Common debt ratios include debt-equity, debt-assets, long-term debt-assets, and leverage and leverage ratios. The debt ratio is calculated by dividing total debt by total assets. A high proportion implies that assets are financed primarily with debt, rather than equity, and is considered a risky approach to financing. The debt ratio, which means a measure of a company's financial stability, is a common assessment for any investment that requires a loan.
The lower the company's dependence on debt for asset formation, the less risky the company will be. On the other hand, the higher ratio means that a company has a high risk of insolvency, since excessive debt can lead to a heavy debt repayment burden. Financial leverage ratios usually compare a company's debts to its assets. Common examples of financial leverage ratios include debt ratio, interest coverage ratio, capitalization ratio, debt-to-equity ratio, and fixed asset-to-equity ratio.
Since this ratio is calculated annually, a decrease in the ratio would indicate that the company is performing well and is less dependent on debt for its business needs. In simple words, it is a method used to quantify and analyze a company's ability to pay its debts. A company with a larger amount of debt and financial obligations is more likely to fail to pay its debts. More debt also usually means that the company has less cash available to pay its suppliers and for general operations, since it has to cover its interest expenses.
The debt-to-equity ratio, for example, is closely related and more common than the debt ratio, instead, it uses total liabilities as a numerator. This means that 46.72% of the company's capital structure is debt and the rest is provided by investors' capital. The gross debt ratio is defined as the ratio of monthly housing costs (including mortgage payments, homeowners insurance, and property costs) to monthly income, while the total debt service ratio is the ratio of monthly housing costs plus other debts, such as car payments and credit card loans, and monthly income loans. On the other hand, if the company's debt ratios are low, then the interest earned over time ratio would be high, since it would be easier to cover the company's interest expenses.
The debt ratio gives users a quick measure of how much debt the company has on its balance sheets compared to its assets. Financial data providers calculate it using only long-term and short-term debt (including current parts of long-term debt), excluding liabilities such as accounts payable, negative goodwill, and others. In general, if a company has high debt ratios, then the accrued interest ratio is usually low, since it would be more difficult to pay its interest expenses if it has a lot of debt. The debt service coverage rate is calculated by dividing the total net annual operating income by the total annual debt payments.
You can also tell accountants, analysts, investors, lenders, and finance managers how your company uses leverage. This reflects a certain ambiguity between the terms debt and liability that depends on the circumstance. Capital-intensive companies, such as utilities and pipelines, tend to have much higher debt ratios than others, such as the technology sector.