How To Calculate Debt To Asset Ratio (With Examples)

By Sky Ariella - Aug. 16, 2021
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Understanding the debt to asset ratio is a key part of a company staying afloat financially. It tells you how well a business is performing financially and if it can afford to continue or needs revaluation. The debt to asset ratio creates a picture of the debt percentage that makes up an asset portfolio.

Correctly formulating your company’s debt to asset ratio and unpacking the results to make financial decisions in the future could be the difference between prospering or not.

What Is the Debt to Asset Ratio?

The debt to asset ratio is a leverage ratio that shows what percentage of a company’s assets are being currently financed by debt. A high debt to asset ratio typically indicates risk, whereas a low debt to asset ratio speaks of a stable financial situation.

When evaluating a business, the debt to asset ratio states how much of your expenses were paid for with credit, loans, or any other form of debt. This number demonstrates the financial status of a company and can measure its growth over time by showing the minimization of the debt to asset ratio over the years.

The debt to asset ratio is presented in the form of a percentage. The percentage of your debt to asset ratio explains what percent of your assets are made up of money that isn’t company equity.

A business with a high debt to asset ratio is one that could soon be at risk of defaulting. It also increases the probability of receiving a much higher interest rate or being rejected altogether if your organization needs to borrow more money.

Alternatively, a low debt to asset ratio indicates that the company is in strong financial standing because they have fewer liabilities and more total assets. This presents many positive aspects for the business, such as being perceived as less risky by lenders.

What Is the Debt to Asset Ratio Used For?

Business owners can use the debt to asset ratio to evaluate their own organization’s finances. It is a powerful tool for emerging companies because it allows them to track their progress and growth over time using a reliable form of measurement.

However, it’s most commonly utilized by creditors to determine a business’ eligibility for loans and their financial risk. Before handing over any money to fund a company or individual, lenders calculate their debt to asset ratio to determine their overall financial profile and capacity to repay any credit given to them.

Having a poor debt to asset ratio lowers the chances that you’ll receive a good interest rate or a loan at all in the future.

How to Calculate the Debt to Asset Ratio

Calculating your business’s debt to asset ratio requires finding the exact numbers for a lot of blank formula spaces, such as the company’s total liabilities and assets. Gather this information before beginning work on figuring out your debt to asset ratio. Once you have these figures calculating through the rest of the equation is a breeze.

  1. Review the debt to asset ratio equation. To begin any math problem, big or small, the first step is reviewing the equation at hand. For the debt to asset ratio, the equation is on the easier side.

    The equation for debt to asset ratio is:
    (Total Company Liabilities and Debt) / (Total Company Assets) = Debt to Asset Ratio

  2. Add together the total company liabilities and debt. The only math you’ll need to do is a bit of division, but you first need to figure out what numbers to plug into the equation. On the numerator, you need to find the sum of all liabilities and debt that your company has. Add these values together to arrive at a total.

  3. Add together the total company assets. The denominator of the equation requires the same task of finding values and adding them together. Except for this time, add together the total company assets instead of its liabilities.

  4. Plug the results into the equation and solve. Most of the work has been done, and all that’s left is plugging the numbers into the formula and solving to find the debt to asset ratio. Put the total company liabilities on the top of the equation and the assets on the bottom.

    Divide the two to arrive at a decimal answer. This is the raw form of your debt to asset ratio.

  5. Multiply by 100 to arrive at a percentage. Usually, the debt to asset ratio is expressed as a percentage to most clearly describe how much of a business is accounted for by debt. This can only be done if the debt to asset ratio is below one.

    To turn the decimal value into a percentage, multiple by 100. This is the final form of your company’s debt to asset ratio.

Understanding the Results of Debt to Asset Ratio

After calculating your debt to asset ratio, it’s used to better understand your company and where it stands financially. Understanding the result of the equation is done by examining it for being high or low.

A business whose debt to asset ratio is above one indicates that its funds are entirely covered by debt or alternative financing. This is worrisome for the company in question because it puts them at high risk for defaulting on their loan, or worse, going bankrupt.

Even with a debt to asset ratio below one, the figure still needs to be put into perspective. A debt to asset ratio below one doesn’t necessarily tell the tale of a thriving business. If an organization has a debt to asset ratio of 0.973, 97.3% of it is covered on borrowed dollars.

Lower debt to asset ratios suggests a business is in good financial standing and likely won’t be in danger of default. The general rule of thumb is to keep the debt percentage below 40%.

An Example of Debt to Asset Ratio

Learning about the debt to asset ratio is difficult without thoroughly evaluating an example. Below are two examples of the debt to asset ratio equation and a description of what this value means for the business it represents.

Example 1: High Debt to Asset Ratio

Christopher owns a bakery in midtown Manhattan called Lucky Charms. He’s recently been worried about the finances of the organization as he prepares to apply for a loan extension. He decides to conduct a debt to asset ratio test to determine the percentage of his expenses accounted for by financing.

To begin the process, Christopher gathers the Lucky Charm’s balance sheet for November 2020 to ensure that he has all the information he needs at his disposal.

With all the monthly data neatly together, he adds the long-term debt, bank loans, and wages payable to get a total liability of $43,000. He writes this number at the top of the asset to debt ratio equation.

Christopher proceeds to find Lucky Charms’ total assets. He adds the accounts receivable, inventory, and relevant investments. After calculations, his company’s total assets were $31,200. He writes this on the bottom half of the division equation.

With both numbers inserted into the debt to asset ratio equation, he solves.

(43,000) / (31,200) = 1.37

The debt to asset ratio of Christopher’s business is well over one.

What it means: The results of Christopher’s debt to asset ratio equation suggests a troubling reality for the finances of his business.
A resulting value over one indicates that liabilities are being used to fund a business entirely and that the company owes more than it’s taking in. It’s clear that this is the case with Christopher’s bakery, Lucky Charms.

In the near future, the business will likely default on loans out of a lack of resources to pay. The majority of incoming money is debt-based. This is very risky, and eventually, this catches up with any company.

Unfortunately, the financial standing of Lucky Charms seems to be progressively getting worse. His loan extension will surely be denied.

Christopher should seek immediate action towards remedying the situation, such as hiring a financial advisor to help. If he doesn’t do anything to alter the trajectory of his company’s finances, it will go bankrupt within the next couple of years.

Example 2: Low Debt to Asset Ratio

Leslie owns a small business creating and selling handmade jewelry pieces. She wants to calculate her debt to asset ratio to gauge her company’s financial health.

She starts by adding together all her business’ liabilities. She adds together the company’s accounts payable, interest payable, and principal loan payments to arrive at $10,500 in total liabilities and debts.

Next, Leslie adds together all the assets of her business. She adds together the value of her inventory, cash, accounts receivable, and the result is $26,000.

Finally, she plugs both of these figures into the debt to asset equation to find the raw decimal value of her company’s ratio.

(10,500) / (26,000) = .403

Since Leslie’s debt to asset ratio is under one, she multiples it by 100 to get a percentage. The debt to asset ratio of her small jewelry business is 40.3%.

What it means: The results of Leslie’s small business’ debt to asset ratio are under one, which is already a good sign that it’s in acceptable financial health. A debt ratio of 40.3% means that more than half of her business is funded by its own equity and not relying on borrowing money.

She is unlikely to default on any loan payments, and her small business is headed in the right direction. If her jewelry company is new, she should continue to perform debt to asset ratio checks quarterly to evaluate her business’ growth over time.

Debt to Asset Ratio FAQ

  • What is a good debt to asset ratio? 0.4 or 40% of considered a good debt to asset ratio from the perspective of a lender assessing risk. From an investor standpoint, anywhere between 0.3 and 0.6 is considered an acceptable debt to asset ratio, with risk-tolerant investors being okay with even higher ratios.

    The closer a debt to asset ratio comes to approaching 1, the riskier the situation.

  • How do you calculate debt to asset ratio? To calculate debt to asset ratio, divide total liabilities by total assets. If you’d like to convert the result into a percentage, multiply by 100 (or move the decimal place over two places to the right).

  • Are debt and liabilities the same thing? No, debt and liabilities are not the same thing, although they are related. Debt refers to money borrowed, while liabilities refer to any financial obligation. Debt is often one form of a company’s liabilities, along with things like wages payable, payroll taxes, accounts payable, and plenty of other items.

  • What does debt to asset ratio tell you? Debt to asset ratio tells you what proportion of a company’s financing can be attributed to debt compared to assets.

    For example, if a company’s debt to asset ratio is greater than 0.5, most of its assets are financed through debt. If the company’s debt to asset ratio is below 0.5, the majority of its assets are financed through equity.

    This tells companies, investors, analysts, and lenders to what degree the company is leveraged (higher is riskier), which informs the decision-making of stakeholders.

  • What are the limitations of debt to asset ratio? Debt to asset ratio is useful for determining risk based on a business’s financial leverage and solvency. But it’s most useful as a measure of comparison, either with competitors or with the company’s recent past.

    For example, a company may be highly leveraged and finance a lot of its assets through debt. But if it uses that money in intelligent ways, then the debt to asset ratio will start to shrink.

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Sky Ariella

Sky Ariella is a professional freelance writer, originally from New York. She has been featured on websites and online magazines covering topics in career, travel, and lifestyle. She received her BA in psychology from Hunter College.

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