Question

Differentiate between debt ratio and debt to equity ratio?

Answer 1

Answer-

Debt ratio = Total liabilities / Total Assets

Debt ratio is calculated by dividing total liabilities by total assets. The debt ratio is a financial leverage ratio. it evaluates the proportion of company's assets that is funded by debt ( liabilities). The higher the debt ratio the more leveraged the company. it gives the health of the company along with the risk measure. The Debt ratio varies from industry to industry. The capital intensive industries like steel. Airlines and Telecom have higher Debt ratios compared to other industries. Debt ratio is comparable across companies and with industry average gives the idea about how levered the company is with respect to peers.

Debt to equity ratio = Debt / Equity.

Debt to equity ratio is calculated by dividing total liabilities by Total shareholders equity. The total liabilities includes short term debt, long term debt and other payments. This ratio gives the proportion of debt and equity that is used in the capital structure to finance its assets. its a solvency ratio ( also known as gearing ratio) and it indicates the financial health and long term financial plans of the company. The debt equity ratio of more than 1 is not desirable.