Shareholder’s equity represents the portion of the assets that have been funded by equity as opposed to liabilities / debt. It also acts as an “odometer” of all the net income a company has earned / accumulated. Some sources of equity investment include:
- Original investment by the founder(s) to start the business
- Additional funds invested by management
- Investments from venture capital or private equity
- Equity capital raised from the stock market, either through IPOs or secondary offerings
Any net income that is made every year is added into shareholder’s equity.
Also, any dividends will be deducted from shareholder’s equity, since they represent an outflow of cash from the company to the shareholders.
Note that the impact of equity investments on shareholder’s equity is always recorded at book value. In other words, it is recorded at the value of the initial investment. For example, if the company issues 1,000 shares at $10 / share to raise $10,000, which is recorded on the balance sheet. It does not matter if the stock price has risen to $20 / share. On the balance sheet, the company will still have $10,000 of stock, regardless of the fluctuations in market price.