How to Use Financial Reports to Calculate the DebttoCapital Ratio
Lenders are always sure to look at debt on financial reports using the debttocapital ratio, which measures a company’s leverage by looking at what portion of its capital comes from debt financing.
How to calculate the debttocapital ratio
You use a threestep process to calculate the debttocapital ratio:

Find the total debt.
Total debt = Shortterm borrowing + Longterm debt + Current portion of longterm debt + Notes payable

Find the capital.
Capital = Total debt + Equity

Calculate the debttocapital ratio.
Total debt ÷ Capital = Debttocapital ratio
To show you how to calculate the debttocapital ratio, use the information from Mattel’s and Hasbro’s 2007 balance sheets.
Mattel
First, to find out Mattel’s total debt, add up Mattel’s shortterm and longterm debt obligations:
Shortterm borrowings $9,844,000
Current portion of longterm debt $400,000
Longterm debt $1,100,000
Total debt $1,509,844,000
Next, add the total debt to total equity to figure the number for capital:
$3,067,044,000 (Equity) + $1,509,844,000 (Debt) = $4,576,888,000 (Capital)
Finally, calculate the debttocapital ratio:
$1,509,844,000 (Total debt) ÷$4,576,888,000 (Capital) = 0.33 (Debttocapital ratio)
So Mattel’s debttocapital ratio was 0.33 to 1 in 2007.
Hasbro
First, to find out Hasbro’s total debt, add up Hasbro’s shortterm and longterm debt obligations:
Shortterm borrowings $224,365,000
Current portion of longterm debt $0
Longterm debt $1,396,421,000
Total debt $1,620,786,000
Then add the total debt to total equity to find out the number for capital:
$1,507,379,000 (Equity) + $1,620,786,000 (Debt) = $3,128,165,000 (Capital)
Finally, calculate the debttocapital ratio:
$1,620,786,000 (Total debt) ÷ $3,128,165,000 (Capital) = 0.52 (Debttocapital ratio)
So Hasbro’s debttocapital ratio was higher than Mattel’s, at 0.52 to 1.
What do the numbers mean?
Lenders often place debttocapital ratio requirements in the terms of a credit agreement for a company to maintain its credit status. If a company’s debt creeps above what its lenders allow for the debttocapital ratio, the lender can call the loan, which means the business has to raise cash to pay off the loan.
Companies usually take care of a call by finding another lender. The new lender likely charges higher interest rates because the company’s higher debttocapital ratio makes the company appear as though it’s a greater credit risk.
Generally, companies are considered to be in good financial shape with a debttocapital ratio of 0.35 to 1 or less. If a company’s debttocapital ratio creeps above 0.50 to 1, lenders usually consider the company a much higher credit risk, which means it has to pay higher interest rates to get loans.
Take note of the ratio and how it compares with the ratios of similar companies in its industry. If the company has a higher debttocapital ratio than most of its competitors, lenders probably see it as a much higher credit risk.
A company with a higherthannormal debttocapital ratio faces an increasing cost of operating as it tries to meet the obligations of paying higher interest rates. These higher interest payments can spiral into more significant problems as the cash crunch intensifies.
In a worstcase scenario, the company can seek bankruptcy protection from its creditors to continue operating and to restructure its debt. Many times its stock value plummets — and may have no value at all if the company emerges from bankruptcy.