Debt To Equity
Debt-to-equity ratio measures a company's financial leverage by comparing total liabilities to shareholders' equity. Higher ratios indicate more debt financing relative to equity. It helps assess financial risk and a company's ability to handle economic downturns.
Understanding the Concept
• Formula: Total Debt / Shareholders' Equity • Higher ratio = more leveraged = higher risk • Industry norms vary (utilities high, tech low) • Too high can mean trouble in downturns; too low can mean inefficient capital use
Real-World Example
Company A has $200M debt and $400M equity (D/E = 0.5). Company B has $300M debt and $200M equity (D/E = 1.5). Company B is more leveraged, which amplifies both gains and losses. In a recession, Company B faces higher bankruptcy risk because it must service more debt.
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