What is a company's equity?

Did you think that corporate finance was a complex and particularly technical discipline? Think again! A few essential concepts are easily accessible to enable all entrepreneurs to create their project.

Shareholders' equity is an essential component of a company's balance sheet, and appears in the first category of its liabilities. In simple terms, it refers to all the capital contributed by associates or shareholders when the company was created, plus retained earnings at the end of each accounting period.

Let's find out all you need to know about this key concept in corporate finance.

What is a company's equity?

Also known as "shareholders' equity", equity is a key accounting and financial concept.

They appear on the liabilities side of a company's balance sheet. Liabilities refer to all resources used to finance the assets held on the balance sheet. In other words, they are the resources contributed by capital providers: shareholders (via equity) or creditors (via debt).

Under liabilities, shareholders' equity therefore refers to all funds owed by the company to its shareholders.

Shareholders' equity comprises the following items :

• Le share capitalprovided when the company is created by its shareholders or associates
• Reserves, which are set aside from retained earnings at the end of an accounting period. There are several types of reserve, such as legal, environmental or restructuring reserves.
• Retained earnings, regularly assimilated to a form of additional reserves, also designate a portion of retained earnings.
• Net income for the year (i.e. profits) realized at the end of an accounting period.

How do you know the value of a company's equity?

Having listed the various components of shareholders' equity, here's how to value them. Nothing could be simpler: simply add up the values of the elements described above.

The value of shareholders' equity is therefore as follows: share capital + reserves + retained earnings + net income for the year.

What to do if the value of shareholders' equity falls?

A company is generally considered to be sufficiently capitalized when its total equity exceeds half the value of its share capital.

It is possible to have negative equity. This is a sign of great economic fragility. In both cases, a shareholders' meeting must be called within 4 months of approval of the accounts. It may vote to dissolve the company, or to carry out a capital increase within 2 years.

To recapitalize the company, a capital increase can be carried out through a contribution of funds from shareholders or associates.

It is therefore preferable to reduce the share of profits distributed in the form of dividends, and incorporate them into retained earnings, thereby increasing the value of shareholders' equity. It should be remembered that the distribution of dividends is prohibited if it causes shareholders' equity to fall below the amount of share capital and reserves.

The value of a company's equity must therefore be the focus of careful attention by its management, in order to ensure its long-term survival.

This is also an important point to scrutinize when changing a company's legal status. For example, a statutory auditor appointed by the company must certify that shareholders' equity is at least equal to the value of the share capital in the event of a transformation from SARL to SAS.