The debt-to-equity ratio shows the ratio of own and borrowed funds the company uses to Finance its assets and the extent to which the Bank’s equity capital, can fulfill obligations to creditors in case of fall of business.
Very low debt to equity ratio, the lower the amount of funding for the debt through the creditors against the funding of equity capital through shareholders. A higher ratio means the company gets more financing from borrowing, which can represent a risk for the company if the debt level is too high.
To a greater extent which operations are financed by borrowed funds means greater risk of bankruptcy if business declines. Minimum payments on loans and other debts still have to be done even if, because of the economic downturn and competition, companies do not earn enough profits to meet its obligations. On a high leveraged company with a steady decline in profits can lead to financial difficulties and bankruptcy.
How to calculate the debt-to-equity ratio:
For the calculation of debt to equity, we divide the total liability of the company for the total amount of share capital, as shown below.
Example of debt to equity
We will see below that for the fiscal year ending in 2017; Apple had total liabilities of 241 billion US dollars (rounded) and the total equity capital of $134 billion in their 10K statement.
Using the above formula, the ratio of debt to equity for a company can be calculated as:
Debt to equity = $241 ÷ $134 = 1.80
The result means that Apple has $1.80 of debt for every dollar of equity. On its own, the relationship does not give investors a full picture. It is important to compare the ratio to other companies.
For example, at the end of 2017, “General motors” had a debt to equity ratio 5.03 , which was much higher than from Apple. However, two companies in different industries. Given the capital costs necessary to operate factories around the world, it makes sense that GM has a higher ratio because they are likely to have more of a commitment. When we compare the performance of the company in their industries, we get a clearer picture of how companies perform.
Debt for the fiscal year ending 2017:
- The company “Dzheneral motors” (GM) = 5.03
- The Company “Ford Motor” (F) = 6.37
- Apple. (Aapl stock) = 1.80
- Netflix Inc. (US: nflx) = 4.29
- Amazon.com Ink. (Weekly) = 3.68
We see that the ratio of debt to equity ratio GM ratio of 5.03 compared to Ford 6.37 is not as high as it was in comparison with debt in Apple shares 1.80 ratio. However, when compared to Apple as a technology company, such as Netflix and Amazon, it seems that Apple uses a lot less debt financing than the other two companies. Of course, this does not mean that the debt-to-equity ratio for Amazon and Netflix is not too high, but this may encourage investors to look at their balances at the trends over the last few years, to determine how companies use their debt to drive earnings.
Debt to equity ratio can help investors identify high-leveraged and that may pose a greater risk of financial. Investors can compare the company’s debt to equity in relation to average performance of industry and other similar companies to get a General idea of the capital of the company with limited relations.
However, it is not as simple as saying high debt to equity ratio is a sign of poor business practices. In fact, debt can be the catalyst that allows the company to expand operations and generate additional income for the company and its shareholders. In some industries, such as automobile and construction industries typically have higher rates than others, because getting started and maintaining inventory are capital-intensive. Companies with intangible goods like services online can have a lower level of ratio D/E. to Evaluate the historical attitude of the company and of similar companies in the same industry, the assessment of the financial condition.