Equity
Equity is the owners' residual claim on a business — what would be left for shareholders if every asset were realised and every liability settled. Measured as assets minus liabilities, it appears as shareholders' funds on the balance sheet. It matters because it shows how much of the business truly belongs to its owners and how much wealth the business has built up over time.
What Is Equity?
Equity is the balancing figure of the accounting equation: assets financed by liabilities on one side and by owners on the other. When owners put in cash, or when the business earns profit and retains it, it rises; when losses are made or dividends paid, it falls. It is not a pile of cash sitting somewhere — it is a claim, a measure of the owners' stake that moves with the fortunes of the business.
A Bengaluru private limited company meets it the moment it issues shares and again every year when profit is carried to reserves. Investors weigh it before putting money in, and lenders look at the debt-to-equity mix to judge how much cushion the owners have provided. A thin base against heavy borrowing signals risk; a strong one signals a business funding growth from its own retained earnings.
What Goes Into Equity
On a company balance sheet, shareholders' funds are made up of a few defined line items:
- Share capital — The face value of shares issued to owners — the base contribution.
- Reserves and surplus — Retained profits, securities premium and general reserve built up over the years.
- Money against share warrants — Amounts received where shares are yet to be allotted.
- Other comprehensive income (Ind AS) — Gains and losses routed outside profit, such as certain revaluations, for Ind AS companies.
- Excluded — outside claims — Loans, payables and provisions are liabilities, not equity, and are deliberately kept out.
How Equity Works in the Books
Shareholders' funds are built and moved through the books along a clear path:
- 1Owners contribute funds
Share application money is received; on allotment the share capital account is credited.
- 2Profit is earned
The year's profit is transferred from the profit and loss account to reserves and surplus.
- 3Appropriations are made
Dividends or transfers to general reserve are recorded, adjusting retained earnings.
- 4Statement of changes in equity (Ind AS)
Ind AS companies reconcile opening to closing equity in a dedicated statement.
- 5Present shareholders' funds
The closing balances appear under shareholders' funds on the balance sheet, completing the equation.
Equity: A Practical Example
| Particulars | Amount (INR) | Treatment |
|---|---|---|
| Share capital (issued) | 20,00,000 | Owners' base contribution |
| Securities premium | 5,00,000 | Reserves and surplus |
| Retained earnings | 18,00,000 | Accumulated profits kept in the business |
| Total equity | 43,00,000 | Assets minus liabilities |
A Bengaluru software company issued ₹20,00,000 of share capital, raised ₹5,00,000 as securities premium and has retained ₹18,00,000 of profit over five years, giving total equity of ₹43,00,000. If total assets are ₹73,00,000, then liabilities must be ₹30,00,000 — because that is simply what remains for the owners after every outside claim is met. The growing retained earnings show a business funding itself.
Treating a director's loan as capital: Showing a repayable loan inside owners' funds overstates the stake → classify it as a liability.
Equity Under Indian Accounting Rules
For companies on Accounting Standards, Schedule III Division I of the Companies Act 2013 presents equity as 'Shareholders' Funds', comprising share capital, reserves and surplus, and money received against share warrants. Companies on Ind AS follow Schedule III Division II and must additionally prepare a Statement of Changes in Equity, a requirement of Ind AS 1 that does not apply under Division I. Share capital itself is governed by the capital provisions of the Act.
- Schedule III Division I — Presents it as Shareholders' Funds for AS companies; no separate SOCIE required.
- Schedule III Division II + Ind AS 1 — Requires a Statement of Changes in Equity for Ind AS companies.
- Companies Act 2013 — Governs issue and alteration of share capital that forms the base of shareholders' funds.
Common Mistakes With Equity
Shareholders' funds are misstated when contributions and profits are confused with other items:
- Treating a director's loan as capital — Showing a repayable loan inside owners' funds overstates the stake → classify it as a liability.
- Forgetting to route profit to reserves — Leaving profit in a suspense account understates the total → transfer the year's profit to reserves and surplus.
- Mixing securities premium with capital — Merging premium into share capital breaches Schedule III → show securities premium under reserves.
- Ignoring the SOCIE under Ind AS — Omitting the Statement of Changes in Equity fails Ind AS 1 → prepare it for Ind AS entities.
Equity is the owners' residual claim on a business — what would be left for shareholders if every asset were realised and every liability settled. Measured as assets minus liabilities, it appears as shareholders' funds on the balance sheet. It matters because it shows how much of the business truly belongs to its owners and how much wealth the business has built up over time.
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Applicable framework: Companies Act 2013 (Schedule III Div I & II), Ind AS 1 (Statement of Changes in Equity). For general information only, not professional advice. Verify the current position for your entity before acting.