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Solvency ratios (long term), Accounting Basics

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Solvency Ratios (Long Term): These Ratios measure the long term financial provision of the firm. Creditors and Bankers are mainly interested in liquidity. But shareholders, and financial institutions are concerned with the long-term financial prospects.   A variety of Solvency Ratios are:

(i)  Debt-Equity Ratio:  This ratio measures the relationship between borrowed Capital to own Capital.  There are many variations to this Ratio.  But, the most

Popular ones are:  Debt      (or) Outsider's funds         (Ideal Ratio = 1:1)

                         Equity         Share holders' funds

(ii) Proprietory Ratio:            Share holders' Funds

                                           Total Assets

(iii) Assets to Proprietory Ratios:

(a)  Fixed Assets to Proprietor's Fund Ratio =

Fixed Assets after Depreciation         (Ideal Ratio = 60% to 65%)

       Shareholders' Funds

(b) Current Assets to Proprietor's Fund Ratio = Current Assets

                                                             Shareholders' Funds

(iv)   Interest Coverage Ratio:   This ratio measures the ability of the firm in meeting its interest charges and thus gives the measure of protection to creditors for payment of interest.  Interest coverage ratio less than 2.0 suggests a risky situation

Interest Coverage Ratio = Profit before interest and Taxes

                                             Interest Expense

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