The debt to tangible net worth ratio is a very simple method used by business professionals as a quick way to analyze the financial health of a company.
The main idea behind the ratio lies in dividing the balance sheet liabilities by the tangible net worth.
What is Debt to Tangible Net Worth Ratio?
While the term “debt to the tangible net worth ratio” might sound like a complex financial calculation, it is actually quite simple to figure out. The debt to tangible net worth ratio measures the risk of your company’s debt by comparing its total liabilities to its tangible assets. Tangible assets are those that can be physically touched, such as property and equipment.
This ratio is important because it helps you determine how much debt your company can handle. The lower this ratio, the more easily your business can repay its debts. A high ratio suggests that your company may not be able to afford its debts and could fac
To calculate the debt to tangible net worth ratio, divide total debt by tangible net worth.
Debt to Tangible Net Worth = Total Debt / Tangible Net Worth
What is a good net worth to debt ratio?
The debt ratio helps you to determine the financial health of individuals, businesses, or governments. A debt ratio greater than one indicates that a company has more debt than assets if the debt ratio is greater than one. Meanwhile, if the debt ratio is less than 1, it means a company has more assets than debt.
A company with a high debt ratio is considered risky because it may not be able to generate enough income to satisfy its creditors. In some cases, a high debt ratio can doom a company, especially during economic downturns.
Investors look for a debt ratio between 0.3 to 06. Investors rate the debt ratio of 0.4 and higher as better and anything above 0.6 as poor.
How to improve debt to Tangible Net Worth?
A company’s debt to tangible net worth can be improved by increasing tangible net worth, decreasing long-term debt, or both.
The company can increase its tangible net worth by generating more revenue and profits for the year, which will increase the retained earnings on its balance sheet.
The company can decrease its long-term debt by paying down the principal balance of its debt obligations.
Conclusion
The debt to tangible net worth formula provides a quick and easy method for determining the leverage of a company. In determining this ratio, all forms of corporate debt, long-term debt, and short-term debt are added together and then added to the company’s cash on hand and short-term investments. This figure is then divided by the tangible assets that the company possesses.
This method of determining debt to tangible net worth gives a clear picture of how leveraged a firm actually is, which may be different than if only the accounts payable to other liabilities ratio was determined.