How to measure a company’s financial strength using the equity to assets ratio

Julie Brownlee, Fsp Invest, 03 Aug. 2015

Tags: equity to assets ratio, what is the equity to assets ratio, how to use the equity to assets ratio, how to measure financial strength, financial ratios,



When investing in shares, you want to find the companies offering you the best future prospects for growth and profits.

One thing worth paying attention to is a company’s financial strength. A company laden with debt can be a more risky investment.

So how can you measure a company’s financial strength?

You can use the equity to assets ratio…



What is the equity to assets ratio?


The equity to assets ratio compares the proportion of assets a company has relative to its shareholder equity.

To calculate the equity to assets ratio you divide shareholders’ funds by the total assets of a company.

For example, Company ABC has total assets of R100 million. Its shareholders’ equity is R70 million. This gives an equity to assets ratio of 0.7.

In other words, shareholders contributed 70% of the company’s assets and creditors contributed 30%.

The equity to assets ratio is one way to measure the overall financial strength of a company, the experts at Money Week explain.


How to use the equity to assets ratio


The higher the equity to assets ratio, the stronger the financial position of a company.

The lower the equity to assets ratio, the poorer the financial position of a company. It implies that a company is carrying a lot of debt and this means it has to use more of its income to service this debt.

If a company goes through a bad spell, such as sales fall, the lower the ratio is, the harder it will be for the company to continue to service its debt and it may default on repayments.

When a company has a lot of debt, it tends to pay higher interest rates to its creditors to secure funding.

You’ll find the equity to assets ratio differs amongst different industries. It’s a useful ratio to use to compare companies in the same industry or similar sectors.

So there you have it. How to measure a company’s financial strength using the equity to assets ratio.

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