Definition
The debt-to-equity ratio divides debt by equity. Some analysts use total liabilities as the numerator and others use only interest-bearing debt, so the definition must be stated. Equity in a consolidated balance sheet includes the noncontrolling interest, which sits within equity separate from the parent's share under ASC 810-10.
Why it matters in an audit or review
Leverage drives going concern analysis, covenant compliance and the risk of misstatement in debt classification. Credit agreements usually define their own version of the ratio, often with adjusted amounts, and the audit team tests compliance against that definition rather than a textbook formula. A ratio that moves sharply without new borrowing can signal unrecorded liabilities or an equity write-down.
Example
Illustrative: total liabilities of $2,400,000 and total equity of $1,600,000 give a ratio of 1.5. If a $400,000 goodwill impairment reduces equity to $1,200,000, the ratio rises to 2.0 with no change in borrowing.
Common mistakes
- Comparing a total-liabilities ratio from one source with an interest-bearing-debt ratio from another.
- Ignoring negative equity, which makes the ratio meaningless.
Sources
- AICPA, AU-C Section 520, Analytical Procedures
- FASB ASC 810-10-45, Consolidation, Overall, Other Presentation Matters (noncontrolling interest presented in equity)
- SEC, Regulation S-X Rule 5-02, Balance sheets (17 CFR 210.5-02, ecfr.gov)
Definitions paraphrase AICPA and FASB guidance; read the standard itself before relying on a requirement. Example figures are illustrative. This page is guidance, not professional advice. Report an error