Table of contentsWhat is the debt to equity ratio?Debt to equity ratio formulaHow to calculate the debt to equity ratio?How to calculate stockholders' equity?
This debt to equity calculator helps you to calculate the debt-to-equity ratio, otherwise known as the D/E ratio. This metric weighs the overall debt against the stockholders' equity and indicates the level of risk in financing your company.
This article will explain basic terms and calculation methods, such as: * The debt-to-equity ratio formula;
- Stockholders' equity equation; and
- How to calculate the debt-to-equity ratio based on an easy-to-follow example.
Do you wish to take a look at other leverage ratios? We have the debt to asset ratio calculator (especially useful for companies) and the debt to income ratio calculator (used for personal financial purposes).
What is the debt to equity ratio?
The D/E ratio illustrates the proportion between debt and equity in a given company. In other words, the debt-to-equity ratio shows how much debt, relative to stockholders' equity, is used to finance the company's assets.
Analyzing the debt-to-equity ratio lets us notice some essential aspects of the condition of your business, as well as the operating style. If the D/E ratio is high, the company uses leverage extensively; it means that they decide to fund their operations mostly by debt, which is typically associated with high levels of risk. To learn more about risk, visit our risk calculator.
Naturally, a high leverage ratio has its benefits. Companies with a high D/E ratio can generate more earnings and grow faster than they would without this additional source of funds. However, if the cost of debt interest on financing turns out to be higher than the returns, the situation can become unstable and lead, in extreme cases, to bankruptcy. To learn more about bankruptcy, visit our altman z-score calculator.
A lower debt-to-equity ratio means that investors (stockholders) fund more of the company's assets than creditors (e.g., bank loans) do. It is usually preferred by prospective investors because a low D/E ratio usually indicates a financially stable, well-performing business.
Determining whether a debt-to-equity ratio is high or low can be tricky, as it heavily depends on the industry. In some industries that are capital-intensive, such as oil and gas, a "normal" D/E ratio can be as high as 2.0, whereas other sectors would consider 0.7 as an extremely high leverage ratio.
Debt to equity ratio formula
If you want to calculate the debt-to-equity ratio, you need to check the balance sheet of your company and find the following two elements:
- Total liabilities - a sum of short-term debt, long-term debt, and other financial obligations.
- Stockholders' equity - represents the company's book value. This metric can be found by subtracting liabilities from the sum of a company's assets.
We have shown the debt-to-equity ratio formula below:
debt to equity ratio = total liabilities / stockholders' equity
This ratio is typically shown as a number, for instance, 1.5 or 0.65. If you want to express it as a percentage, you must multiply the result by 100%.
How to calculate the debt to equity ratio?
Let's consider two companies with the following parameters:
- Total liabilities: $850M; and
- Stockholders' equity: $375M.
- Total liabilities: $42.5M; and
- Stockholders' equity: $126M.
To calculate the debt-to-equity ratio, simply divide the liabilities by equity:
Company A: $850M /$375M = 2.27 = 227%
Company B: $42.5M / $126M = 0.337 or 33.7%
As you can see, company A has a high D/E ratio, which implies an aggressive and risky funding style. Company B is more financially stable but cannot reach the same levels of ROE (return on equity) as company A in the case of success. To learn more about ROE, visit our return on equity calculator.
How to calculate stockholders' equity?
You may come across a balance sheet that doesn't explicitly state the stockholder's equity. In such a case, you should use the stockholders' equity equation to determine the missing value:
stockholders' equity = total assets - total liabilities.
For example, company C has $146M of assets that are partially covered by debt - their liabilities are at an estimated level of $83M. To find the D/E ratio, follow the steps below:
- Use the stockholders' equity equation:
stockholders' equity = $146M - $83M = $63M.
- Input the result into the debt-to-equity ratio formula:
debt to equity ratio = $83M / $63M = 1.32 = 132%.
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