Equity Multiplier

Equity Multiplier

“What can be added to the happiness of a man who is in health, out of debt, and has a clear conscience?” – Adam Smith

What is the equity multiplier?

Measures the use of equity (and debt) to finance a business

How is the equity multiplier calculated?

Equity multiplier = total assets / total equity.  Total assets includes all assets owned by a business.; total equity is the balance remaining after liabilities have been deducted from total assets. 

What does the equity multiplier mean to my business?  

A higher multiplier could indicate a business’s reliance on debt for financing, while a lower ratio is an indication the business is more reliant on equity.  This ratio is viewed by lenders as an indication of financial risk.  A higher ratio is considered more aggressive, while a lower ratio is more conservative.  This ratio is the inverse of the equity ratio, which indicates the percentage of equity being used to finance the business.  

The use of debt is not always a negative and used responsibly can fuel a business’s growth.  This ratio used in conjunction with other financial ratios can help determine how effectively debt is being used to finance operations.  

Negatives to the equity multiplier:
Much like other ratios, viewing this in isolation is not informative.  The effective use of equity can be determined by analyzing return on equity.  The effective use of debt can be determined by analyzing the interest coverage ratio.