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The higher the ratio, the more the bank is relying on borrowed funds, which are generally more costly than most types of deposits Banks even admit the need of regulation of loan-deposit ratio itself. One executive of bank said lower that ratio is right in a general way, but if it is way lowered than peoples expectation, there might be serious side-effects. Then, what could be the side-effects of lowering loan-deposit ratio? If financial authority lower the ratio, small and mid-sized companies and ordinary people are hard to get the loan. In fact, banks loan of middle period is having been at a standstill. If the lowering the ratio-decision is made in this situation, small and midsized companies having low credit rating are actually impossible for getting a loan. In perspective of ordinary people, if the ratio is lowered so ordinary people go to the nonmonetary institutions or money lenders, financial authorities could be criticized by the fact that they couldnt decrease the loan itself but increase the interest rate to ordinary people. Actually, after the announcements of lowering loan-deposit ratio by financial authority, large sum of deposit which is sensitive to interest rate is increasing and structure of deposit maturity is becoming shorter and shorter focused on MMDA. Hyo chan Jeon, senior researcher of Samsung Economic Research Institute, expected that considering side-effects, its hard to regulate loan-deposit ratio for a long time.
that the costs have already been incurred, so every sale after the breakeven transfers to the operating income. On the other hand, a high variable cost company sees little increase in operating income with additional output, because costs continue to be imputed into the outputs. The degree of operating leverage is the ratio used to calculate this mix and its effects on operating income
Debt ratios help determine a business's total indebtedness and its ability to pay debt, according to James L. Kuhle of the California State University at Sacramento Business School. The debt ratio is calculated by dividing short-term and long-term debt by total assets. Assets include accounts receivable, office equipment and real estate, while possible debt items are short-term loan interest and long-term bond debt.
Risk
Smaller debt-to-asset ratios usually indicate lower lending risk. For example, in the case of business bankruptcy, a lender has a greater chance of recovering unpaid debt via liquidated assets. This is not always the situation though; if a business's revenue increases at a higher rate to a corresponding rise in debt ratio, the ratio can be used as an indicator of potential future revenue rather than a risk metric. Sponsored Links
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Standard
The standard debt-to-total assets ratio differs considerably among organizations. For example, municipal governments such as the city of West Linn, Oregon, have had a low debt ratio of 5.8 percent, but the Federal Reserve Bank has operated with a considerably higher debt-tototal assets ratio. For corporations, management decision-making, market conditions and investor expectations can all influence debt levels.
Consequences
The consequences of a high debt ratio include a higher borrowing interest rate and possible denial of new credit or loans to a business. A high debt ratio can also lead to a decline in revenue since the cost of debt is subtracted from a business's income. In some cases business tax may increase as a result of using debt to purchase highly taxable assets.
Relevance
The benefit of the debt-to-assets ratio is questionable at times. This is evident in a study published by the Journal of Financial and Strategic Decisions that found no supporting evidence showing a high debt ratio influenced business market value. This can be due to other financial aspects of a business and the limits of the debt ratio to illustrate a business's complete financial profile.
stockholders' equity; also called debt to net worth ratio. A high ratio usually indicates that the business has a lot of risk because it must meet principal and interest on its obligations. Potential creditors are reluctant to give financing to a company with a high debt position. However, the magnitude of debt depends on the type of business. For example, a bank has a high debt ratio but its assets are generally liquid. A utility can afford a higher ratio than a manufacturer because its earnings can be controlled by rate adjustments. Usually, book value is used to measure a firm's debt and equity securities in calculating the ratio. Market value may be a more realistic measure, however, because it takes into account current market conditions. See also capital structure.
DEBT TO EQUITY RATIO: Simply stating that because equity is much more expensive than debt funding, banks total funding costs will increase accordingly if their equity ratio is increased, biases the estimated increase upwards. As recently put forwards in the literature, one has to take into account that higher equity ratio lowers the volatility of equity and hence its required return. In addition, higher equity ratio makes a banks debt safer and lowers the required return on debt. Taking these two effects into account the Modigliani-Miller theorem implies that a banks total cost of funding should not be influenced by the banks equity ratio. However, the existence of explicit or implicit guarantees may reduce the latter effect and cause a banks total funding cost to increase somewhat when the equity ratio is raised. Miles, Yang, and Marcheggiano (2011) studying UK banks find a slight increase in their funding costs if the equity ratio is increased. Applying the estimates of Miles et. al. we find that a hypothetical doubling of DnB NOR Banks equity ratio from 5.5 to 11 per cent would increase its total funding costs in the range of 11 to 41 basis points. In steady state such an increase in Norwegian banks funding costs could reduce lending by 0.33 to 1.23 per cent. In the short run, an abrupt increase in banks required capital could however cause significantly larger reductions in lending due to frictions in the market for issuing equity.
relative to a competitor's ratio or the same ratio from a previous period is indicative
Return on Equity - ROE One of the most important profitability metrics is return on equity (or ROE for short). Return on equity reveals how much profit a company earned in comparison to the total amount of shareholder equity found on the balance sheet. If you think back to lesson three, you will remember that shareholder equity is equal to total assets minus total liabilities. It's what the shareholders "own". Shareholder equity is a creation of accounting that represents the assets created by the retained earnings of the business and the paid-in capital of the owners. Why Return on Equity Is Important A business that has a high return on equity is more likely to be one that is capable of generating cash internally. For the most part, the higher a company's return on equity compared to its industry, the better. This should be obvious to even the lessthan-astute investor If you owned a business that had a net worth (shareholder's equity) of $100 million dollars and it made $5 million in profit, it would be earning 5% on your equity ($5 $100 = .05, or 5%). The higher you can get the "return" on your equity, in this case 5%, the better.
Return on Equity Example Take a look at the same financial statements I've provided from Martha Stewart Living Omnimedia at the bottom of the page. Now that we have the income statement and balance sheet in front of us, our only job is to plug a the numbers into our equation. The earnings for 2001 were $21,906,000 (because the amounts are in thousands, take the figure shown, in this case $21,906, and multiply by 1,000. Almost all publicly traded companies short-hand their financial statements in thousands or millions to save space). The average shareholder equity for the period is $209,154,000 ([$222,192,000 + 196,116,000] 2]). Let's plug the numbers into the formula.
$21,906,000 earnings $209,154,000 average shareholder equity for period = 0.1047 return on equity, or 10.47% This 10.47% is the return that management is earning on shareholder equity. Is this good? For most of the twentieth century, the S&P 500, a measure of the biggest and best public companies in America, averaged ROE's of 10% to 15%. In the 1990's, the average return on equity was in excess of 20%. Obviously, these twenty-plus percent figures probably won't endure forever. In the past few years alone, small and large corporations alike have issued repeated earnings revisions, warning investors they will not meet analysts' quarterly and / or annual estimates. Return on equity is particularly important because it can help you cut through the garbage spieled out by most CEO's in their annual reports about, "achieving record earnings". Warren Buffett pointed out years ago that achieving higher earnings each year is an easy task. Why? Each year, a successful company generates profits. If management did nothing more than retain those earnings and stick them a simple passbook savings account yielding 4% annually, they would be able to report "record earnings" because of the interest they earned. Were the shareholders better off? Not at all; they would have enjoyed heftier returns had the earnings been paid out as cash dividends. This makes obvious that investors cannot look at rising pershare earnings each year as a sign of success. The return on equity figure takes into account the retained earnings from previous years, and tells investors how effectively their capital is being reinvested. Thus, it serves as a far better gauge of management's fiscal adeptness than the annual earnings per share. Variations in the Return on Equity Calculation The return on equity calculation can be as detailed as you desire. Most financial sites and resources calculate return on common equity by taking the income available to the common stock holders for the most recent twelve months and dividing it by the average shareholder equity for the most recent five quarters. Some analysts will actually "annualize" the recent quarter by simply taking the current income and multiplying it by four. The theory is that this will equal the annual income of the business. In many cases, this can lead to disastrous and grossly incorrect results. Take a retail store such as Lord & Taylor or American Eagle, for example. In some cases, fifty-percent or more of the store's income and revenue is generated in the fourth quarter during the traditional Christmas shopping period. An investor should be exceedingly cautious not to annualize the earnings for seasonal businesses. If you want to really understand the depths of return on equity, you need to open a new browser, leave this lesson in the background, and go read Return on Equity - The DuPont Model. This article will explain the three things that drive ROE and how you can focus on each one to increase your business or determine how safe growth is in another company; you could, for instance, figure out if recent improvements in profits were due to rising debt levels instead of better performance by management.
or leverage ratio.
1. EQUITY MULTIPLIER EQUITY MULTIPLIER (EM) shows the amount of assets owned by the firm for each equivalent monetary unit owner claims held by stockholders, i.e., the equity multiplier measures how many dollars of assets an institution supports with each dollar of capital. If a firm is totally financed by equity, the equity multiplier will equal 1.00, while the larger the number the more highly leveraged is the firm. EM compares assets with equity: large values indicate a large amount of debt financing relative to equity. EM, thus, measures financial leverage and represents both profit and risk measurement. EM affects a firm's profit because it has a multiplier impact on Return on Assets (ROA) to determine the firm's Return on Equity (ROE). EM is also a risk measure because it reflects how many assets can go into default before a company becomes insolvent. The EM ratio is best compared to industry averages. Formula: Total Assets / Net Worth
Earnings Per Share (EPS) Growth Rate = (EPS at end of period - EPS at beginning of period) / EPS at beginning of period The earnings per share growth rate indicates the amount of growth for investors.
This ratio helps determine the multiplier used in calculating the company's market value. A higher ratio yields a higher multiplier. The trend in this ratio indicates whether growth is steady , sporadic, accelerating or declining.
The earnings per share growth rate ratio is included in the financial statement ratio analysis spreadsheets highlighted in the left column, which provide formulas, definitions, calculation, charts and explanations of each ratio. The earnings per share growth rate ratio is listed in our profitability ratios. See list of ratios , or the financial statement ratio analysis spreadsheets which are not highlighted in the left column, to see which other ratios are calculated and explained in our spreadsheets. Click here to order excel accounting sprea
Net income to assets ratio definition and explanation: The net income to assets ratio is also referred to as the return on assets ratio. The net income to assets ratio provides a standard for evaluating how efficiently financial management employs the average dollar invested in the firm's assets, whether the dollar came from investors or creditors. A low net income to assets ratio indicates that the earnings are low for the amount of assets. The net income to assets ratio measures how efficiently profits are being generated from the assets employed. A low net income to assets ratio compared to industry averages indicates inefficient use of business assets.
The net income to assets ratio is included in the RA-150 Expert financial statement ratio analysis spreadsheet, which provides formulas, definitions, calculation, charts and explanations of each ratio. The net income to assets ratio is listed in our net income ratios and as return on assets ratio is listed in our profitability ratios.
Interest coverage ratio definition and explanation: The interest coverage ratio is also referred to as the times interest earned ratio. The interest coverage ratio indicates the extent of which earnings are available to meet interest payments. A lower interest coverage ratio means less earnings are available to meet interest payments and that the business is more vulnerable to increases in interest rates.
The interest coverage ratio is included in the financial statement ratio analysis spreadsheets highlighted in the left column, which provide formulas, definitions, calculation, charts and explanations of each ratio. The interest coverage ratio is listed in our leverage ratios.
Gearing ratio (long term debt to shareholders equity) definition and explanation: The long term debt to shareholders equity ratio is also referred to as the gearing ratio. A high gearing ratio is unfavourable because it indicates possible difficulty in meeting long term debt obligations.
The long term debt to shareholders equity ratio is included in the financial statement ratio analysis spreadsheets highlighted in the left column, which provide formulas, definitions, calculation, charts and explanations of each ratio. The long term debt to shareholders equity (gearing) ratio is listed in our liquidity ratios.
Net cash flows for investing ratio definition and explanation: The net cash flows for investing ratio determines the adequacy of debt and equity issuances.
The net cash flows for investing ratio is included in the financial statement ratio analysis spreadsheets highlighted in the left column, which provide formulas, definitions, calculation, charts and explanations of each ratio.
Net income to assets ratio definition and explanation: The net income to assets ratio is also referred to as the return on assets ratio. The net income to assets ratio provides a standard for evaluating how efficiently financial management employs the average dollar invested in the firm's assets, whether the dollar came from investors or creditors. A low net income to assets ratio indicates that the earnings are low for the amount of assets. The net income to assets ratio measures how efficiently profits are being generated from the assets employed. A low net income to assets ratio compared to industry averages indicates inefficient use of business assets.
The net income to assets ratio is included in the RA-150 Expert financial statement ratio analysis spreadsheet, which provides formulas, definitions, calculation, charts and explanations of each ratio. The net income to assets ratio is listed in our net income ratios and as return on assets ratio is listed in our profitability ratios.
The ratio of non-operating income to net income is listed in our net income ratios. See list of ratios , or the financial statement ratio analysis spreadsheets which are not highlighted in the left column, to see which other ratios are calculated and explained in our spreadsheets. Click here to order exce
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