The debt-to-equity ratio tells you how much debt a company has in relation to its equity. So, which is better: a higher or a lower ratio? If you think you know, then you can test your knowledge with the following practice questions.
Practice questions
How do you calculate the debt-to-equity ratio?
Which of the following statements is incorrect?
A. A high debt-to-equity ratio means the company has a lot of debt in relation to equity.
B. The higher the debt-to-equity ratio, the more debt the company has on its balance sheet.
C. The higher the debt-to-equity ratio, the more challenging it might be for the business to obtain debt financing.
D. The debt-to-equity ratio analyzes the relationship between total liabilities and total equity.
E. The higher the debt-to-equity ratio, the more profit the company has recorded.
Answers and explanations
Debt divided by equity
The debt-to-equity ratio is calculated as total debt divided by total equity.
The correct answer choice is E.
The higher the debt-to-equity ratio, the higher the debt balance. Profit increases retained earnings and equity. Therefore, a higher profit would actually decrease this ratio.
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