The
two most basic sources of funds for a company
are debt and equity. Debt and equity both
have unique characteristics and the relationship
between these two sources is widely used to
evaluate the financial strength of a business.
Debt
requires maintenance in form of interest payments
and on maturity are payable whether a company
has earned or lost income. The only benefit
is that interest payments are tax deductable
unlike dividend payments which are not. Also
equity does not require fixed interval payments
and dividends are only paid on earned income.
The
debt to equity ratio is the most widely used
ratio for debt to equity analysis. There are
however some notable warnings on this ratio.
First is that book value of debt is typically
much closer to market value than shareholder
equity. Second is the definition of what is
debt. Are deferred taxes or minority interests
included in debt? It is quite common for these
two items to be left out since it does not
involve a firm obligation. Depending on what
is considered debt the ratio can have quite
different results.
To
calculate debt to equity ratio
Debt
to equity = Total liabilities / Owner's equity
Also
see:
United States
Canada
