Debt to Equity Ratio

How to read it

The debt to equity ratio adds long-term debt and the current part of debt, then divides the total by total shareholders’ equity, all taken from the balance sheet at the end of a quarter or a year. The numerator rises when the company borrows and falls when it repays. The denominator rises when the company retains profits or issues shares and falls when it pays dividends, buys back stock or records losses. A higher value means more of the business is funded with debt.

What is typical

How much debt a business can carry depends on how steady its cash flows are. Utilities, real estate companies and telecoms, with predictable income and large physical assets, often run with high ratios, while software and many technology companies carry little debt. Financial companies are funded in ways this ratio does not describe well. Compare a company with the median for the company’s sector.

Pitfalls

The ratio counts only debt, not leases, pensions or other obligations a company may also owe. Buybacks and accumulated losses can shrink equity to near zero or below, which makes the ratio very large or negative without any new borrowing. Cash is not netted against debt, so a company holding more cash than it owes can still show a high value.