Equity Ratio

Article byDheeraj Vaidya, CFA, FRM

What Is Equity Ratio?

The equity ratio is the solvency ratio that helps measure the value of the assets financed using the owner’s equity. It is calculated by dividing the company’s total equity by its total assets. It is a financial ratio used to measure the proportion of an owner’s investment used to finance the company’s assets.

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For eg:
Source: Equity Ratio (wallstreetmojo.com)

It indicates the proportion of the owner’s fund to the total fund invested in the business. Traditionally it is believed that the higher the proportion of the owner’s fund the lower the degree of risk. The investors will get all the remaining assets left after paying off the liabilities.

Key Takeaways

  • The equity ratio is the solvency ratio. It measures the asset’s value funded utilizing the owner’s equity.
  • It is determined by dividing the total equity of the business by its assets. It is also a financial ratio that establishes how much of the owner’s investment funds the company’s acquisitions.
  • It shows the owner’s fund proportion to the total fund spent in the business. It calculates the ratio of the total assets funded by the shareholders compared to the creditors. It also shows a company’s total financial capacity and verifies whether the capital structure is healthy.

Equity Ratio Explained

Equity Ratio calculates the proportion of total assets financed by the shareholders compared to the creditors. Generally, a higher ratio is preferred in the company as there is safety in paying debt and other liabilities. If more financing is done through equity, there is no liability for paying interest.

In this case of return on equity ratio, the dividend is not an obligation. It is paid if the company is earning profits, but a low ratio can also be seen as a good result for the shareholders if the interest rate paid to creditors is less than the return earned on assets. Therefore, it is advised to the potential investors and creditors that equity ratio calculation should be analyzed from every angle before making any decision while dealing with the company.

Thus, the metric is a very strong source of information regarding the extent to which the business relies on equity as a source of capital compared to debt funding.

In percentage terms, it quantifies the equity portion in the capital structure.  Besides knowledge about the capital structure, it also helps assess the risk level and guide the management and stakeholders regarding investment decisions.


The equity ratio is calculated as shareholders’ equity divided by total assets, and it is mathematically represented as,

Equity Ratio = Shareholder’s Equity / Total Asset

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Shareholders’ equity includes Equity share capitalEquity Share CapitalShare capital refers to the funds raised by an organization by issuing the company's initial public offerings, common shares or preference stocks to the public. It appears as the owner's or shareholders' equity on the corporate balance sheet's liability side.read more, retained earnings,Retained Earnings,Retained Earnings are defined as the cumulative earnings earned by the company till the date after adjusting for the distribution of the dividend or the other distributions to the investors of the company. It is shown as the part of owner’s equity in the liability side of the balance sheet of the company.read more treasury stockTreasury StockTreasury Stock is a stock repurchased by the issuance Company from its current shareholders that remains non-retired. Moreover, it is not considered while calculating the Company’s Earnings Per Share or dividends. read more, etc., and Total assets are the sum of all the non-current and current assets of the company. It should be equal to the sum of shareholders’ equity and the total liabilities.

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Let us interpret the metric and understand why it is used in the financial market.

  • Since this ratio calculates the proportion of owners’ investment in the company’s total assets, a higher good equity ratio is considered favorable for the companies.
  • A higher level of investment by the shareholders attracts more investment by the potential shareholders as they think that the company is safe for investing as already, the level of investment by the investor is higher.
  • Also, a higher investment level provides security to the creditors as it shows that the company is not that risky to deal with. They can lend funds thinking that the company will be able to pay off its debt easily.
  • Companies having a higher return on equity ratio also suggest that the company has less financing and debt service cost as a higher proportion of assets are owned by equity shareholders. There is no financing cost, including interest in financing through equity share capital, compared to the cost incurred in debt financing and borrowing through banks and other institutions.
  • If possible, companies should go for equity financingEquity FinancingEquity financing is the process of the sale of an ownership interest to various investors to raise funds for business objectives. The money raised from the market does not have to be repaid, unlike debt financing which has a definite repayment schedule.read more rather than debt financing because equity financing is always economical as compared to debt financing because there are various financing & debt service costs associated with debt financing. It is mandatory to pay off such debts whether the business is in a good state.


Let us understand the concept of good equity ratio with the help of some suitable examples.

Let’s take an example of a company named jewels ltd involved in the manufacturing of jewelry whose balance sheet reported the following assets and liabilities:

Total Assets = Current Assets + Non-Current AssetsNon-Current AssetsNon-current assets are long-term assets bought to use in the business, and their benefits are likely to accrue for many years. These Assets reveal information about the company's investing activities and can be tangible or intangible. Examples include property, plant, equipment, land & building, bonds and stocks, patents, trademark.read more

equity ratio 1

= $100,000

Shareholders’ Equity = $65,000


Equity Ratio = Shareholder’s Equity / Total Asset

equity ratio 1.23png

= 0.65

We can see that the equity ratio of the company is 0.65. This ratio is considered a healthy ratio as the company has much more investor funding than debt funding. The proportion of investors is 0.65% of the company’s total assets.

From the above example of equity ratio analysis, we see how the financial statement is used to identify the factors in the formula and calculate the ratio so as to arrive at a value that represents portion of equity in the total capital structure of the business.


The significance or importance of the equity ratio analysis in the financial market is highlighted in the points detailed below.

Frequently Asked Questions ( FAQs)

What is considered a good equity ratio?

Typically, a business aims to increase an equity ratio of about 0.5 or 50%. Hence, it shows that there is more altogether ownership rather than debt. In addition, it means that the company possesses more than its creditors.

Why does the equity ratio increase?

Normally, the higher-value equity ratios show that a company constructively finances the asset needs with minimum debt. Moreover, this ratio increases for several reasons, including retained earnings, issuing new equity, debt reduction, and increased total assets

What is a good return-to-equity ratio?

Average ratios can be regarded as “good” and “bad” and differ considerably from sector to sector. Moreover, a return on equity ratio is considered good if the return to equity ratio is 15% to 20%.

This article has been a guide to what is Equity Ratio. We explain the interpretation of the ratio along with significance & example. You may also have a look at the following financial analysis articles –

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