{"id":17234,"date":"2022-01-21T18:03:09","date_gmt":"2022-01-21T18:03:09","guid":{"rendered":"https://www.5paisa.com/finschool/?post_type=markets\u0026#038;p=17234"},"modified":"2024-06-13T14:49:00","modified_gmt":"2024-06-13T09:19:00","slug":"risk-leverage-ratios","status":"publish","type":"markets","link":"https://www.5paisa.com/finschool/course/fundamental-analysis-course/risk-leverage-ratios/","title":{"rendered":"Understanding Risk/Leverage Ratios In Stock Market"},"content":{"rendered":"\u003cdiv data-elementor-type=\u0022wp-post\u0022 data-elementor-id=\u002217234\u0022 class=\u0022elementor elementor-17234\u0022\u003e\u003csection class=\u0022elementor-section elementor-top-section elementor-element elementor-element-23ba90b elementor-section-full_width tab_container elementor-section-height-default elementor-section-height-default\u0022 data-id=\u002223ba90b\u0022 data-element_type=\u0022section\u0022\u003e\u003cdiv class=\u0022elementor-container 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background-color:rgb(255, 255, 255); min-height:400px; \u0027\u003e\u003ch2 style=\u0022text-align: left\u0022\u003e\u003cstrong\u003e11. \u003c/strong\u003e\u003cstrong\u003eRisk/Leverage Ratios\u003c/strong\u003e\u003c/h2\u003e\u003cp\u003e\u003cimg fetchpriority=\u0022high\u0022 decoding=\u0022async\u0022 class=\u0022aligncenter wp-image-51601 size-full\u0022 src=\u0022https://www.5paisa.com/gujarati/finschool/wp-content/uploads/2022/01/Risk-Leverage-Ratio.png\u0022 alt=\u0022Risk Leverage Ratio\u0022 width=\u0022779\u0022 height=\u00221019\u0022 srcset=\u0022https://www.5paisa.com/gujarati/finschool/wp-content/uploads/2022/01/Risk-Leverage-Ratio.png 779w, https:/www.5paisa.com/finschool/wp-content/uploads/2022/01/Risk-Leverage-Ratio-229x300.png 229w, https:/www.5paisa.com/finschool/wp-content/uploads/2022/01/Risk-Leverage-Ratio-768x1005.png 768w, https:/www.5paisa.com/finschool/wp-content/uploads/2022/01/Risk-Leverage-Ratio-38x50.png 38w, https:/www.5paisa.com/finschool/wp-content/uploads/2022/01/Risk-Leverage-Ratio-76x100.png 76w, https:/www.5paisa.com/finschool/wp-content/uploads/2022/01/Risk-Leverage-Ratio-150x196.png 150w\u0022 sizes=\u0022(max-width: 779px) 100vw, 779px\u0022 /\u003e\u003c/p\u003e\u003cp\u003e\u0026nbsp;\u003c/p\u003e\u003cp\u003eThis set of ratios explores the impact of leverage (also known as gearing) on the risk of a company. Borrowing funds increases the firm\u0026#8217;s potential returns but also increases the riskiness of the enterprise and the potential volatility in earnings from one period to the next.\u003c/p\u003e\u003c/div\u003e\u003cdiv id=\u0027text_slider_slide02\u0027 class=\u0027sa_hover_container\u0027 data-hash=\u0027Debt/Equity-Ratio\u0027 style=\u0027padding:4.9% 4.7%; margin:0px 0%; background-color:rgb(255, 255, 255); min-height:400px; \u0027\u003e\u003ch2 style=\u0022text-align: left\u0022\u003e\u003cstrong\u003e11.1 Debt/Equity Ratio\u003c/strong\u003e\u003c/h2\u003e\u003cp\u003e\u003cimg decoding=\u0022async\u0022 class=\u0022aligncenter wp-image-51602 size-full\u0022 src=\u0022https://www.5paisa.com/gujarati/finschool/wp-content/uploads/2022/01/Debt-Equity-Ratio.png\u0022 alt=\u0022Debt Equity Ratio\u0022 width=\u0022944\u0022 height=\u0022849\u0022 srcset=\u0022https://www.5paisa.com/gujarati/finschool/wp-content/uploads/2022/01/Debt-Equity-Ratio.png 944w, https:/www.5paisa.com/finschool/wp-content/uploads/2022/01/Debt-Equity-Ratio-300x270.png 300w, https:/www.5paisa.com/finschool/wp-content/uploads/2022/01/Debt-Equity-Ratio-768x691.png 768w, https:/www.5paisa.com/finschool/wp-content/uploads/2022/01/Debt-Equity-Ratio-50x45.png 50w, https:/www.5paisa.com/finschool/wp-content/uploads/2022/01/Debt-Equity-Ratio-100x90.png 100w, https:/www.5paisa.com/finschool/wp-content/uploads/2022/01/Debt-Equity-Ratio-150x135.png 150w\u0022 sizes=\u0022(max-width: 944px) 100vw, 944px\u0022 /\u003e\u003c/p\u003e\u003cp\u003e\u0026nbsp;\u003c/p\u003e\u003cp\u003eThe debt-equity ratio compares a company\u0026#8217;s total liabilities to its total shareholders equity. This is a measurement of how much suppliers, lenders, creditors and obligors have committed to the company versus what the shareholders have committed.\u003c/p\u003e\u003cp\u003eIt measures the amount of the total debt with respect to the total equity capital. A value of 1 on this ratio indicates an equal amount of debt and equity capital. Higher debt to equity (more than 1) indicates higher leverage and hence one needs to be careful. Lower than 1 indicates a relatively bigger equity base with respect to the debt.\u003c/p\u003e\u003cp\u003eThe formula to calculate Debt to Equity ratio is:\u003c/p\u003e\u003cp style=\u0022padding-left: 240px\u0022\u003e\u003cstrong\u003eDebt Equity Ratio\u003c/strong\u003e = [Total Debt/Total Equity]\u003c/p\u003e\u003cp\u003eDebt usually includes both long term \u0026amp; Short term debt.\u003c/p\u003e\u003cp\u003eSince Exide industries doesn\u0026#8217;t have a long term debt on its books. We wont be able to calculate these ratios for Exide. Thus to understand this better- lets take the balance sheet of Britannia Industries:\u003c/p\u003e\u003cp\u003e\u003cimg decoding=\u0022async\u0022 class=\u0022size-full wp-image-16303 aligncenter\u0022 src=\u0022https://www.5paisa.com/gujarati/finschool/wp-content/uploads/2022/01/Balance-Sheet-Britannia.png\u0022 alt=\u0022\u0022 width=\u0022681\u0022 height=\u0022376\u0022 srcset=\u0022https://www.5paisa.com/gujarati/finschool/wp-content/uploads/2022/01/Balance-Sheet-Britannia.png 681w, https:/www.5paisa.com/finschool/wp-content/uploads/2022/01/Balance-Sheet-Britannia-300x166.png 300w\u0022 sizes=\u0022(max-width: 681px) 100vw, 681px\u0022 /\u003e\u003c/p\u003e\u003cp\u003eDebt= Long term debt+ short term= 721.55+1075.70= 1797.25 crs\u003c/p\u003e\u003cp\u003eTotal Equity= 3319.53 crs\u003c/p\u003e\u003cp\u003eDebt/Equity= 1797.25/3319.53= 0.54\u003c/p\u003e\u003c/div\u003e\u003cdiv id=\u0027text_slider_slide03\u0027 class=\u0027sa_hover_container\u0027 data-hash=\u0027Debt-Ratio\u0027 style=\u0027padding:4.9% 4.7%; margin:0px 0%; background-color:rgb(255, 255, 255); min-height:400px; \u0027\u003e\u003ch2 style=\u0022text-align: left\u0022\u003e\u003cstrong\u003e11.2 Debt Ratio\u003c/strong\u003e\u003c/h2\u003e\u003cp\u003e\u003cimg loading=\u0022lazy\u0022 decoding=\u0022async\u0022 class=\u0022aligncenter wp-image-51603 size-full\u0022 src=\u0022https://www.5paisa.com/gujarati/finschool/wp-content/uploads/2022/01/Debt-Ratio.png\u0022 alt=\u0022Debt Ratio\u0022 width=\u00221080\u0022 height=\u0022988\u0022 srcset=\u0022https://www.5paisa.com/gujarati/finschool/wp-content/uploads/2022/01/Debt-Ratio.png 1080w, https:/www.5paisa.com/finschool/wp-content/uploads/2022/01/Debt-Ratio-300x274.png 300w, https:/www.5paisa.com/finschool/wp-content/uploads/2022/01/Debt-Ratio-1024x937.png 1024w, https:/www.5paisa.com/finschool/wp-content/uploads/2022/01/Debt-Ratio-768x703.png 768w, https:/www.5paisa.com/finschool/wp-content/uploads/2022/01/Debt-Ratio-50x46.png 50w, https:/www.5paisa.com/finschool/wp-content/uploads/2022/01/Debt-Ratio-100x91.png 100w, https:/www.5paisa.com/finschool/wp-content/uploads/2022/01/Debt-Ratio-150x137.png 150w\u0022 sizes=\u0022(max-width: 1080px) 100vw, 1080px\u0022 /\u003e\u003c/p\u003e\u003cp\u003e\u0026nbsp;\u003c/p\u003e\u003cp\u003eThe debt ratio compares a company\u0026#8217;s total debt to its total assets, which is used to gain a general idea as to the amount of leverage being used by a company. A low percentage means that the company is less dependent on leverage, i.e., money borrowed from and/or owed to others. The lower the percentage, the less leverage a company is using and the stronger its equity position. In general, the higher the ratio, the more risk that company is considered to have taken on.\u003c/p\u003e\u003cp style=\u0022padding-left: 240px\u0022\u003e\u003cstrong\u003eDebt Ratio = \u003c/strong\u003eTotal Debt/Total Assets\u003c/p\u003e\u003cp\u003eThe debt ratio gives users a quick measure of the amount of debt that the company has on its balance sheets compared to its assets. The more debt compared to assets a company has, which is signaled by a high debt ratio, the more leveraged it is and the riskier it is considered to be. Generally, large, well-established companies can push the liability component of their balance sheet structure to higher percentages without getting into trouble.\u003c/p\u003e\u003cp\u003eIn case of Britannia- the total debt we know is Rs.3319.53crs\u003c/p\u003e\u003cp\u003e\u003cimg loading=\u0022lazy\u0022 decoding=\u0022async\u0022 class=\u0022size-full wp-image-16304 aligncenter\u0022 src=\u0022https://www.5paisa.com/gujarati/finschool/wp-content/uploads/2022/01/debt-Britannia.png\u0022 alt=\u0022\u0022 width=\u0022681\u0022 height=\u0022376\u0022 srcset=\u0022https://www.5paisa.com/gujarati/finschool/wp-content/uploads/2022/01/debt-Britannia.png 681w, https:/www.5paisa.com/finschool/wp-content/uploads/2022/01/debt-Britannia-300x166.png 300w\u0022 sizes=\u0022(max-width: 681px) 100vw, 681px\u0022 /\u003e\u003c/p\u003e\u003cp\u003eTotal Assets is Rs.7416.01crs\u003c/p\u003e\u003cp\u003eThus Debt/Total Asset= 3319.53/7416.01= 0.44 0r 44%\u003c/p\u003e\u003cp\u003eThis means roughly about 44% of the assets held by Britannia is financed through debt capital and therefore 56% is financed by the owners.\u003c/p\u003e\u003c/div\u003e\u003cdiv id=\u0027text_slider_slide04\u0027 class=\u0027sa_hover_container\u0027 data-hash=\u0027Financial-Leverage-Ratio\u0027 style=\u0027padding:4.9% 4.7%; margin:0px 0%; background-color:rgb(255, 255, 255); min-height:400px; \u0027\u003e\u003ch2 style=\u0022text-align: left\u0022\u003e\u003cstrong\u003e11.3 Financial Leverage Ratio\u003c/strong\u003e\u003c/h2\u003e\u003cp\u003e\u003cimg loading=\u0022lazy\u0022 decoding=\u0022async\u0022 class=\u0022aligncenter wp-image-51604 size-full\u0022 src=\u0022https://www.5paisa.com/gujarati/finschool/wp-content/uploads/2022/01/Financial-Leverage-Ratio.png\u0022 alt=\u0022Financial Leverage Ratio\u0022 width=\u00221039\u0022 height=\u00221021\u0022 srcset=\u0022https://www.5paisa.com/gujarati/finschool/wp-content/uploads/2022/01/Financial-Leverage-Ratio.png 1039w, https:/www.5paisa.com/finschool/wp-content/uploads/2022/01/Financial-Leverage-Ratio-300x295.png 300w, https:/www.5paisa.com/finschool/wp-content/uploads/2022/01/Financial-Leverage-Ratio-1024x1006.png 1024w, https:/www.5paisa.com/finschool/wp-content/uploads/2022/01/Financial-Leverage-Ratio-768x755.png 768w, https:/www.5paisa.com/finschool/wp-content/uploads/2022/01/Financial-Leverage-Ratio-50x50.png 50w, https:/www.5paisa.com/finschool/wp-content/uploads/2022/01/Financial-Leverage-Ratio-100x98.png 100w, https:/www.5paisa.com/finschool/wp-content/uploads/2022/01/Financial-Leverage-Ratio-150x147.png 150w\u0022 sizes=\u0022(max-width: 1039px) 100vw, 1039px\u0022 /\u003e\u003c/p\u003e\u003cp\u003e\u0026nbsp;\u003c/p\u003e\u003cp\u003eThis ratio of the total assets to total equity. This compares the entire asset base on the left hand side of the balance sheet with only that portion of shareholders equity that belongs to the common shareholders. From the perspective of the common shareholders, the firm\u0026#8217;s financial leverage measures how much \u0026#8220;stuff\u0026#8221; the company owns as compared to how much money they have put in.\u003c/p\u003e\u003cp style=\u0022padding-left: 280px\u0022\u003e\u003cstrong\u003eFinancial Leverage\u003c/strong\u003e = Total assets/ Total common equity\u003c/p\u003e\u003cp\u003eFor Britannia Industries- total common equity is Rs.3319.5crs\u003c/p\u003e\u003cp\u003eThus Financial Leverage Ratio= 7416.01/3319.5= 2.23\u003c/p\u003e\u003cp\u003eThis means Britannia Industries supports Rs.2.23 units of assets for every unit of equity. Do remember higher the number, higher is the company\u0026#8217;s leverage.\u003c/p\u003e\u003c/div\u003e\u003cdiv id=\u0027text_slider_slide05\u0027 class=\u0027sa_hover_container\u0027 data-hash=\u0027Interest-Coverage-Ratio\u0027 style=\u0027padding:4.9% 4.7%; margin:0px 0%; background-color:rgb(255, 255, 255); min-height:400px; \u0027\u003e\u003ch2 style=\u0022text-align: left\u0022\u003e\u003cstrong\u003e11.4 Interest Coverage Ratio\u003c/strong\u003e\u003c/h2\u003e\u003cp\u003e\u003cimg loading=\u0022lazy\u0022 decoding=\u0022async\u0022 class=\u0022aligncenter wp-image-51606 size-full\u0022 src=\u0022https://www.5paisa.com/gujarati/finschool/wp-content/uploads/2022/01/Interest-Coverage-Ratio-1.png\u0022 alt=\u0022Interest Coverage Ratio\u0022 width=\u00221039\u0022 height=\u0022972\u0022 srcset=\u0022https://www.5paisa.com/gujarati/finschool/wp-content/uploads/2022/01/Interest-Coverage-Ratio-1.png 1039w, https:/www.5paisa.com/finschool/wp-content/uploads/2022/01/Interest-Coverage-Ratio-1-300x281.png 300w, https:/www.5paisa.com/finschool/wp-content/uploads/2022/01/Interest-Coverage-Ratio-1-1024x958.png 1024w, https:/www.5paisa.com/finschool/wp-content/uploads/2022/01/Interest-Coverage-Ratio-1-768x718.png 768w, https:/www.5paisa.com/finschool/wp-content/uploads/2022/01/Interest-Coverage-Ratio-1-50x47.png 50w, https:/www.5paisa.com/finschool/wp-content/uploads/2022/01/Interest-Coverage-Ratio-1-100x94.png 100w, https:/www.5paisa.com/finschool/wp-content/uploads/2022/01/Interest-Coverage-Ratio-1-150x140.png 150w\u0022 sizes=\u0022(max-width: 1039px) 100vw, 1039px\u0022 /\u003e\u003c/p\u003e\u003cp\u003e\u0026nbsp;\u003c/p\u003e\u003cp\u003eIf the firm has leveraged its shareholder capital by borrowing, it must pay interest on the borrowed funds. The interest coverage ratio (also known as the times interest earned ratio) measures the firm\u0026#8217;s ability to meet existing debt payments given the current level of earnings. The relevant measure of income for calculating the interest coverage is earnings before interest and taxes (EBIT) since interest payments are themselves a tax-deductible expense.\u003c/p\u003e\u003cp\u003eThe lower the ratio, the more the company is burdened by debt expense. When a company\u0026#8217;s interest coverage ratio is only 1.5 or lower, its ability to meet interest expenses may be questionable.\u003c/p\u003e\u003cp style=\u0022padding-left: 240px\u0022\u003e\u003cstrong\u003eInterest Coverage Ratio = \u003c/strong\u003eEBIT/ Interest expense\u003c/p\u003e\u003cp\u003e\u003cstrong\u003eIncase of Britannia industries-\u003c/strong\u003e\u003c/p\u003e\u003cp\u003e\u003cimg loading=\u0022lazy\u0022 decoding=\u0022async\u0022 class=\u0022size-full wp-image-16305 aligncenter\u0022 src=\u0022https://www.5paisa.com/gujarati/finschool/wp-content/uploads/2022/01/Interest-Coverage.png\u0022 alt=\u0022\u0022 width=\u0022681\u0022 height=\u0022376\u0022 srcset=\u0022https://www.5paisa.com/gujarati/finschool/wp-content/uploads/2022/01/Interest-Coverage.png 681w, https:/www.5paisa.com/finschool/wp-content/uploads/2022/01/Interest-Coverage-300x166.png 300w\u0022 sizes=\u0022(max-width: 681px) 100vw, 681px\u0022 /\u003e\u003c/p\u003e\u003cp\u003eEBIT= Profit before exceptional items \u0026amp; tax+ Finance cost – Other Income\u003c/p\u003e\u003cp style=\u0022padding-left: 40px\u0022\u003e= 2379.44+97.81-292.70\u003c/p\u003e\u003cp style=\u0022padding-left: 40px\u0022\u003e= Rs.2184.55crs\u003c/p\u003e\u003cp style=\u0022padding-left: 40px\u0022\u003eInterest= Rs.97.81\u003c/p\u003e\u003cp style=\u0022padding-left: 40px\u0022\u003eInterest Coverage ratio (2184.55/97.81) 22.33\u003c/p\u003e\u003cp\u003eInterest coverage ratio of 22.33x suggests that for every Rupee of interest payment due, Britannia industries is generating an EBIT of 22.33times.\u003c/p\u003e\u003c/div\u003e\u003c/div\u003e\u003c/div\u003e\u003cscript type=\u0027text/javascript\u0027\u003ejQuery(document).ready(function()  {jQuery(\u0027#text_slider\u0027).owlCarousel({items  :  1,smartSpeed  :  400,autoplay  :  false,autoplayHoverPause  :  false,smartSpeed  :  400,fluidSpeed  :  400,autoplaySpeed  :  400,navSpeed  :  400,dotsSpeed  :  400,dotsEach  :  1,loop  :  false,nav  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