What is Debt to Capital Ratio
Debt to capital ratio is a financial ratio that measures the company’s financial leverage by the comparison between the total debt and the total capital source (debt + equity) of the company. The debt to capital ratio determines the company’s proportion of debt within the company’s capital used for the operation activities. Normally, the debt to capital ratio is a tool to measure the financial stability and solvency of a company to determine the company’s risk.
When the debt to capital ratio is more than 1 means the company has higher debt than the total capital. This means the company’s financial stability is totally at risk of default. In contrast, the debt to capital ratio is less than 1 means the debt is less than the total capital which means the company is still able to cover its debt by the shareholders’ equity.
Thus, the higher D/C ratio than the industry leverage results in a higher debt obligation. The lower D/C ratio than the industry leverage is a good debt to capital ratio value. This means the company has lower costs of the debt obligation. However, the different industries had different acceptable levels of the debt to capital ratio.
Debt to Capital Ratio Formula & Example
The debt to capital ratio formula is the comparison between the company’s total debt with the company’s total capital (Total debt + Total shareholders’ equity). The debt to capital ratio (D/C ratio) can be calculated by the following formula:
D/C ratio = Total debt / (Total debt + Total equity)
Where the total debt plus the total equity refers to the company’s total capital resource, and the total debt is the sum of all short-term and long-term debt.
For example, the Feriors company limited has the following financial results in last year:
- Total debt: $100,000
- Total equity: $200,000
D/C ratio = 100,000 / (100,000 + 200,000) = 0.33 or 33%
The debt to capital ratio of 33% means the company has 33% of the company’s capital is debt.
Frequently Asked Questions
Debt to capital ratio is a financial ratio that measures the company’s financial leverage by the comparison between the total debt and the total capital source (debt + equity) of the company to determine the proportion of debt used for the operation activities.
The debt to capital ratio (D/C ratio) can be calculated by dividing total debt by the total capital as the following formula: D/C ratio = Total debt / (Total debt + Total equity)
A lower D/C ratio than the industry leverage is a good debt to capital ratio value. This means the company has lower costs of the debt obligation.
