Debt Ratio


DEFINITION of 'Debt Ratio'

A financial ratio that measures the extent of a company’s or consumer’s leverage. The debt ratio is defined as the ratio of total – long-term and short-term – debt to total assets, expressed as a decimal or percentage. It can be interpreted as the proportion of a company’s assets that are financed by debt.

Also referred to as the debt-to-assets ratio.


Loading the player...


The higher this ratio, the more leveraged the company is, implying greater financial risk. At the same time, leverage is an important tool that companies use to grow, and many businesses find sustainable uses for debt. 

Debt ratios vary widely across industries, with capital-intensive businesses such as utilities and pipelines having much higher debt ratios than other industries like technology. For example, if a company has total assets of $100 million and total debt of $30 million, its debt ratio is 30% or 0.30. Is this company in a better financial situation than one with a debt ratio of 40%? The answer depends on the industry.

A debt ratio of 30% may be too high for an industry with volatile cash flows, in which most businesses take on little debt. A company with a high debt ratio relative to its peers would probably find it expensive to borrow and could find itself in a crunch if circumstances change. The fracking​ industry, for example, experienced tough times beginning in the summer of 2014, brought on by high levels of debt and plummeting energy prices.

Conversely, a debt level of 40% may be easily manageable for a company in a sector such as utilities, where cash flows are stable and higher debt ratios are the norm.

A debt ratio of greater than 100% tells you that a company has more debt than assets. Meanwhile, a debt ratio of less than 100% indicates that a company has more assets than debt. Used in conjunction with other measures of financial health, the debt ratio can help investors determine a company's risk level.

Some sources define the debt ratio as total liabilities divided by total assets. This reflects a certain ambiguity between the terms "debt" and "liabilities" that depends on the circumstance. The debt-to-equity ratio, for example, is closely related to and more common than the debt ratio, but uses total liabilities in the numerator. In the case of the debt ratio, financial data providers calculate it using only long-term and short-term debt (including current portions of long-term debt), excluding liabilities such as accounts payable, negative goodwill and "other." The debt ratio is often called the "debt-to-assets ratio."

Let's look at a few examples from different industries to contextualize the debt ratio. Starbucks Corp. (SBUX) listed $549,800,000 in short-term and current portion of long-term debt on its balance sheet for the quarter ending June 28, 2015, and $2,347,400,000 in long-term debt. The company's total assets were $12,868,800,000. This gives us a debt ratio of (549,800,000 + 2,347,400,000) ÷ 12,868,800,000 = 0.2251, or 22.51%.

To assess whether this is high, we should consider the capital expenditures that go into opening a Starbucks: leasing commercial space, renovating it to fit a certain layout, and purchasing expensive specialty equipment, much of which is used infrequently. The company must also hire and train employees in an industry with exceptionally high employee turnover, adhere to food safety regulations, etc. for 21,000 locations, in 65 countries. Perhaps 23% isn't so bad after all, and indeed Morningstar gives the industry average as 40%. 

The result is that Starbucks has an easy time borrowing money; creditors trust that it is in a solid financial position and can be expected to pay them back in full. Fixed-rate, non-callable Starbucks bonds with a maturity date in 2045 have a coupon rate of 4.3%.

What about a technology company? For the quarter ending June 30, 2015, Facebook Inc. (FB) reported its short-term and current portion of long-term debt as $221,000,000; its long-term debt was $110,000,000; its total assets were $44,130,000,000. (221,000,000 + 110,000,000) ÷ 44,130,000,000 = 0.0075, or 0.75%. Facebook does not borrow on the corporate bond market. It has an easy enough time raising capital through stock.

Finally, let's look at a basic materials company, the St. Louis-based miner Arch Coal Inc. (ACI). For the quarter ending June 30, 2015, the company posted short-term and current portions of long-term debt of $31,763,000, long-term debt of $5,114,581,000 and total assets of $8,036,355,000. Coal mining is extremely capital-intensive, so the industry is forgiving of leverage: the average debt ratio is 47%. Even in this cohort, though, Arch Coal is heavily indebted; its debt ratio is 64%. Predictably, this makes borrowing expensive. Arch Coal's fixed, non-callable bonds with a maturity date in 2023 carry a hefty coupon rate of 12.0%

In the consumer lending and mortgages business, two common debt ratios are used to assess a borrower’s ability to repay a loan or mortgage are the gross debt service ratio and the total debt service ratio. The gross debt ratio is defined as the ratio of monthly housing costs (including mortgage payments, home insurance and property costs) to monthly income, while the total debt service ratio is the ratio of monthly housing costs plus other debt such as car payments and credit card borrowings to monthly income. Acceptable levels of the total debt service ratio, in percentage terms, range from the mid-30s to the low-40s.

  1. Acid-Test Ratio

    A stringent indicator that indicates whether a firm has sufficient ...
  2. Debt/Equity Ratio

    Debt/Equity Ratio is debt ratio used to measure a company's financial ...
  3. Long-Term Debt

    Long-term debt consists of loans and financial obligations lasting ...
  4. Solvency Ratio

    One of many ratios used to measure a company's ability to meet ...
  5. Total Debt To Total Assets

    Total Debt To Total Assets is a measure of financial risk that ...
  6. Long Term Debt To Total Assets ...

    A measurement representing the percentage of a corporation's ...
Related Articles
  1. Technical Indicators

    Key Financial Ratios to Analyze the Hospitality Industry

    Understand the hospitality industry and the types of companies that operate within it. Learn about key financial ratios used to analyze the industry.
  2. Investing

    Debt Ratio

    The debt ratio divides a company’s total debt by its total assets to tell us how highly leveraged a company is—in other words, how much of its assets are financed by debt. The debt component ...
  3. Investing Basics

    Will Corporate Debt Drag Your Stock Down?

    Borrowed funds can mean a leg up for companies or the boot for investors. Find out how to tell the difference.
  4. Fundamental Analysis

    Ratio Analysis Tutorial

    If you don't know how to evaluate a company's present performance and its possible future performance, you need to learn how to analyze ratios.
  5. Investing Basics

    Analyze Investments Quickly With Ratios

    Make informed decisions about your investments with these easy equations.
  6. Investing Basics

    Reading The Balance Sheet

    Learn about the components of the statement of financial position and how they relate to each other.
  7. Bonds & Fixed Income

    Evaluating A Company's Capital Structure

    Learn to use the composition of debt and equity to evaluate balance sheet strength.
  8. Bonds & Fixed Income

    The Fundamental Mechanics Of Investing

    Here's a story that demonstrates why stocks and bonds were created and how they are valued.
  9. Trading Strategies

    Introduction to Types of Trading: Fundamental Traders

    Learn about the different traders and explore in detail the broader approach that focuses on company-specific events.
  10. Investing

    Debt Reckoning

    Learn about debt ratios and how to use them to assess a company's financial health. You could save a lot of money!
  1. Why do shareholders need financial statements?

    Shareholders need financial statements to evaluate their equity investments and help them make informed decisions as to how ... Read Full Answer >>
  2. What are key government regulations that affect investing in the banking sector?

    In the aftermath of the global financial crisis of 2008, the banking sector in the United States became subject to a number ... Read Full Answer >>
  3. How do interest rates and debt ratios affect the price of a blue-chip stock?

    Blue-chip stocks are affected by interest rates and debt ratios, but not to the extent that stocks of less-established companies ... Read Full Answer >>
  4. After Enron, are SPVs / SPEs considered good business practice?

    A special purpose vehicle (SPV), also known as a special purpose entity (SPE), is a separate entity created by a company ... Read Full Answer >>
  5. What is the difference between the debt ratio of a company and the debt ratio of ...

    The difference between the debt ratio of a company and the debt ratio of an individual is primarily one of scale and complexity. ... Read Full Answer >>
  6. What can working capital be used for?

    Working capital is used to cover all of a company's short-term expenses, including inventory, payments on short-term debt ... Read Full Answer >>

You May Also Like

Hot Definitions
  1. Quick Ratio

    The quick ratio is an indicator of a company’s short-term liquidity. The quick ratio measures a company’s ability to meet ...
  2. Black Tuesday

    October 29, 1929, when the DJIA fell 12% - one of the largest one-day drops in stock market history. More than 16 million ...
  3. Black Monday

    October 19, 1987, when the Dow Jones Industrial Average (DJIA) lost almost 22% in a single day. That event marked the beginning ...
  4. Monetary Policy

    Monetary policy is the actions of a central bank, currency board or other regulatory committee that determine the size and ...
  5. Indemnity

    Indemnity is compensation for damages or loss. Indemnity in the legal sense may also refer to an exemption from liability ...
  6. Discount Bond

    A bond that is issued for less than its par (or face) value, or a bond currently trading for less than its par value in the ...
Trading Center