Proprietary Ratio or Equity Ratio:

Definition:

This is a variant of the debt-to-equity ratio. It is also known as equity ratio or net worth to total assets ratio.

This ratio relates the shareholder's funds to total assets. Proprietary / Equity ratio indicates the long-term or future solvency position of the business.

Formula of Proprietary/Equity Ratio:

Proprietary or Equity Ratio = Shareholders funds / Total Assets

Components:

Shareholder's funds include equity share capital plus all reserves and surpluses items. Total assets include all assets, including Goodwill. Some authors exclude goodwill from total assets. In that case the total shareholder's funds are to be divided by total tangible assets. As the total assets are always equal to total liabilities., the total liabilities, may also be used as the denominator in the above formula.

Example:

Share holders funds are $1,800,000 and the total assets, which are equal to total liabilities are $3,000,000.

Calculate proprietary ratio or  Equity ratio.

Calculation:

Proprietary or Equity Ratio = 1,800,000 / 3,000,000

This means that out of every $1 employed in the business, shareholders contribution is about 60 cents. Accordingly, the creditors contribution would be the remaining 40 cents.

Significance:

This ratio throws light on the general financial strength of the company. It is also regarded as a test of the soundness of the capital structure. Higher the ratio or the share of shareholders in the total capital of the company, better is the long-term solvency position of the company. A low proprietary ratio will include greater risk to the creditors.

This ratio may be further analyzed into the following two ratios:

1. Ratio of fixed assets to shareholders/proprietors' funds
2. Ratio of current assets to shareholders/proprietors' funds

 

You may also be interested in other relevant articles: Horizontal Analysis or Trend Analysis Trend Percentage Vertical Analysis Limitations of Financial Statement Analysis Accounting Ratios definition, advantages, classifications and limitations Financial Ratio Formulas Profitability ratios: Gross profit ratio Net profit ratio Operating ratio Expense ratio Return on shareholders investment or net worth Return on equity capital Return on capital employed (ROCE) ratio Dividend yield ratio Dividend payout ratio Earnings Per Share Ratio Price earning ratio Liquidity ratios: Current ratio Liquid /Acid test / Quick ratio Activity ratios: Inventory/Stock turnover ratio Debtors/Receivables turnover ratio Average collection period Creditors/Payable turnover ratio Working capital turnover ratio Fixed assets turnover ratio Over and under trading Leverage ratios or long term solvency ratios: Debt equity ratio Proprietary or Equity ratio Ratio of fixed assets to shareholders funds Ratio of current assets to shareholders funds Interest coverage or debt service ratio Capital gearing ratio Over and under capitalization

 

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