### Financial Leverage Ratio Analysis

Definition: Financial Leverage Ratio (also called long-term solvency ratio) is used to measure the firm's ability to repay its long-term debts. It gives an indication of the long-term solvency of the firm.

Formula:
1) Debt to Equity = Total Debt / Total Equity
2) Total Debts to Assets = Total Liabilities / Total Assets
3) Interest Coverage Ratio = Earnings Before Interest and Taxes / Interest Charges
4) Debt service coverage ratio = Net Operating Income / Total Debt Service
5) Capitalization Ratio = Long-term Debt / (Long-term debt + Shareholder equity)

Learn how to calculate financial leverage ratio with the following examples:

Example 1:
CK Ltd has total liabilities of \$700,000 and total stockholders' equity of \$380,000, then the debt/capital ratio is: 700,000 / (700,000 + 380,000) = 700,000 / 1,080,000 = 0.6481 = 64.81%

Example 2:
Saint Ltd. is looking at an investment property with a net operating income of \$87,000 and an annual debt service of \$58,000. The debt service coverage ratio for this property = 87,000 / 58,000 = 1.5

Example 3:
Jimmy plc has total sales revenue of \$99,000 for the year. It has cost sales \$9,000 and operating expenses of \$5,000. The company's interest expense for the year is \$25,000.
Then,
Earnings Before Interest and Taxes = Sales – Cost of sales – Operating expenses
EBIT = \$99,000 - \$9,000 - \$5,000
EBIT = \$85,000
Interest Coverage Ratio = \$85,000/\$25,000 = 3.4 times

Example 4:
Peters Ltd has the following information:
Creditors \$2,000
Loan \$38,000
Buildings \$60,500
Debtors \$7,000
Bank \$5,000
Stocks \$4,500

Then, the Total Liabilities = 2,000 + 38,000 = \$40,000
Total Assets = 60,500 + 7,000 + 5,000 + 4,500 = \$77,000
Total Debts to Assets = 40,000 / 77,000 = 0.519

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