A solvency ratio (also, a leverage ratio) that relates the total amount of an entity’s long-term debt to its shareholders’ equity. It determines how much leverage an entity uses to finance its operations, as part of the total sources of funding.
Long-term debt-to-equity ratio = long-term debt/ equity
This ratio shows how much of an entity’s assets are financed by long-term financial obligations (but not short-term obligations), such as loans.
A higher ratio means an entity finances its capital with more debt, and vice versa.
For example, if an entity has the following items on its balance sheet: long-term liabilities = $40,000, short-term liabilities = $25,000, assets = $100,000, then the long-term debt-to-equity ratio is calculated as follows:
Long-term D/E = $40,000 / ($100,000 – $40,000)
Long-term D/E = $40,000 / $60,000 = 0.666
With a long-term debt-to-equity ratio of 0.666, the entity uses $0.666 of long-term leverage for every $1.00 of equity.
This ratio is also known as a long-term debt to capital ratio or for short as an LT-D/E ratio.
