LEVERAGE RATIO

Ansif Ek

LEVERAGE RATIOS / SOLVENCY RATIO

The term solvency means ability of a firm to pay the outside liabilities

Leverage ratios are used to analyse the long term financial position of a business

There are two types of solvency or leverage ratios are Structural Ratios and Coverage Ratios

LEVERAGE RATIO

STRUCTURAL RATIO

DEBT EQUITY RATIO

TOTAL ASSETS

DEBT RATIOPROPRITARY

RATIOSOLVANCY

RATIO

COVERAGE RATIO

STRUCTURAL RATIOS It indicates the long term solvency of the firm This ratio is used to analyse the long term financial

position of a firm Also known as Capital structure ratio Important structural ratios are Debt-equity ratio ,

Total asset to debt ratio ,Proprietary ratio ,solvency ratio

DEBT EQUITY RATIO Most commonly ratio used to test the solvency of a

firm Expresses the relationship between debt (external

equity) and equity (internal equity) So this ratio is also called External-Internal equity

ratio, Security Ratio Two forms of debt equity ratio Long term debt equity ratio Total debt equity ratio

LONG TERM DEBT EQUITY RATIO Long term debt equity ratio = long term

debt / Equity Long term debt refers to the fund invested by

outsiders (Debentures ,long term loan) Also known as external equity or borrowed fund Equity means fund invested by shareholders

(equity ,preference share capital, reserves and surplus)

Also known as shareholders fund or internal fund All accumulated losses and fictitious assets(pre

exp) are deducted so we get Networth

TOTAL DEBT EQUITY RATIO Total debt equity ratio = Total debt / Equity Total debt =include all debt whether long term or

short term (current liability) The standard debt equity ratio is 1:1 This ratio is important to long term creditors A

high ratio indicates the safety of creditors and viceversa

Very useful for analyzing long term financial condition of a company

Calculate Debt equity ratio from the balance sheet given below :

Liabilities Rs Assets RsEquity shares 100000 Goodwill 60000

Reserves 20000 Fixed assets 140000

P&L a/c 30000 Stock 30000

Secured loan 80000 Debtors 30000

Creditors 50000 Advances 10000

Provision for tax 20000 Cash 30000

300000 300000

Debt equity ratio = Long term debt / Equity

Long term Debt = 80000Internal equity = 100000 + 20000 + 30000 = 150000 = 80000 / 150000 =.53 = 053 : 1

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