To begin any fundamental analysis of a stock or a company it becomes essential for the investor to look into the primary and most important aspect, equity. Equity is simply the ownership or the total net worth of the company but how equity calculation is done.
In this article, we will be discussing the detail of equity, its meaning, formula, calculation etc.
What is Equity?
Company equity simply defines how much value the shareholder can claim in the company by investing in its shares.
To understand this, it is the value that is going to be distributed to the investors in case the company gets liquidated at a certain point where all its debts are paid off.
You can simply calculate equity by using the value of assets and liabilities provided in the balance sheet.
The companies show their asset values on their balance sheets or in their annual reports and using these values, the value of Equity can be calculated. Analysts prefer using this value to determine the financial health of the company.
How to Calculate Equity?
There is one very uncomplicated way to calculate Equity and we will look at that in detail and try explaining that to you with an example.
This method of calculating equity involves subtracting the total liability value from the total asset value of the company. This gives the outcome of the book value of the company which is the company’s total net asset value and is roughly equal to the equity value.
Here, the assets of the company mean anything that has an economic value for the company and they can either be current or non-current assets. On the other hand, liabilities mean the amount the company has to pay in return for its operations and they can also be current and long-term or non-current liabilities.
Liabilities include paying the debts, operational charges, and other expenses that a company has to bear.
Equity Calculation Formula
Equity is calculated by subtracting both these values from each other.
Equity = Assets – Liabilities
Let’s take an example of ABC company the asset and liabilities of which for the years 2021 and 2022 are as follows
Asset/Liablities March 2022 March 2021 Non-Current Assets 31,479 30,662 Current Assets 99,280 90,237 Total Assets 130,759 120,899 Non-Current Liablities 9,496 9,090 Current Liabilities 34,155 27,060 Total Liabilities 43,651 36,150
*All values are in crores
On the basis of the above data, the equity value for the years 2021 and 2022 is 84,749 Crores and 84,749 Crores respectively.
The equity is the book value of the company. In the above example, it is positive, but in some cases, it comes out to be negative as well. Ofcourse it is when the liabilities are more than the company’s assets.
If the total equity value is positive then, it shows that the company has more assets than liabilities and thus, is in good financial condition.
On the other hand, negative equity value clearly depicts poor financial condition, and investors generally consider investing in such companies to be risky and unsafe.
However, this is not always true and it is not always true as one must look into other metrics and tools while analyzing the company’s financial health and value.
You can use this value to find the return percentage on investing in shares of the company and further on the basis of this value one can do a deep analysis by evaluating the value of ROE (Return on Equity) which makes it easier for investors to understand that how the company’s management is able to make use of the equity to make a profit.
As said above, you can refer to a company’s balance sheet to access information about the asset and liability values.
Conclusion
As an equity investor, it is always important to check the equity value of a company to measure its financial health before investing. At the same time, it is also vital to measure its growth upon investing by keeping an eye on the equity value of the company you have invested your money into.
However, not everyone should consider this metric alone to measure how good or how bad a company is performing and it should be balanced with using other tools and data such as paying dividends and the company’s reinvestment plans using the same equity.
After reading this till the end, you now know how equity is calculated and calculate the same for any company before beginning the fundamental analysis of the company.
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