Debt to Equity Ratio

The debt to equity ratio is a measure of financial strength computed by dividing the total debt of the company by the total Stockholders’ Equity.

The higher the debt to equity ratio, the greater percent of the company’s assets is financed by debt. In times of trouble, companies with a high to debt to equity ratio are more likely to flounder. These companies have high debt service costs. Plus, if the owners have little of their personal money (stockholder’s equity) in the company, they are more likely to just let the company default. If you stand to lose $1,000 of your own money you might let the company go bankrupt rather than work 16 hour days for months on end to save it. If you stand to lose $100,000 of your own money if the business goes bankrupt, you just might to decide to work those long days. Banks like to loan money to companies with low debt to equity ratios because the bank feels they are less likely to get in trouble and if they do, they are much more likely to work hard to make the business a success and pay back their loan.

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