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What is Equity and Why is it Important to Your Business

What is Equity and Why is it Important to Your Business?


 

What is Equity and Why is it Important to Your Business

So, you’ve finally started your own business. You are officially an entrepreneur. While you might feel a fleeting sense of accomplishment, it may not last forever. For many new business owners, the thrill of starting a business wears off quickly and is replaced, at least in part, by worry.

Will your business be profitable? Have you taken every legal step possible to make it a legitimate endeavor? Did you borrow too much money to start your business? How long will it take to be profitable?

While there are many notions to understand as a business owner, equity is a key concept and you should have a firm knowledge base of how it works. It is essentially what will drive your business and its profitability.

 

What is Equity?

Equity is essentially the value of any asset, in this case your business, minus any liabilities on that asset. A liability may be a loan or debt that is owed against the business. Here is an example: If you bought your business’s physical building for $400,000 and the mortgage balance is $200,000, your equity is $200,000.

 

There is also the concept of owner’s equity. This is essentially the total amount of equity you, as the owner, have in your company.

Let’s look at this in another example. If your company has $200,000 in total assets but also carries $50,000 in total debt, your total equity in the business is $150,000.

A simpler way to think of owner’s equity is that it is the amount of money that would be left over if you sold all of your business assets and then paid off all of your business debts. The lower your debts, the likelier you are to have positive equity in your business and the higher the probability you would make a profit should you decide to sell it.

 

Negative Equity

Negative equity, as its name suggests, is not a good thing for any business owner. It applies to the concept of when your ownership interest in your business is equal to less than your liabilities and debts.

Good debt vs Bad debt

So, for example, if you purchased your business’s building for $300,000 and took out a loan for $250,000 to pay for it but the value drops to $200,000, you now have negative equity. That is because the value of the building is now less than the balance owed on it.

You want to avoid negative equity as much as possible. You would not be able to sell your business for a profit if you had negative equity.

 

Types of Equity

You can have both tangible and intangible assets in your business. Tangible assets are those that you can physical touch. If you run a business that keeps an inventory of product, that inventory is a tangible asset.

An intangible asset cannot be touched but may even be more valuable than a tangible one. An intangible asset might be the reputation of your business. This can obviously bring you more customers.

Another intangible asset might be brand identity. Everyone knows, for example, that golden arches represent McDonald’s. The more recognizable your brand, the better. If customers know you, they may use you for your services or goods.

 

Importance of Equity

Equity is of the utmost importance when it comes to your business. As your owner’s equity increases as time goes on, you can potentially sell your business and turn a profit. So, if you want to eventually make a profitable business, you need to be consistently building equity in it. This means the value of your business should exceed any liabilities or debts against it.

intangible assets

Paying off any existing debts and limiting future liabilities, including taking out any loans or borrowing money against your business can help you to build and keep positive equity.

You clearly want to stay away from any chance of creating negative equity. Sometimes this is simply fueled by the economy but crawling out of negative equity can take quite a bit of time and energy. And it would mean that you would not be able to profit off of the sale of your business for quite some time.

 

Resources

Owning your own business is obviously fulfilling and exciting but it can also be exhausting. And given everything you need to know to make your business successful, it can also be confusing. Finding reliable resources to help you, similar to those provided by EquifyFinancial.com, can make all the difference.

There are a variety of resources that can help you increase your equity and can also help you work toward becoming positive again if you discover you have negative equity.

 

To start, you can also always get an accurate appraisal of your business. You may be in a better position than you think. And conversely, you might think that you have tons of equity in your business, only to find out you don’t.

You cannot remedy any issues that you don’t know you have, and you can’t improve upon existing positivity if you don’t know how much equity is in your business.

debt investor

You can learn ways to restructure your debt. This can mean paying less overall if you can find ways to limit any interest you might be paying.

While sometimes you need to take out a loan, taking one out that has a very high interest rate can mean that you are paying a good deal of money toward interest payments rather than the principle. This isn’t helping you in any way and it is basically throwing your money away.

Finding reliable resources that you can trust can make all the difference when it comes to turning a profit in your business, especially if you hope to sell it one day.

 

Wrap Up

Many business owners are also homeowners and the concept of equity is basically the same. You want to build positive equity in your business which means that the debts you owe against your business are less than the overall value of your business.

Image Source: Intangible Assets

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