## Total debt to total assets

##### Published: Jun 2010

Total debt to total assets is one of the ratios used to measure a company’s financial risk. It determines what proportion of the company’s assets is financed by debt. The lower a company’s total debt to total assets ratio, the less leveraged the company is. That is, the less borrowing the company has. This makes the company safer from a creditor’s point of view but provides less return for shareholders. This is because the shareholders are financing a greater proportion of the business.

There is no simple answer as to the optimal level of borrowing for a business. Various theories have been used over the years and most larger companies will have considered the issue and decided the financing structure they will pursue.

### How is it calculated?

The total debt to total assets ratio is calculated as follows:

$$Total \: debt \: to \: total \: assets = \frac{Total \: liabilities} {assets}$$
• ##### Total liabilities.

This is calculated by adding short-term and long-term liabilities, including accounts payable, short-term and long-term debt, income tax, etc.

• ##### Total assets.

This includes both tangible and intangible assets, including cash and cash equivalents, short-term investments, accounts receivable, inventory, property and equipment, equity, etc.

### Example

Consider two technology companies, Company A and Company B. Their results for 2009 are shown below:

$$Company \: A \: Total \: debt \: to \: total \: assets = \frac{74,282}{114,799} \:= \: 0.65$$

$$Company \: B \: Total \: debt \: to \: total \: assets = \frac{38,330}{77,888} \: = \: 0.49$$

### Points to consider

A ratio of less than one – as is the case with both companies in the above example – indicates that the majority of a company’s assets are financed through equity. More than one shows that they are financed more by debt. The higher the ratio, the more highly leveraged the company.

This could prove to be an issue, particularly in a rising interest rate environment when the company could be in trouble if it had difficulty paying back debt and its creditors demanded repayment.

A general principle is that companies with stable earnings can support higher debt ratios with less risk than companies with more volatile earning streams

The total debt to total assets ratio is a broad one since it takes into account both current and fixed, tangible and intangible assets, and both long and short-term debt. It is a useful (if crude) tool for treasurers when making investment or counterparty decisions. Companies with higher ratios are, generally, higher risk investments, and vice versa.