Blog Mutual Funds

Equity to Assets Ratio

Sarmaaya Desk
Sarmaaya Content Team

Key Takeaways:
• In the case of bankruptcy, the equity-to-asset ratio defines what percentage of a company's assets are owned by investors and not leveraged, and thus could come under the jurisdiction of debtholders (such as banks).
• The higher the equity-to-asset ratio, the less leveraged the company is, implying that the company and its investors hold a bigger share of its assets.
• It is a measure of Companies Financial Leverage
What is Equity to Assets Ratio:

The Equity to Asset ratio is the measure of the equity that a company or a business has compared against the total assets owned by the company or the business. It helps in the measurement of the solvency of a company. So basically, the equity to asset ratio helps in understanding the ability of the company or the business to pay off all the debts that it has if the company is supposed to stop its operations immediately. The equity to assets ratio is obviously determined from the information collected from the balance sheets and other informational sheets of the company.

How to calculate Equity to Assets Ratio?

Equity to Assets Ratio can be calculated simply by dividing the Net Worth of a company or a business by the Total Assets of the company.

Equity to Assets Ratio = Net worth / Total Assets

This ratio is basically measured in percentage and a high percentage seems to be good for the companies or the businesses. So if the percentage of equity to assets ratio is high that means that the company is less leveraged by the debts. Similarly, a lower percentage represents that more of the company’s operations are being leveraged by the debts. Any percentage of the equity to assets ratio below 70% suggests that a company has a low capacity of borrowing and a low percentage kind of puts the company at risk for this reason. Equity to asset ratio answers one question which is; what percentage of the company’s assets are owned by the investors? In other words, it is also a simplified version of the balance sheet of the companies.

Obviously an equity to asset ratio of 100% is an ideal scenario. But this does not necessarily mean that if the ratio is low it would be a cause of concern. Assets like real estate generate more stable income and therefore they have high leverage. So, it is not always about the number but the focus should be on the industry too. Because in some industries more of the leverage assets are needed while in some other industries lesser leveraged assets might be needed.

Key Takeaways:
• The current ratio is used to assess a company's capacity to meet short-term liabilities (those due within a year).
• The higher the value, the greater the company's short-term liquidity.
• A current ratio of less than one may indicate that the business will be unable to meet its current obligations.
• The current ratio has several flaws, including difficulty comparing it across industrial groupings, overgeneralization of specific asset and liability balances, and a lack of trending data.
• The current ratio allows investors to learn more about a company's ability to cover short-term debt with current assets and compare it to its competitors and peers on an apples-to-apples basis.
What is Current Ratio:

The current ratio is a financial ratio that assesses a company's capacity to pay short-term or one-year liabilities. It explains to investors and analysts how a firm might use current assets on its balance sheet to pay off current debt and other obligations. A current ratio equal to or slightly higher than the industry average is generally seen as appropriate. A lower current ratio than the industry norm could imply a higher risk of default or trouble. Similarly, if a company's current ratio is unusually high relative to its peers, it suggests that management isn't making the best use of its assets.

The current ratio is called "current" because it includes all current assets and liabilities, unlike some other liquidity ratios. The working capital ratio is another name for the current ratio.

Example of the Current Ratio Formula:

• Cash = \$28 million
• Marketable securities = \$30 million
• Inventory = \$5 million
• Short-term debt = \$5 million
• Accounts payables = \$20 million

Current assets = 28 + 30 + 5 = 63 million

Current liabilities = 5 + 20 = 25 million

Current ratio = 63 million / 25 million = 2.52x

The company currently has a current ratio of 2.5, which means that each dollar on loan or accounts payable may be readily settled 2.5 times.

A rate of more than one indicates that the company is financially healthy. There is no maximum limit to how much is "too much," as it varies by industry; nonetheless, a very high current ratio may signal that a company is hoarding cash rather than investing it in expanding its operations.

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