Debt-to-equity ratio: formula and what is a good level

The debt-to-equity ratio compares what a company owes to lenders with the capital its shareholders have put in. It is a quick way to see how much of a business is financed by borrowing, which matters because debt has to be serviced and repaid whether or not the business is having a good year.

How the ratio is calculated

Debt-to-equity = Total debt / Total shareholders' equity

"Total debt" usually means short-term borrowings, the current portion of long-term debt, and long-term debt. Equity is the book value on the balance sheet, which is total assets minus total liabilities. Both numbers come straight from the balance sheet.

Unfortunately there is no single official definition, and the variations produce quite different numbers:

Lease obligations are included by some data sources and left out by others, so the same company can show different ratios depending on where you look. When comparing two companies, make sure both numbers were built the same way.

How do you calculate debt-to-equity?

1. Find total debt on the balance sheet: short-term borrowings, the current portion of long-term debt and long-term debt. Add lease obligations only if the source you are comparing with does the same.
2. Find total shareholders' equity on the same balance sheet.
3. Divide debt by equity. A result of 0.5 means 50 cents of debt for every dollar of equity, and some sources show the same figure as a percentage, 50%.

Illustrative example: Company A in the table below has borrowings of $200 million and equity of $700 million, so its debt-to-equity ratio is 200 / 700, or about 0.29. Both inputs come from the company's balance sheet in its annual or quarterly filings.

Example (illustrative numbers)

Two companies each have $1,000 million of assets.

Company B is financed mostly by lenders. If both pay 6% interest on their borrowings, A owes $12 million of interest a year and B owes $36 million. That interest is paid before shareholders see a cent of profit. In a good year B's smaller equity base can make its returns look excellent; in a bad year the fixed interest bill can consume most of its operating profit.

How to read it

These are rules of thumb only, because the right level depends heavily on the industry:

• Below about 0.5: lightly borrowed by most standards.
• Roughly 0.5 to 1.5: moderate use of debt, common across many industries.
• Above about 2: heavily borrowed. Worth a closer look at the ability to service the debt, not an automatic warning.

Industry context matters more than any cutoff. Businesses with steady, predictable cash flows and long-lived tangible assets, such as utilities, telecom networks and real estate owners, can sensibly carry more debt than a cyclical manufacturer or a young technology company. Banks and insurers are a special case: their balance sheets are full of customer deposits and policyholder obligations, so a standard debt-to-equity ratio tells you little about them.

The trend is often as informative as the level. A ratio that climbs for several years deserves an explanation. Common reasons include acquisitions, large share buybacks funded with borrowing, or debt used to cover cash shortfalls. Only the last of these is clearly worrying; the first two may be deliberate choices.

What is a good debt-to-equity ratio?

There is no single good level, because the right amount of debt depends on the industry and on how steady the company's cash flows are. The rules of thumb above, below about 0.5 lightly borrowed and above about 2 heavily borrowed, are starting points, not verdicts. A utility or a real estate owner with predictable cash flows can sensibly carry more debt than a cyclical manufacturer or a young technology company. Ask three questions before judging a number: how does it compare with sector peers, which way has it moved over several years, and can earnings comfortably cover the interest? The last one is answered by the interest coverage ratio and net debt to EBITDA.

Debt-to-equity vs debt ratio: what is the difference?

Both measure borrowing, but they compare it with different things. Debt-to-equity divides debt by shareholders' equity. The debt ratio divides debt, or sometimes total liabilities, by total assets. Using the illustrative companies above, with $1,000 million of assets each: Company A has borrowings of $200 million, a debt ratio of 0.20 and a debt-to-equity ratio of about 0.29; Company B has borrowings of $600 million, a debt ratio of 0.60 and a debt-to-equity ratio of 2.00. The debt ratio cannot rise above 1 unless equity is negative, which makes it easy to read, while debt-to-equity climbs quickly as equity shrinks and so shows leverage more sharply. Because assets equal liabilities plus equity, the two are linked: measured with total liabilities, debt-to-equity equals the debt ratio divided by one minus the debt ratio.

Can debt-to-equity be negative?

Yes, when shareholders' equity is negative, meaning the company's liabilities are larger than its assets on the balance sheet. Debt itself cannot be negative, so a negative ratio always comes from negative equity. It does not mean the company has no debt, and it is not better than a low positive ratio. Negative equity usually follows years of losses, large write-downs, or buybacks and dividends that have returned more cash than the company earned. Some profitable, cash-generating companies end up here for the last reason, and for them the ratio has simply stopped being meaningful. When you see a negative figure, look at the debt and earnings directly, using net debt to EBITDA and the interest coverage ratio. StocksXray stock pages also carry a red flag for negative equity.

Common mistakes and limits

Treating book equity as if it were market value. Equity on the balance sheet is an accounting figure built from past share issuance and accumulated profits. Buybacks, large write-downs and years of losses all reduce it. Some profitable companies end up with very small or even negative equity mainly because they returned so much cash to shareholders. A negative ratio does not mean "no debt"; it means the formula has stopped being meaningful, and you need to look at the company's debt and earnings directly.

Ignoring the terms of the debt. Two companies with the same ratio can be in very different positions. One may have fixed-rate bonds that mature in fifteen years; the other may have floating-rate loans due next year. The ratio says nothing about interest rates, maturities, covenants or how easily the company can refinance.

Ignoring earnings power. A ratio of 2.0 is far less alarming for a business with strong, stable profits than for one with weak or volatile profits. That is why the ratio is best paired with measures that connect debt to earnings, such as net debt to EBITDA and the interest coverage ratio.

Forgetting what leverage does to returns. Borrowing raises return on equity when things go well, which can make a heavily indebted company look more profitable per dollar of equity than it really is as a business.

Missing obligations that sit outside the ratio. Pension deficits, purchase commitments and guarantees may not appear in a simple borrowings figure. The notes to the financial statements are where they are disclosed.

Where to see it on StocksXray

Financial health makes up 20% of the X-Ray Score, and every metric on the site is percentile-ranked against companies in the same sector. That means a borrowing level that looks high in isolation is judged against what is normal for that industry. Stock pages also include a red flag for negative equity, one of the cases where this ratio breaks down. The full approach is described on the methodology page.

Frequently asked questions

Is a high debt-to-equity ratio bad? Not always. A high ratio means more of the business is financed by lenders, which raises risk because interest and repayments are fixed. Whether that is a problem depends on the industry, the interest rate, the debt's maturity and how stable earnings are. Treat a high ratio as a reason to investigate, not a verdict.

Is a low debt-to-equity ratio always good? A low ratio usually means less financial risk, but it says nothing about profitability or growth. Some businesses with steady cash flows carry debt on purpose, so a low ratio is only one input.

Does debt-to-equity include leases? It depends on the source. Some data providers include lease obligations in debt and others leave them out, so the same company can show different ratios. When comparing companies, make sure both figures were built the same way.

What is the difference between debt-to-equity and net debt to EBITDA? Debt-to-equity compares borrowing with the book value of shareholders' equity. Net debt to EBITDA compares borrowing, after subtracting cash, with annual earnings, so it shows roughly how many years of earnings it would take to repay the debt. The second links debt to earnings power, which the first does not.

Why do banks have high debt-to-equity ratios? Banks fund themselves mostly with customer deposits and other obligations, so their ratios are naturally high and a standard debt-to-equity ratio tells you little about them. Banks and insurers are usually judged with measures designed for them.

How does debt-to-equity affect return on equity? Borrowing can raise return on equity when things go well, because profit is spread over a smaller base of equity. That can make a heavily indebted company look more profitable per dollar of equity than it really is, so read ROE next to the debt-to-equity ratio.

Key takeaways

• Debt-to-equity compares borrowing with shareholders' book equity, but definitions vary, so check what is included before comparing companies.
• Reasonable levels differ widely by industry; compare with sector peers and look at the multi-year trend.
• Buybacks, write-downs and losses can shrink book equity and distort the ratio, and negative equity makes it meaningless.
• The ratio ignores interest rates, maturities and earnings, so read it alongside coverage and cash-flow measures.
• A high ratio is a reason to investigate, not a verdict on its own.