Lexicon

Significance of equity

Equity plays a decisive role in many contexts:

Financial stability: A high equity ratio is considered a sign of financial strength, as the company is less dependent on external capital (e.g. bank loans).

Creditworthiness: Banks and investors often evaluate companies based on their equity ratio – the ratio of equity to total capital. A high value improves creditworthiness.

Risk buffer: In the event of economic difficulties, losses are initially covered by equity before lenders are affected.

What does equity consist of?

Equity consists of various balance sheet components that reflect both the funds contributed by the owners and the profits retained by the company. Examples include:

Shareholders’ capital shares:
The share capital contributed by the shareholders at the time of formation or a capital increase.

Retained earnings:
Profits retained from previous financial years that remain in the company to finance investments or cushion future losses.

Net profit or net loss for the year:
The profit or loss for the current financial year is added to or deducted from equity and reflects the current business performance.

These components provide a comprehensive overview of how much capital the owners have contributed, what funds remain in the company and how profits are used.

Equity in the context of the balance sheet

In the balance sheet, equity is reported on the liabilities side, alongside borrowed capital. It shows how the company’s assets are financed – through the owners’ own funds or through obligations to third parties.

A high equity ratio strengthens a company’s economic resilience, as more of its own funds are available to cover risks. A low equity ratio, on the other hand, indicates a higher dependence on debt and potentially greater risks.

Important equity ratios

The following ratios are particularly relevant for assessing the financial stability and structure of a company:

Equity ratio:
Equity / Total capital × 100
Measures the proportion of equity in relation to total capital. A higher ratio indicates greater independence from borrowed capital.

Debt-to-equity ratio:
Debt / Equity
Shows the ratio of debt to equity. A low value indicates low indebtedness.

Return on equity (ROE):
Net income / Equity × 100
Measures the profitability of equity and indicates how efficiently the owners’ funds are being used.

Conclusion

Equity (patrimonio netto) is a key indicator of a company’s financial health. It shows what proportion of the assets belong to the owners, how stable the financing structure is and how efficiently the capital is being used. Key figures such as the equity ratio, debt ratio and ROE provide entrepreneurs and investors with valuable information for decision-making in the areas of financing, investment and risk management.