What is Debt-to-equity (D/E)?
Qarz / kapital (D/E)
In short
Interest-bearing debt ÷ shareholders' equity. Shows how much of the business is funded by borrowing.
The halal-screening debt ratio is different: it divides debt by MARKET capitalisation, not by book equity.
Debt-to-equity (D/E) shows how much of a company's business is funded by interest-bearing debt and how much by shareholders' money.
D/E = Interest-bearing debt ÷ Shareholders' equity
Interest-bearing debt means bank loans and bonds (short- and long-term). Some sources use total liabilities instead, so numbers can differ — check the definition.
Why it matters
Debt amplifies profit: in good years ROE is higher. But in bad years interest still has to be paid, and a heavily indebted company is the first to struggle in a crisis. D/E is a quick gauge of that risk. Read it together with interest coverage: even large debt is less risky if profit covers the interest comfortably.
Industry differences
Utilities, telecoms and real estate companies naturally run with high D/E thanks to stable cash flows. Software companies often carry very little debt. For banks the metric is interpreted quite differently.
The halal-screening debt ratio is different
Halal screening divides debt not by book equity but by market capitalisation (the debt ratio). The AAOIFI standard sets a 30% limit for that ratio; the exact rules limitup uses are in the methodology. So a company with a high D/E can come out quite differently on the halal debt ratio.
Example
Two hypothetical companies ($ millions):
- A: short-term debt 100 + long-term debt 500 = 600; equity 400 → D/E = 600 ÷ 400 = 1.5
- B: debt 100; equity 500 → D/E = 100 ÷ 500 = 0.2
A has $1.50 of debt for every $1 of shareholders' money.
Now let A's market cap be $3,000 million. The halal-screening debt ratio: 600 ÷ 3,000 = 20%. The same debt looks "high" on D/E but much lower relative to market cap — because the market values the company far above its book value.
Mistakes and tips
Compare D/E only among companies in the same industry.
Check debt maturities too: large debt due in the next few years may have to be refinanced at a higher rate.
If equity is negative (for example due to heavy buybacks), D/E is meaningless — judge the debt against profit and cash flow instead.
Frequently asked questions
- What is a good debt-to-equity ratio?
- For many industrial companies a level below 1 is considered conservative, but it depends heavily on the industry. What matters is whether the company can comfortably service the debt from profit and cash flow.
- Is D/E the same as the debt ratio used in halal screening?
- No. D/E divides debt by book equity, while halal screening under the AAOIFI standard divides it by market capitalisation, so the results can differ a lot.
Learn it in the Academy
This term is covered with hands-on examples and a quiz in these lessons of the interactive course.
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