In-depth fundamental analysis and research are the key reason behind every successful long-term investment. Fundamental analysis is very relevant as it helps you to understand about the company which you are interested to invest. With fundamental analysis investors use financial ratio’s to analyze a company. Financial ratio’s are Operational ratio’s , leverage ratio’s , valuation ratio’s and profitability ratios.
Financial ratio’s helps to understand the company in the most simplified manner and was made popularized by the father of fundamental analysis ‘Mr Benjamin Graham’. Leverage ratio’s helps to analyze the leverage status of the company and understanding the debt traps of company. By comparing a company’s leverage ratios to industry benchmarks and historical trends, investors can gain insight into a company’s financial risk profile and debt status. Proper research and analysis are very prominent to consider a stock for long-term investment. Investor must be able to identify the potential of a stock and industry to understand the growth potential and learn about the fundamentals to find the debt traps and right valuation for a company. Leverage ratios are relevant as it helps the investor to understand the debt of a company and take intelligent decisions according to get fruitful returns in the future.
TYPES OF LEVERAGE RATIO’S
1. INTEREST COVERAGE RATIO
Interest coverage ratio an important ratio that helps to understand the interest burden of a company related to its earnings of a company. Interest coverage ratio provides an indication of a company’s ability to service its debt. A high interest coverage ratio is good for the company and investors can understand that the company is generating good earnings to cover its interest expenses.
INTEREST COVERAGE RATIO can be found by (EBIT / INTEREST PAYMENT)
2. DEBT TO EQUITY RATIO
Debt to equity ratio interprets the total amount of total debt capital with respect to the equity. Debt to Equity ratio provides a measure of how much of a company’s assets are financed by debt versus equity. A high debt-to-equity ratio indicates that a company has a significant amount of debt relative to its equity, which can increase financial risk.
A value of 1 on debt-to-equity ratio indicates that the total amount of debt is equal to the total amount of equity capital of that company. A debt to equity of more than one depicts that higher leverage for the company and that has to be considered before investing. A debt to equity of less than one indicates that lower leverage for the company and that can be considered for investing.
DEBT TO EQUITY RATIO can be found by (TOTAL DEBT / TOTAL EQUITY)
3. DEBT TO ASSET RATIO
Debt to asset ratio helps to understand the asset financing status of a company. It helps us to understand how much of total assets are financed through debt capital. Higher percentage of debt to asset ratio indicates higher leverage and risk. The debt-to-assets ratio measures a company’s total debt relative to its total assets.
DEBT TO ASSET RATIO can be find by (TOTAL DEBTS / TOTAL ASSETS)
4. FINANCIAL LEVERAGE RATIO
Financial leverage ratio gives an indication that, to what extent the assets of a company are supported by shareholders equity. Higher the number of financial ratios indicates higher risk and higher leverage.
FINANCIAL LEVERAGE RATIO can be found by (TOTAL ASSETS / TOTAL EQUITY)