This article was co-authored by Jill Newman, CPA. Jill Newman is a Certified Public Accountant (CPA) in Ohio with over 20 years of accounting experience. She has experience working as an accountant in public accounting firms, nonprofits, and educational institutions, and has also honed her communication skills via an MA in English, writing jobs, and as a teacher. She received her CPA from the Accountancy Board of Ohio in 1994 and has a BS in Business Administration/Accounting.
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The debt-to-equity ratio is a metric for judging the financial soundness of a company.[1] The debt-to-equity ratio shows the percentage of company financing that comes from creditors, such as from bank loans or debt, compared with the percentage that comes from investors, such as shareholders or equity. It can reflect the company's ability to sustain itself without regular cash infusions, the effectiveness of its business practices, its level of risk and stability, or a combination of all these factors. Like many other metrics, it can be expressed as a ratio or a percentage.
Steps
Gathering the Company's Financial Information
- 1Access the company's publicly available financial data. Companies that are publicly traded are required to make their financial information available to the general public. There are numerous resources online where you can access the financial statements of publicly traded companies.
- If you have a brokerage account, that's the best place to start. Almost all online brokerage services allow you to access a company's financials by simply searching for the company based on its stock symbol.
- If you don't have a brokerage account, you can still access a company's financials online at Yahoo! Finance, or on any investing website, such as MarketWatch, Morningstar, or MSN Money.[2] You can search by industry, company name, or stock symbol to find basic financial information on companies.
Determine the amount of long-term debt the company owes. This amount may be in the form of bonds, loans and lines of credit. You can find the company's debt on its balance sheet.[3]- The amount of debt is easy to find. It's listed under "Liabilities."
- The total amount of debt is the same as the company's total liabilities. You don't need to worry about individual line items within the liabilities section.
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Determine the amount of equity a company has. As with liabilities, this information is located on the balance sheet.- The company's equity is usually located on the bottom of the balance sheet. It's called "Owner's Equity" or "Shareholder's Equity."
- You can ignore the specific line items within the equity section. All you need is the total liabilities.
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Calculating the Company's Debt/Equity Ratio
Express debt-to-equity as a ratio by reducing the two values to their lowest common denominator. For example, a company with $1 million in liabilities and $2 million in equity would have a ratio of 1:2. This would indicate $1 of creditor investment for every $2 of shareholder investment.
Express debt-to-equity as a percentage by dividing total debt by total equity and multiplying by 100. For example, a company with $1 million in liabilities and $2 million in equity would have a ratio of 50 percent. This would indicate $1 of creditor investment for every $2 of shareholder investment.
Compare debt-to-equity ratios. You can compare the debt-to-equity ratio for the company you're researching to that of other companies you're considering. In general, healthy companies have a debt-to-equity ratio close to 1:1, or 100 percent. When there is a 1:1 ratio, it means that creditors and investors have an equal stake in the business assets. A high debt-to-equity-ratio is usually considered more unstable than a low one because it indicates that investors have been unwilling to help fund the business. This may mean that the company was forced to take on additional debt, which it may have trouble paying back.- Keep in mind that each industry has different debt-to-equity ratio benchmarks. This is because some industries use more debt financing than others.
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Expert Q&A
- QuestionHow do I calculate the quasi equity ratio?
Jill Newman, CPAJill Newman is a Certified Public Accountant (CPA) in Ohio with over 20 years of accounting experience. She has experience working as an accountant in public accounting firms, nonprofits, and educational institutions, and has also honed her communication skills via an MA in English, writing jobs, and as a teacher. She received her CPA from the Accountancy Board of Ohio in 1994 and has a BS in Business Administration/Accounting.
Financial AdvisorQuasi-equity is a form of debt that has some traits similar to equity, such as flexible payment options and being unsecured, or having no collateral. This debt would be used, rather than total debt, to calculate the ratio.
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Tips
- Debt-to-equity is just one of many metrics that gauge the health of a company. Some other metrics to examine include share price/earnings, share price/sales, gross margin, and operating margin.[4]Thanks
Warnings
- Investing and corporate analysis are complex subjects with real risk of loss for people who choose to invest. If you're using your own money, especially money you can't afford to lose, it's a good idea to get help from an experienced professional the first few times you want to analyze debt-to-equity ratios.Thanks
References
About this article
To calculate debt to equity ratio, first determine the amount of long-term debt the company owes, which may be in the form of bonds, loans, or lines of credit. Next, figure out how much equity the company has. Finally, express the debt-to-equity as a ratio. You’ll want to reduce the 2 values to their lowest common denominator to make this simpler. For example, a company with $1 million in liabilities and $2 million in equity would have a ratio of 1 to 2, or 50 percent. For more tips from our Accountant co-author, including how to determine if a company’s debt-to-equity ratio is healthy, keep reading!
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