What is Net Worth? How to Calculate Net Worth? | Explained in Simple Way
Many of you may have been puzzled by a term “Net Worth” which occurs again and again in case of rich people’s earning. So, if you wanted to know who is the richest person in the world and when you type it in Google then it returns result full with terms like “Net Worth”. In short, to determine how rich a person is, we use “Net Worth”.
Those who belong to finance background can easily understand and even they have learnt about it in their college years. But for those folks who belong to science and technology background, it sounds new and unheard of. Iam going to explain it in simple way and also give you examples to make it simpler and in short I will try to make this article simplest!
Definition of Net Worth
One of the popular sites Investopedia.com defines it as:
The amount by which assets exceed liabilities. It is a concept applicable to individuals and businesses as a key measure of how much an entity is worth.
It is hard to understand terms like ‘liabilities’.
Example on Net Worth
Let us say that Carlos Slim Helu (richest person in the world) owns a house which is worth $50,000. He has got nothing apart from his house. So, we will say that his house is an asset. So, he owns only one asset on planet Earth which is worth $50,000.
Apart from owning the house, Carlos has taken a loan which is worth $10,000 from a bank. In the language of Finance, he has got a liability. It means he owes $10,000 to the bank.
Total Net Worth of Carlos Slim = Assets – Liabilities
= House – Loan
= $50,000 – $10,000
In short, if you want to calculate your own Net Worth then first list down cost of the things which you own. After that, subtract your debt or any other loan which you have taken. The result which you get is your Net Worth.
Note: We have taken the above name randomly. In actual, Carlos is the richest person in the world with a worth equal to $69 Billions.
What exactly Bill Gates Net Worth or Mukesh Ambani’s Net Worth means?
Now I am going to explain you how rich people have such huge worth. I assume that you know a little bit about share market, joint stock company and share market price. I am little skeptical about your knowledge on this.
A company or an industry or any other firm which is owned by many people is called as Joint Stock Company. Ownership of it is called as shares and shares come with a price.
Example: Let us say that you plan to start a cold-drink company and you don’t have much money with you. For setting it up, you need machines and land. And if you go to buy machines and land then it will cost you $1000. (Its just an assumption to make you understand). You don’t have $1000 with you but you have got an idea of setting that cold-drink company. Also, you are sure that the company which you will run is going to make good profits. Now, what will you do? You need money and so you will approach a bank. What happens is the bank refuses to give even a single buck.
What will you do now? You have got two options. First is to go home and sleep and drop the idea. Second is to look for some person and convince them for $1000. What will the person get for investing $1000 in your cold-drink company. Obviously, you will say the person, “I am going to give you 50% of the profits.” The person agrees by seeing the potential in your idea of cold-drink company.
He gives you $1000 and you purchase machines and land and open your company and sell products. One year late you made $500 in profits of which you got $250 and you partner also the same. Now, you need $1 million to make the company big. In this case, you will approach a stock market and ask them to list their company on Stock Exchange so that other people can invest in your company. You divide ownership of company in 100 parts. And you and your partner keep 20 parts (10 parts each) and sell the remaining 80 parts on stock market. This is called as Initial Public Offering.
Luck was on your side and each part was sold for $200,000 and in total for selling 80 parts you generated $16,000,000. Don’t forget that for each part the cost was $200,000. And you still own 10 parts and your partner owns 10 parts. In this case, we will calculate your Net Worth since you own 10 parts of company. 10 parts carry market price f $2,000,000. Hence, we say that your Net Worth is $2 million!