Knowing your debt ratio will be helpful in the long run of your business and also provide more ideas on how to pay off some of the debts. When you are aware of where your company is lacking (liabilities), with the debt to asset ratio, you can figure out if the company needs to cut costs or request more loans. All the information you need on the debt-to-asset ratio, the formula, and its calculator will be explained in detail in this post.
The debt to asset ratio (debt ratio) is often used to calculate the financial performance of an organization. In whatever phase the organization is in, it can help point out the total amount of assets that are being supported with debt and how well the company is doing.
A debt-to-asset ratio is a tool that can be used by any working company, whether big or small. It should be used as an indicator in a working organization. This is important because, with a debt ratio, you can figure the level/amount of debt in your company.
What Is Good Debt to Asset Ratio?
The debt to asset ratio is the link and difference between debt and assets of an organization or firm. It reveals the number of assets in a company that is financed by debts. A healthy company shouldn’t rely on debt as its only source of funding. Instead, it should rely on equity.
In the debt ratio, the higher the ratio, the higher the financial risk. When the ratio of assets is low, it means the company is not running on financial risk. Both the creditor and the investor can use this for different purposes. It can also check the total figure of an organization’s assets that are financed by debts. If a company relies solely on debtors, the debt ratio will reveal this during the calculations.
Understanding Debt to Asset Ratio
The company can check through the use of the debt-to-asset ratio if it has the resources to pay off some of the debts and also assess how stable they are in terms of finance.
Most banks use the debt-to-asset ratio to assess a customer’s financial status. If your company needs financial assistance, the bank will check through your credits and make use of the debt ratio formula to get an insight into the financial performance of your company.
There is a high possibility of your loan application being rejected if your debt ratio is higher than average. Banks will find it difficult to give loans to a company whose financial performance is weak.
The debt to asset ratio tends to measure an organization’s debt capacity, debt to equity ratio, and debt service coverage. A creditor will look out for these before deciding to give out loans. Investors also check the debt ratio of a company before investing. They check the level of a company’s dependence on debt to know if your company is running well on equity or debt. No investor would fully invest in a company that is highly dependent on borrowed funds.
As a business owner, you should learn to calculate your debt ratio. Doing this will help you understand how well or how badly your business is doing and will also help you strategize on what you should do in other to improve the growth of your business.
Debt to Asset Ratio Formula
The formula for a debt-to-asset ratio is quite straightforward, but before we explain it further, you should note that in order to calculate a debt ratio, you need to use double-entry accounting.
The formula usually includes two variables from your balance sheet. Follow these step-by-step guides to get the formula of debt ratio:
#1. Get the Total Debt (Liabilities) Value:
To have the debt to asset ratio, you need to provide the total debts of your company. To get the total debt of your company, you need to add the short-term debt and long-term debt of your company. The addition will give you the total debt value of your company.
#2. Get the Value of the Total Assets:
To get the total assets of your company, you need to subtract the total value of liabilities from the value of equity.
This will get you the total assets of your company. The assets should be something of value and not liabilities.
Your assets are usually your buildings, lands, stock, properties, and other valuable items.
#3. The Debt to Asset Ratio Formula:
Total debt(liabilities)/total assets x 100%
The result from dividing total debts from total assets will give you the debt ratio. It is also crucial to multiply it by 100%. When the ratio is higher than 1.0, it shows that the company relies on debt, and the higher the percentage, the higher the dependence on debt.
For instance, if your total debt is $90,000 and your total assets are $50,000
$90,000 (liabilities) ÷ $50,000 (assets)= 1.8 debt ratio
#4. Interpret the Results:
It’s not enough to just know the formula for the debt-to-asset ratio; you also need to know how to interpret the results.
Banks, creditors, and other financial institutions can use the debt ratio to help decide if they can lend money to a company or put money into it. And that is why it is important to run this formula on your company before applying for a loan. You can hire a professional accountant or use an internal auditor to help measure the debt ratio in your company.
What Is a Good Debt-to-Asset Ratio?
Debt to asset ratio can be good, bad, or even both. If you have tried the formula, the next step is to analyze and interpret the result. From the result, you will come to understand if the result is good for your company or not.
We will explain what a good debt ratio is:
$50,000 (debt) ÷ $90,000 (assets)= 0.5 debt ratio
When the debt-to-asset ratio of a company is less than 1, it signifies that it has more assets and does not depend on loans. This shows that the company is doing well financially. When a company with this ratio requests a loan, they have a higher chance of getting the loan. This also signifies that your company can stand on its own and investors won’t regret investing in your company.
When a company’s debt ratio is 1, it means that the company’s total assets and total debt are equal. That is, none is higher than the other. Investors may find this tricky as nothing is certain in a scenario like this. However, you, as a business owner, can find ways to improve your business and make it better.
When the Debt-To-Asset Ratio Is Higher Than 1
When the debt-to-ratio is higher than 1, it shows that the liabilities are greater than the available assets. This is bad if your company is in this state. Investors will find it hard to invest in your company, and banks may not want to loan you money. You can improve your finances and get on the better side of the business with time and good strategy.
When your debt ratio is higher than 1, it can give the wrong impression to those interested in helping your company. It means your company relies heavily on debt and it cannot help itself with the available capital.
You mustn’t let your ratio be higher than 1. Banks and investors will assess your debt to asset ratio and check if doing business with your company is a good deal or not.
To improve your debt ratio, you need to repay most of your debts, especially those with high-interest rates. Budgeting will also be of great help to your company, as well as using techniques that work.
Debt to Asset Ratio Calculator
The debt to asset ratio is calculated as Total debt(liabilities)/total assets x 100%. the result gotten from this formula will help the company, the investors, financial institutions, and others.
You can calculate the debt-to-asset ratio for a company using the calculator, and if you are an investor, this will help you evaluate the company you wish to invest in. If the ratio is less than 1, you can invest in it and if it is higher you should reconsider your options.
To calculate the debt ratio of a company, you need to divide the total debt by the total assets of the company.
If the total debt of a company is $50,000 and the total assets of a company are $90,000, the debt to asset ratio will be 0.5. Then we will multiply 0.5 x 100% and the answer will be 50%, which simply implies that 50% of the assets in the company are been funded by debts.
From this example, I trust you now have an idea of what a good debt ratio is:
$50,000 (debt) ÷ $90,000 (assets)= 0.5 x 100% = 50%
Do yourself a favor by using the debt-to-asset ratio calculator. You’ll thank me later.
Total Debt Ratio
Companies, investors, financial institutions, and other groups use the total debt ratio. The total debt ratio will indicate how dependent a company is on debt. The higher the ratio, the higher the risk of investing in such a company.
Banks use the total debt ratio to check the financial performance of a company requesting a loan. When a company requests a loan, the bank will utilize the total debt ratio as a measurement in determining if the company can pay back and if they have enough assets that can serve as collateral.
Companies usually use the total debt ratio as an indicator. This will help them indicate areas that need improvement. Generally, the total debt ratio is important for business owners, investors, and financial institutions.
Can debt to asset ratio be too low?
A low debt-to-asset ratio might also be troublesome. While it is unlikely to result in insolvency, it may imply bad capital structure decisions by management, resulting in a suboptimal return on equity for the firm’s owners.
How do you tell if your debt-to-asset ratio is good?
A debt-to-equity or debt-to-assets ratio of less than 1.0 is considered reasonably safe, while ratios of 2.0 or more are deemed dangerous. Banking, for example, is recognized for having substantially greater debt-to-equity ratios than other industries.
Can the debt-to-asset ratio be zero?
Yes, a debt ratio of zero indicates that the company does not borrow to fund increasing operations, limiting the overall return that may be earned and passed on to shareholders.
How to calculate the debt-to-asset ratio?
Debt to asset ratio calculator is = Total debt(liabilities)/total assets x 100%.
Finishing Up
The debt to asset ratio is crucial for both small and big businesses. It is an indicator and a tool for calculating the financial performance of an organization. When the ratio is higher than average, your company may be on the verge of running into bankruptcy. We hope with this article, you have gained more insight on DEBT TO ASSET RATIO.
Debt to Asset Ratio FAQs
How to calculate the debt to asset ratio?
Debt to asset ratio calculator is = Total debt(liabilities)/total assets x 100%.
What happens When the debt-to-asset ratio is higher than 1?
When the debt-to-ratio is higher than 1, it shows that the liabilities are greater than the available assets.
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