Debt ratio is a key figure that shows the relationship between a company’s total debt and its equity. It is a central measure of how much of the company’s financing comes from debt compared with equity.
Formula
The debt ratio is typically calculated like this:
Debt ratio = Total debt / Equity
Interpretation
- A low debt-to-equity ratio (close to 0) indicates that the company is primarily financed by equity and therefore has a more robust capital structure.
- A high debt-to-equity ratio shows that the company is highly dependent on loans and creditors. This can increase risk, but can also enable higher returns if the debt is used effectively.
Example
If a company has DKK 2 million in debt and DKK 1 million in equity:
Debt ratio = 2,000,000 / 1,000,000 = 2.0
This means that the company has twice as much debt as equity.
Use
The debt ratio is used by investors, banks and other stakeholders to assess a company’s financial risk. An appropriate debt-to-equity ratio depends on the industry and type of business - capital-intensive industries such as manufacturing and transport often have higher debt than service companies.