Virginia Contractor General Practice Test

What does the debt to equity ratio represent?

1. Total Assets / Total Debt

2. Total Debt / Total Equity

3. Total Liabilities / Total Assets

4. Total Equity / Total Debt

The correct answer is: Total Debt / Total Equity

The debt to equity ratio is a key financial metric that represents the relationship between a company's total debt and its total equity. It is calculated by dividing the total debt of a company by its total equity. This ratio is crucial as it indicates the extent to which a company is financing its operations through debt versus wholly owned funds. A high debt to equity ratio suggests that a company relies more on borrowed money and may be seen as riskier to investors, as it indicates higher leverage. Conversely, a lower ratio signifies that a company uses less debt in its capital structure, which may indicate a more stable and conservative approach to financing. Understanding this ratio helps stakeholders assess the financial health and capital structure of a business, thus informing investment and financial decisions. The other options mentioned do not align with the definition of the debt to equity ratio. They represent different financial ratios that focus on other aspects of a company's financial situation.