Ideal Debt-to-Asset Ratio

In business, a corporation's debt-to-assets ratio can explain a lot about that company's health and future viability. Investors may use this ratio to make decisions on where to place their money while prospective vendors might use this ratio as a guideline for doing business.

Definition

According to Stock Research Pro, the debt-to-assets ratio demonstrates which percentage of a company's assets is financed through debt. The higher the debt, the higher the ratio number will grow. The baseline number is .5. With a debt/asset ratio of less than .5, a company's assets are financed through equity---meaning equipment, buildings, or land was purchased through cash or equivalent. On the other hand, if the ratio is above .5, then most of the company's properties were paid off through the accumulation of debt.

Calculation

The calculation of a debt/asset ratio can be done through a simple formula. According to Stock Research Pro, the formula for debt/ratio asset can be written as "debt-to-assets ratio=Total debt/total assets." The number is represented, then, as a percentage. For example, a 25 percent ratio would mean that the company's debt is minimal compared to a company with, say, a 75 percent ratio.

Measures

A debt-to-asset ratio of less than .5 demonstrates that most of a company's assets are financed through equity. Companies that have a rating of less than .5 are considered solid financially and a good bet for investors as well as prospective creditors. According to Stock Research Pro, a ratio of greater than .5 would mean the company's assets are mostly financed through debt. For example, a debt ratio of 65 percent would mean an excessive debt load for many investors since that company would be seen as "highly leveraged" and a risk to investors and creditors.

Impact

According to Solution Matrix, the debt-to-asset ratio of a company often determines how much funding a company can obtain from a lender and whether or not potential investors will pump funds into their company. High debt/asset ratios are warning signs for many investors who will think twice about lending money or investing equity to a company who may have trouble paying their debts due to high debt leverage. When analyzing a company's debt load, according to Stock Research Pro, it is necessary to compare their debt ratio against others in their industry. Some industries naturally require a higher debt/asset ratio and, when making investment decisions, a comparison should be made against industry standards.