Equity

In a company

Equity in a corporate context is the residual claim after all liabilities. On the balance sheet:

Equity = Assets − Liabilities

This is what the book value measures. The components of equity typically include:

• Common stock — par value of issued shares.
• Additional paid-in capital — amount above par paid by shareholders at issuance.
• Retained earnings — accumulated profits not paid as dividends.
• Treasury stock — shares the company has bought back (a contra-equity account).
• Accumulated other comprehensive income — certain unrealized gains and losses.

For a company with $1B in assets and $400M in liabilities, equity is $600M. Divided by shares outstanding gives book value per share.

In a home

For homeowners, equity is the difference between current home value and outstanding mortgage balance:

Home Equity = Home Value − Mortgage Balance

A $500K home with a $300K mortgage has $200K of equity. Home equity grows three ways: paying down the mortgage principal, the home's value appreciating, or both.

Home equity is typically the largest single asset for middle-class US households. It can be tapped through:

• HELOCs — revolving lines of credit secured by the home.
• Home equity loans — lump-sum loans at fixed rates.
• Cash-out refinancing — replacing the mortgage with a larger one and taking the difference in cash.
• Reverse mortgages — for homeowners 62+, converting home equity to income.
• Selling the home — realizing the equity through a transaction.

In ownership generally

The same concept generalizes — equity is the residual ownership stake after all senior claims:

• Stockholders' equity in a public company.
• Owner's equity in a sole proprietorship.
• Partners' equity in a partnership.
• LP/GP equity in private equity funds and venture capital partnerships.
• Holder's equity in tokens — though this stretches the meaning since most tokens don't carry direct legal claims.

In all cases, equity holders are last in line in bankruptcy (after creditors and preferred holders) but capture all the upside above what's owed to senior claimants.

Why equity matters

The fundamental tension between equity and debt:

• Debt is fixed obligation. Senior claim. Lower expected return. Lower volatility.
• Equity is residual claim. Junior position. Higher expected return. Higher volatility.

Capital structure decisions for businesses, individuals, and funds all involve trading off how much risk to absorb (more equity, less debt) vs. how much to amplify potential returns (more debt, less equity, more leverage).

The historical equity-risk premium — the excess return of stocks over Treasuries — has been roughly 4-6% per year for the US over very long periods, compensating for the additional risk equity holders take on.

Equity in employee compensation

A separate use of "equity" — ownership stakes given to employees as part of compensation:

• Stock options — right to buy company stock at a fixed price; valuable if stock appreciates.
• RSUs (Restricted Stock Units) — actual shares awarded over a vesting period.
• ESOPs (Employee Stock Ownership Plans) — broader employee ownership programs.

For employees of high-growth companies, equity compensation can dominate cash compensation in good outcomes. The trade-off: equity is illiquid until vested and (typically) until the company is acquired or goes public; concentration risk if the equity is in your employer's stock; tax complexities at vesting and sale.

Equity vs. fairness

The word "equity" also appears in non-financial contexts (social equity, gender equity) where it means fairness or equality. The financial meaning is unrelated — it derives from the older legal concept of equitable claims, which is closer to "what's fair for the residual claim-holder" than to "equality."

The shared root reflects a common idea: equity in finance is what's left for the people whose claims aren't formally specified, after the formal claims are honored.