What Is Shareholder Equity – SE?
Shareholder equity (SE), also referred to as shareholders' equity and stockholders' equity, it a corporation's owners' residual claim after debts have been paid. Equity is equal to a firm's total assets minus its total liabilities. Equity is found on a company's balance sheet, it is one of the most common financial metrics employed by analysts to assess the financial health of a company. Shareholder equity can also represent the net or book value of a company.
Shareholder equity represents the amount of money that would be returned to shareholders if all of the assets were liquidated and all of the company's debt was paid off. Retained earnings is part of shareholder equity and is the percentage of net earnings that were not paid to shareholders as dividends. Think of retained earnings as savings since it represents a cumulative total of profits that have been saved and put aside or retained for future use.
The Formula for Shareholder Equity Is
The formula above is also known as the accounting equation or balance sheet equation.
Calculating Shareholder Equity
The balance sheet holds the basis of the accounting equation:
- Locate the company's total assets on the balance sheet for the period
- Total all liabilities, which should be a separate listing on the balance sheet
- Locate total shareholder's equity and add the number to total liabilities
- Total assets will equal the sum of liabilities and total equity
Shareholder equity can also be expressed as a company's share capital and retained earnings less the value of treasury shares. This method, however, is less common. Though both methods yield the same figure, the use of total assets and total liabilities is more illustrative of a company's financial health. By comparing concrete numbers reflecting everything the company owns and everything it owes, the "assets-minus-liabilities" shareholder equity equation paints a clear picture of a company's finances that is easily interpreted by investors, professionals, and laypersons.
What Does Shareholder Equity Tell You?
Shareholder equity, also known as stockholders' equity, can be either negative or positive. If positive, the company has enough assets to cover its liabilities. If negative, the company's liabilities exceed its assets; if prolonged, this is considered balance sheet insolvency.
For this reason, many investors view companies with negative shareholder equity as risky or unsafe investments. Shareholder equity alone is not a definitive indicator of a company's financial health; used in conjunction with other tools and metrics, the investor can accurately analyze the health of an organization.
All the information needed to compute a company's shareholder equity is available on its balance sheet. Total assets include current and non-current assets. Current assets are assets that can be converted to cash within a year (e.g., cash, accounts receivable, inventory, et al.). Long-term assets are assets that cannot be converted to cash or consumed within a year (e.g. investments; property, plant, and equipment; and intangibles, such as patents).
Total liabilities consist of current and long-term liabilities. Current liabilities are debts typically due for repayment within one year (e.g. accounts payable and taxes payable). Long-term liabilities are obligations that are due for repayment in periods longer than one year (e.g., bonds payable, leases, and pension obligations). Upon calculating the total assets and liabilities, shareholder equity can be determined.
Market analysts and investors prefer to see a good, stable balance between the amount of retained earnings that a company pays out to investors in the form of dividends and the amount retained to reinvest back into the company.
Shareholder equity is an important metric in determining the return being generated versus the total amount invested by equity investors. For example, ratios like return on equity (ROE), which is the result of a company's net income divided by shareholder equity, is used to measure how well a company's management is using its equity from investors to generate profit.
- Shareholder equity is a corporation's owners' residual claim after debts have been paid.
- Equity must be balanced with a firm's total assets and total liabilities.
- Shareholder equity is an important metric in determining the return being generated versus the total amount invested by equity investors.
Example of Shareholder Equity
For example, assume that ABC company has total assets of $2.6 million and total liabilities of $920,000. Therefore, ABC shareholder equity is $1.68 million.
As a real-world example, PepsiCo Inc.'s (NYSE: PEP) total stockholders' equity declined in the two year period from $17.4 billion in 2014 to $11.1 billion in 2016, which—depending on the reasons—might give analysts concern for the soda and snack food giant's health. In the same period, arch-rival Coca-Cola Corporation's (NYSE: KO) total shareholder equity fell from $30.3 billion to $23.01 billion. But the percentage drop isn't as great because Coke's liabilities and accounts payable also consistently decreased, while Pepsi's increased, suggesting Coke had a better handle on its debt.
The Difference Between Shareholder's Equity and Equity
A company's equity typically refers to the ownership of a public company. For example, investors might own shares of stock in a publicly traded company.
Equity, however, in more general terms could also refer to the level ownership of an asset. For example, an owner of a house with a mortgage on it might have equity in the house, but not own it outright. The home owner's equity would be the difference between the market price of the house and the current mortgage balance.