We are an independent, advertising-supported comparison service. Our goal is to help you make smarter financial decisions by providing you with interactive tools and financial calculators, publishing original and objective content, by enabling you to conduct research and compare information for free - so that you can make financial decisions with confidence.
Our articles, interactive tools, and hypothetical examples contain information to help you conduct research but are not intended to serve as investment advice, and we cannot guarantee that this information is applicable or accurate to your personal circumstances. Any estimates based on past performance do not a guarantee future performance, and prior to making any investment you should discuss your specific investment needs or seek advice from a qualified professional.
The offers that appear on this site are from companies that compensate us. This compensation may impact how and where products appear on this site, including, for example, the order in which they may appear within the listing categories, except where prohibited by law for our mortgage, home equity and other home lending products. But this compensation does not influence the information we publish, or the reviews that you see on this site. We do not include the universe of companies or financial offers that may be available to you.
All reviews are prepared by our staff. Opinions expressed are solely those of the reviewer and have not been reviewed or approved by any advertiser. The information, including any rates, terms and fees associated with financial products, presented in the review is accurate as of the date of publication.
Checkmark Expert verified
Bankrate logoHow is this page expert verified?
At Bankrate, we take the accuracy of our content seriously.
“Expert verified” means that our Financial Review Board thoroughly evaluated the article for accuracy and clarity. The Review Board comprises a panel of financial experts whose objective is to ensure that our content is always objective and balanced.
Their reviews hold us accountable for publishing high-quality and trustworthy content.
Written by
Nina Semczuk
Nina Semczuk is a senior wealth editor on the Bankrate team. In previous roles, she’s worked on content for SmartAsset, MagnifyMoney, LendingTree, Money, Fairygodboss and The Muse.
Edited by
James Royal, Ph.D.
Bankrate principal writer and editor James F. Royal, Ph.D., covers investing and wealth management. His work has been cited by CNBC, the Washington Post, The New York Times and more.
Reviewed by
Mark Kantrowitz
Mark Kantrowitz is an expert on student financial aid, the FAFSA, scholarships, 529 plans, education tax benefits and student loans.
Bankrate logoAt Bankrate we strive to help you make smarter financial decisions. While we adhere to strict editorial integrity , this post may contain references to products from our partners. Here's an explanation for how we make money .
Bankrate logoFounded in 1976, Bankrate has a long track record of helping people make smart financial choices. We’ve maintained this reputation for over four decades by demystifying the financial decision-making process and giving people confidence in which actions to take next.
Bankrate follows a strict editorial policy, so you can trust that we’re putting your interests first. All of our content is authored by highly qualified professionals and edited by subject matter experts, who ensure everything we publish is objective, accurate and trustworthy.
Our investing reporters and editors focus on the points consumers care about most — how to get started, the best brokers, types of investment accounts, how to choose investments and more — so you can feel confident when investing your money.
Investing disclosure:
The investment information provided in this table is for informational and general educational purposes only and should not be construed as investment or financial advice. Bankrate does not offer advisory or brokerage services, nor does it provide individualized recommendations or personalized investment advice. Investment decisions should be based on an evaluation of your own personal financial situation, needs, risk tolerance and investment objectives. Investing involves risk including the potential loss of principal.
Bankrate logoBankrate follows a strict editorial policy, so you can trust that we’re putting your interests first. Our award-winning editors and reporters create honest and accurate content to help you make the right financial decisions.
We value your trust. Our mission is to provide readers with accurate and unbiased information, and we have editorial standards in place to ensure that happens. Our editors and reporters thoroughly fact-check editorial content to ensure the information you’re reading is accurate. We maintain a firewall between our advertisers and our editorial team. Our editorial team does not receive direct compensation from our advertisers.
Bankrate’s editorial team writes on behalf of YOU – the reader. Our goal is to give you the best advice to help you make smart personal finance decisions. We follow strict guidelines to ensure that our editorial content is not influenced by advertisers. Our editorial team receives no direct compensation from advertisers, and our content is thoroughly fact-checked to ensure accuracy. So, whether you’re reading an article or a review, you can trust that you’re getting credible and dependable information.
Bankrate logoYou have money questions. Bankrate has answers. Our experts have been helping you master your money for over four decades. We continually strive to provide consumers with the expert advice and tools needed to succeed throughout life’s financial journey.
Bankrate follows a strict editorial policy, so you can trust that our content is honest and accurate. Our award-winning editors and reporters create honest and accurate content to help you make the right financial decisions. The content created by our editorial staff is objective, factual, and not influenced by our advertisers.
We’re transparent about how we are able to bring quality content, competitive rates, and useful tools to you by explaining how we make money.
Bankrate.com is an independent, advertising-supported publisher and comparison service. We are compensated in exchange for placement of sponsored products and services, or by you clicking on certain links posted on our site. Therefore, this compensation may impact how, where and in what order products appear within listing categories, except where prohibited by law for our mortgage, home equity and other home lending products. Other factors, such as our own proprietary website rules and whether a product is offered in your area or at your self-selected credit score range, can also impact how and where products appear on this site. While we strive to provide a wide range of offers, Bankrate does not include information about every financial or credit product or service.
Our writers and editors used an in-house natural language generation platform to assist with portions of this article, allowing them to focus on adding information that is uniquely helpful. The article was reviewed, fact-checked and edited by our editorial staff prior to publication.
Leverage ratio is a term that includes various ratios that assess a company’s financial leverage. These ratios show the relationship between a company’s liabilities and its assets and equity, and help investors quickly see how indebted a company is, relative to its size.
Here are some common leverage ratios, their formulas and when to use them.
The debt-to-capital ratio measures a company’s leverage by assessing how much debt the company has versus how much total capital it has. It is determined by dividing a company’s total debt (short-term and long-term) by its total capital, which is debt plus shareholders’ equity.
Debt-to-capital = Total debt / (Total debt + Shareholders’ equity)
For example, if total debt is $4 million and shareholders’ equity is $12 million, then the debt-to-capital ratio is $4 million/$16 million = 0.25, or 25 percent. To find these numbers, refer to a company’s balance sheet.
The higher the debt-to-capital ratio, the more of a company’s capital comes from debt than from shareholder equity, and the lower the debt-to-capital ratio, the more of a company’s capital comes from shareholder equity.
A higher ratio typically implies a greater level of risk for the company, since debt payments must be made regularly or the company risks going into default and bankruptcy. And lower shareholders’ equity suggests that the company does not have sufficient financial resources if tough times emerge.
The ideal debt-to-capital ratio varies by industry and company size, but in general it should not exceed 0.5. For example, a debt-to-capital ratio of 0.5 means that one-half of the company’s capital is funded through debt and one-half through shareholders’ equity.
Businesses with lumpy cash flows — fluctuating income and expenses — need to have lower levels of debt to avoid trouble making payments on the debt, while those with more reliable cash flows can run with higher debt levels and still operate fine.
The debt-to-equity ratio measures a company’s debt against its shareholders’ equity. It is determined by dividing a company’s total debt (short-term and long-term) by its total equity.
Debt-to-equity ratio = (Total debt) / Shareholders’ equity
For example, a company with $4 million in debt and $12 million in shareholders’ equity would have a debt-to-equity ratio of 0.333, or 33.3 percent.
A higher ratio typically implies a greater level of risk for the company, since debt payments must be made regularly or the company risks going into default and bankruptcy. A lower ratio suggests that the company has sufficient equity capital to weather a business downturn. For investors, a high ratio is often a warning that the company is riskier because it relies on debt financing.
The optimal ratio varies by industry and the nature of the business. Companies with strong recurring cash flows can operate safely with higher levels of debt, while less stable businesses should rely more on shareholders’ capital.
The debt-to-equity ratio focuses solely on the equity portion, while debt-to-capital ratio considers both debt and equity in the calculation. Debt-to-equity ratio highlights the relationship between debt and equity, while debt-to-capital ratio provides a broader view of a company’s overall capital structure.
The interest coverage ratio shows a company’s ability to pay interest on its outstanding debt. It is figured by dividing the company’s pre-tax, pre-interest earnings by its interest expense.
Interest coverage ratio = EBIT (earnings before interest and taxes) / Interest expense
For example, a company with earnings before interest and taxes of $20 million and interest expense of $5 million would have interest coverage of 4 times.
A higher interest coverage ratio typically indicates better financial stability and the ability to repay debts, since the company can see earnings fall some and yet still be able to pay interest on its debt.
The optimal ratio can vary substantially between companies and industries. Companies in cyclical industries, for example, should have ample interest coverage in order to withstand downturns. Companies with highly regular cash flows – many real estate investment trusts (REITs) or consumer subscription businesses, for example – can run with relatively low interest coverage and still thrive.
The fixed-charge coverage ratio measures how effectively a company’s earnings can cover its fixed monthly charges, such as debt payments, interest costs and lease expenses. It’s calculated by adding interest expense, lease expense and other fixed charges to a company’s EBIT from the income statement and then dividing by those fixed charges.
Fixed-charge coverage ratio = (EBIT + fixed charges before taxes) / (Fixed charges before taxes + interest expense)
For example, a company with earnings before interest and taxes of $20 million, pre-tax fixed charges of $5 million and interest expense of $5 million would have fixed-charge coverage of $20 million + $5 million divided by the sum of $5 million and $5 million, or 2.5 times.
A higher fixed-charge coverage ratio shows better financial stability and the ability to repay the company’s debts and other ongoing “must pay” expenses. With a high ratio, the company can see profits fall some and yet still be able to “keep the lights on.”
The ideal ratio can vary substantially between companies and industries. Companies with irregular profitability should have ample fixed-charge coverage in order to withstand an economic downturn. Fixed charges can hit cyclical companies hard, since they have to cover payments regardless of how much money is coming in the door.
The net debt-to-EBITDA (earnings before interest, taxes, depreciation and amortization) ratio measures how much debt a company has for the cash flow it generates.The ratio shows how long it would take for a business to repay its debt if net debt and EBITDA remain stable.
Net debt-to-EBITDA ratio = (Total debt – cash and cash equivalents) / EBITDA
For example, a company with EBITDA of $25 million, total debt of $85 million and cash of $10 million would have a net debt-to-EBITDA ratio of $85 million – $10 million divided by $25 million, or 3 times.
A higher debt-to-EBITDA ratio indicates decreased financial stability, all else equal. High levels of debt relative to the company’s cash flow to support that debt could indicate financial stress. Additionally, if total debt exceeds total cash, then a company can be pushed into bankruptcy if its lenders call in their loans, which can happen if there’s an accounting scandal.
However, because of the tax benefits of using debt — interest expense is tax-deductible — it can make sense for companies to use some level of debt, even if they don’t exactly need it. Many companies can safely run with a ratio of 1 or even 2 times, but companies that have ratios of 4 or 5 times or more need predictable cash flows in order to be sure that they don’t run into financial hardship.
The operating leverage ratio shows the impact of a given sales increase on a business’s income before interest and taxes. The ratio measures the relationship between a business’s contribution margin and its net operating income.
Operating leverage ratio = Percentage change in EBIT / Percentage change in sales
For example, a company that grew earnings before interest and taxes by 20 percent on a 10 percent increase in sales would have operating leverage of 2 times.
A higher operating leverage ratio shows that a business can grow profits faster for any given sales increase. So generally speaking, the higher the operating leverage ratio, the better.
What is considered a good operating leverage ratio depends heavily on the industry. Industries that deliver physical products may have relatively low operating leverage, while those that deliver “knowledge products” such as software or advice may have very high operating leverage.
Leverage ratios are important tools for measuring a company’s financial health and risk. Knowing when and how to wield these calculations can lead to valuable investor insights, but they’re just a starting point for understanding what’s going on inside a company and what’s driving the numbers.
Nina Semczuk is a senior wealth editor on the Bankrate team. In previous roles, she’s worked on content for SmartAsset, MagnifyMoney, LendingTree, Money, Fairygodboss and The Muse.
Bankrate principal writer and editor James F. Royal, Ph.D., covers investing and wealth management. His work has been cited by CNBC, the Washington Post, The New York Times and more.
Mark Kantrowitz is an expert on student financial aid, the FAFSA, scholarships, 529 plans, education tax benefits and student loans.
