Debt Ratio
IntermediateThe debt ratio is a company's total liabilities, or sometimes total debt, divided by its total assets, showing what share of its assets is financed by obligations to others rather than by owners.
The debt ratio gives a simple picture of how much a company relies on borrowing and other liabilities to fund its assets.
For example, a company with total liabilities of 900,000 and total assets of 1.5 million has a debt ratio of 0.6, or 60%. This means 60% of its assets are financed by creditors and 40% by shareholders' equity.
Some analysts use only interest-bearing debt in the numerator, leaving out items such as supplier payables and deferred revenue. Checking which definition is used is important when comparing figures.
A higher debt ratio means more financial risk. If the value of assets falls, a company with a high debt ratio has less equity to absorb losses. It also usually has higher interest costs, which can strain profits when business slows.
Acceptable debt ratios vary by industry. Utilities and property companies, with stable cash flows and long-lived assets, often operate with high ratios, while technology companies typically have low ones. Lenders often include limits based on similar ratios in loan agreements.
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