Definition (canonical)
Equity is the owners' residual claim on a company: assets minus liabilities. The same word carries two everyday meanings — the equity line on the balance sheet, and ownership stakes traded in fundraising ("giving up equity"). Both describe who the company's net value belongs to.
Equity on the balance sheet
It accumulates from two springs: capital paid in by owners (share capital, premiums) and profits retained instead of distributed. It shrinks with losses and payouts. Reading it: steadily growing equity = the business compounds value internally; negative equity = accumulated losses have consumed more than owners ever invested — the company operates on creditors' money, a red flag in any counterparty check and, in many jurisdictions, a statutory trigger obliging management to act (recapitalize, restructure or file).
Equity in fundraising — the price of money
Selling equity means selling permanent participation: no repayment schedule, but a share of every future profit and exit. The recurring founder math is dilution: raising at a 4M pre-money valuation for 1M means new investors hold 20% post-money, and every existing holder's stake shrinks proportionally. The counterintuitive rule veterans repeat: a smaller slice of a much larger pie beats a large slice of a stalled one — but only when the capital actually buys growth. Equity's alternatives (debt, revenue-based financing) cost interest instead of ownership; the mix is a valuation-sensitive strategic choice, not a formality.
Return on equity — the owners' scoreboard
`ROE = net profit ÷ equity` answers the owner's core question: what does my capital earn inside this company versus elsewhere? Persistently low ROE with growing equity means value parked, not compounding; artificially high ROE on minimal equity often just measures leverage. Like all ratios, it reads best within an industry and across years.
FAQ
Is equity the same as cash the owners can take? No — it is an accounting residual, largely embodied in assets. Distributions are limited by law and by what liquidity allows.
What are treasury shares? The company's own shares bought back; they reduce equity and concentrate remaining ownership — a payout mechanism alternative to dividends.
Equity vs shares vs stock? Shares/stock are the units; equity is the aggregate ownership claim they represent.
Does raising debt change equity? Not directly — debt sits in liabilities. It changes the RISK carried by equity: leverage amplifies both returns and losses for owners.
Related: Balance Sheet · Business Valuation · Venture Capital Reviewed: 2026-07-15 · Sources: IAS 1; corporate finance canon