Equity and Types of Assets Companies Own
Equity refers to security or stocks and shows the value of assets or an ownership interest. It is calculated by adding the company’s retained losses or earnings and the money contributed by shareholders. All companies have assets and liabilities and when their outstanding obligations exceed their assets, we can speak of negative equity.
Types of Assets
The shareholders’ equity includes different types of assets, including reserve, stock options, treasury stock, and retained earnings. It also includes capital surplus and preferred and common stock. Capital surplus refers to shares that are traded above par value. It is also known as additional paid-in capital, paid-in surplus, and acquired surplus. There are different ways in which businesses acquire capital surplus. Mergers and acquisitions and buying shares back and selling them above par value are three ways. Donated stock is another way of ending with a surplus. Preferred stock is another class of ownership that carries a dividend but no voting rights. While it is subordinate to bonds, preferred stock has priority over common shares. The latter is another form of ownership, also known as ordinary and voting shares. The difference between common and preferred stock is that holders of preferred shares are paid out dividends first. In case of bankruptcy or default, the funds are divided among creditors, bondholders, and preferred stockholders. Holders of common stock are paid after that. The main benefit of holding common shares is that they usually outperform bonds and preferred shares in the long term. The retained earnings are also part of the shareholders’ equity. These are net earnings that are used to pay off outstanding balances or to invest and expand operations. Thus, they are not paid out in the form of dividends. Retained earnings are calculated by adding them from a previous period to net income. Dividends distributed among stockholders and any net losses are subtracted. Businesses usually use their retained earnings to buy equipment and machinery, plants, and vehicles that will help them to create new growth opportunities.
Treasury stock and stock options are other types of assets that companies have. The former carries no voting rights and does not pay dividends. Also known as reacquired stock, it comes from the buyback of shares by the issuing business. The repurchasing of stocks has tax benefits and is used in cases of takeover threats. Stock options provide tax benefits and are offered to company employees. Also called ISOs, it is required that stocks are held over an extended period to take advantage of preferential tax treatment. Finally, companies also have reserve funds which are also part of the equity. Companies use different sources of funding to create reserves, including share premiums and legal reserve funds. Share premiums are used to write off underwriting costs such as equity expenses and to distribute bonus shares. Legal reserve funds are paid in the form of a portion of the share capital and represent a minimum amount to be kept as security. In addition, there are translation and remuneration reserves, the latter of which are kept to pay bonuses to CEO, employees, and workers. A translation or foreign currency translation reserve includes translation losses and gains that are due to the consolidation or merger of businesses that have different reporting currencies.
Other Types of Equity
In addition to these types, there are other uses of the term, including private, home, and stock equity. Home equity refers to the difference between the outstanding balance on a loan and the property’s market value. This is the value of a real estate property that is built over a certain period of time. The borrower makes monthly payments to reduce the outstanding balance, and the property increases in value. For many investors and homeowners, this is the main source of net worth. The house can be used as collateral when applying for a HELOC, home equity loan, or another type of secured debt. A home equity line of credit, for example, is a second mortgage that is offered by banks and other creditors. The interest charges are tax deductible in some cases. The money is used to pay medical bills, make home improvements, pay education expenses, and for major purchases. Private equity is another term used for capital that is not listed on the stock exchanges. Equity investments are made by entities such angel investors, venture capital companies, and other parties. The goal is to facilitate expansion, reorganize the company’s operations, and restructure its ownership and management.
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