UGC NET COMMERCE November 2017(Paper-II) Q6
- Option : A
- Explanation : Long Term Solvency Ratio: The long term solvency ratio indicates the ability of the firm to meet its long term obligations. It includes the loan taken from the financial institutions, banks and issues of debentures and bonds. It is very much essential to study the long term liabilities, consists of the following ratios:
(i) Debt-Equity Ratio
(ii) Proprietary Ratio/Equity Ratio
(iii) Solvency Ratio
Debt Equity Ratio: It indicates the relationship between the outsider funds and shareholder’s funds in the business. Outsiders funds includes both the long-term as well as short-term liabilities. The shareholder’s fund includes the equity share capital, preference share capital, capital reserves, accumulated profits and surpluses, etc. The formula use to calculate the Debt-Equity Ratio is as follows:
There is no rules of thumb to measure the ratio. Usually 1 : 1 ratio may be considered as satisfactory ratio.
Higher debt equity ratio shows lesser margin for long term lenders. This ratio indicates to what extent the firm depends on outsiders’ funds for existence.
Purpose of Debt to Equity Ratio: The purpose of debt equity ratio is to measure the long term solvency of the business. A higher debt to equity ratio is not considered good for the business.
