Debt to Equity Ratio
The Debt to Equity Ratio is the second leverage ratio on our list. The Debt to Equity Ratio is best used a strategy measure in that it measures the level of leverage within a business.
This ratio reflects how aggressive the business has been in its debt policy. It measures the use of debt to finance the business against the use of stockholder equity to finance the business.
It is termed ‘aggressive’ as a business may use outside debt finance to ‘leverage’ or ‘speed up’ their growth instead of relying upon stockholders & retained earnings (equity) to finance future growth of the business.
The idea behind leverage is that it ‘levers’ the results of the business. In others words, it allows the business to operate on a scale beyond what the owners or the business itself have financed. The business can use creditors to lever the business to achieve better results than would otherwise be possible.
However, leverage is a double-edged sword, while if the business is successful in using the borrowed funds it can distribute greater benefits to the same number of owners, if the business is not successful in using the borrowed funds the leverage will also lever the losses and make the losses bigger than they would have been without the leverage.
Further, with credit (unlike stockholder funds) if the business cannot provide a return to the creditors (i.e. service the debt) then the business may go into bankruptcy.
The result is expressed as a percentage: A figure of 34% means that for every dollar of stockholder funds (equity) there are 34 cents of liabilities.Expressed another way, for all assets that have been funded in the business by either debt or equity (the two ways to fund a business), the proportion of debt is 34% to the level of equity.
Debt to Equity Ratio Formula
Liabilities / Assets
Debt to Equity Ratio Calculator
The calculator asks for:
Liabilities, which is found on the balance sheet.
Equity, which is also found on the balance sheet.
Want to know more about the Ratios used in the S&P500 stock calculations, including all formulas?
Check out their individual ratio pages via the main menu for Descriptions, Calculators & Formulas
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