes, but not always, a sign that a firm needs to reduce its liabilities. However, for some businesses, especially new or conservative businesses with minimal expenses, lower stockholders' equity is not problematic.
Stockholders' equity has less meaning for these companies because it doesn't take much money to produce each dollar of surplus-free cash flow. In these cases, the enterprise can scale and create wealth for owners much more easily, even if they are starting from a point of lower stockholders' equity.
Alternatives to Stockholders' Equity
When making investment decisions, stockholders' equity is not the only thing you should be evaluating. A single data point in a company's financial statement cannot tell you whether or not that company is a good risk.
Reviewing stockholders' equity on a balance sheet enables more informed investing. However, you should also consider:
- Annual reports: yearly statements on a company's financial situation, as well as goals, management, leadership, and culture
- Form 10-K: filing required by the Securities and Exchange Commission (SEC) which provides an overview of a company's financial condition, sometimes sent to shareholders in place of an annual report
- Debt-to-equity ratio: compares assets to liabilities and can help you identify a company that carries too much debt
- Price-to-earnings ratio: compares the price of shares to the per-share earnings of the company, with higher ratios indicating more potential for growth
- Industry stability and growth: provides context on the company's potential opportunities for profitable growth
- Dividends: can indicate stability and growth, unless dividends make up too high a percentage of profit
- Income statement: allows you to compare earnings, expenses, and net profit over time
When examined along with these other benchmarks, the stockholders' equity can help you formulate a complete picture of the company and make a wise investment decision.
- Stockholders' equity is the value of a business' assets that remain after subtracting liabilities, or its net worth.
- This amount appears in the firm's balance sheet, as well as the statement of stockholders' equity.
- For most companies, higher stockholders' equity indicates more stable finances and more flexibility in the case of an economic or financial downturn.
- Understanding stockholders' equity is one way investors can learn about the financial health of a firm.