Calculating Leverage Ratios

October 5, 2017 Finance, Resources Comments (0) 62

Leverage Ratios indicate long-term solvency of a business and highlight the extent to which long-term debt is used to support the business.

These ratios include:

DEBT-TO-EQUITY RATIO

The Debt-to-Equity Ratio measures how much debt is used to run a business and further highlights how much debt the business has for every dollar of equity. The formula is as follows:

Debt-to-Equity Ratio = Total Liabilities/Shareholders Equity

In most cases, investors would want to this ratio to hover around 1.0 or slightly less.  Higher ratios suggest the company may be in financial distress, while lower number suggests the company is relying on equity financing which may be too costly and inefficient for the business.

 

DEBT-TO-ASSET RATIO

The Debt-to-Asset Ratio measures the percentage of a business’s assets that are financed by creditors. The formula is as follows:

Debt-to-Asset Ratio = Short-Term Debt + Long-Term Debt/Total Assets

Most investors and lenders see a lower ratio as a good indicator to repay debt and take on new debt for new opportunities; a higher ratio might suggest financial weakness.

While these formulas are straightforward, I have created a spreadsheet calculator for readers to use an explore. If you’re interested, you can download the Leverage Ratio Calculator using the button below. If you would like to learn more about Financial Ratios and how they may be used, read the post, Financial Ratio Analysis and the Entrepreneur.

 

 

 

A few notes on this calculator:

  • This calculator is an example and is for use as is. It is not supported in any way. It is not intended to be a tool to use without customization based on the specifics of an entrepreneurial venture and its unique financial statements.
  • This calculator is only an example to give the reader an idea of how such a tool can be developed. The numbers within are not based on a real business. I compiled this as an offshoot of work in a graduate class, but I have created developed similar models for entrepreneurial ventures. Each business venture is different, and so is the ratios used and considered for that enterprise.
  • Financial Ratio calculations are done annually using actual numbers. This model can be used in that way. It can also be used to calculate and review ratios monthly. Monthly numbers would allow the reader to track improvements over time.
  • All of the “Bold Blue” text areas can be changed to demonstrate how the interactivity might work. No other data can be changed.
  • Formulas can be seen in each of the cells (mouse over it), but only the values in the “Bold Blue” text area can be changed.
  • By downloading you acknowledge this is for personal use only. It is not to be sold or distributed in any way.

 

Reference

Rogers, S. (2014). Entrepreneurial Finance: Finance and Business Strategies for the Serious Entrepreneur. New York: McGraw Hill Education.

David Harkins is a serial entrepreneur, which is a more professional way of saying he is still trying to figure out what he wants to be when he grows up.
When not working for himself, he has had a fulfilling career in marketing, advising both large and small companies including several in the Fortune 500 and many of America’s largest nonprofit organizations. In his spare time, he consults, speaks, writes, hikes, explores, and creates art. Although, not necessarily in that order. Connect with him on social media below:

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Calculating Leverage Ratios

by David Harkins time to read: 2 min
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