Compare and contrast the debt-to-equity ratio PDF

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Compare and contrast the debt-to-equity ratio...

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Compare and contrast the average debt-to-equity ratios of commercial banks and major retailers, such as Woolworths. Why is there such a big difference? – Harish Bommarapu (20182410) The debt-to-equity ratio is considered the most important ratio when discussing about the financial risk performance of the company. In any corporation, the debt-to-equity ratio allows the firm and the public to understand how much debt the company is carrying in relation to its equity. The debt-to-equity ratio is nothing but the division of the total liabilities of the companies by the total equity held by the shareholders according Hayes, A (2020). This ratio changes from market to market and even company to company because each of them have difference in operations and functions as they use their funding in a variety of ways. For example, According to Maverick J.B (2019) commercial banks, such as the Australia and New Zealand Banking Group Limited (ANZ Bank), are known to be heavily financed with debt whereas on the flip side, major retailers, such as Woolworths, pride themselves in more equity funded firms. This big difference is due to the change in goods and services each of them provide. Comparing the debt-to-equity ratios of these companies allows use to deeper enrich our understanding of how this concept works. Firstly, the commercial banks market is known to have debt to equity ratio compared to other in the stock exchange. The main reason for this difference is because of its use of debt financing more than its equity. Viney, Christopher, and Peter Phillips (2019) suggest a high debt-to equity ratio means more types risk. Banks make a high percentage of their money from giving out loans and charging interest which is a long-term way on obtain money. This form of profit that creates risk known as interest rate risk which means the risk taken when unknown conditions in the market effect the cost of fund or the return on investments. For example, according to (ANZ), A. (2020) the debt-to-equity ratio of ANZ Bank is at 2.92 in August 2020 compared to the markets value at 2.9. This means that the debt of the bank is 292% larger than the equity. Another reason for the bank not having the same amount of debt as equity is because of the risk factor provided to the investors (Maverick J.B 2019). Most investors in the modern day are known to risk averse, meaning they consider risk to be a threat and don’t invest in places where risk is high (Kaufman, K. 2020). Hence this provides a clear understanding why banks have more debt in their accounts as compared to equity. Secondly, the retail sector has a much lower debt-to-equity ratio compared to the banks because of its use of public funding such as selling products, issuing initial public offerings (IPOs) and spending money on short term assets. Major retailers like Woolworths and Myer sell products and services which come with high profits but low initial investments. Retailers get most of their funding from the investors because they have a low debt-to-equity ratio. This means lower risk. In August of 2020, as (WOW), W. (2020) mentioned, the majors retailers market debt-to-equity ratio value is at 0.5. From this we can understand how much more equity the market has compared to debt. This shows investors that companies in this market have low risk due to their lack of debt financing. Because of this investor are more inclined to deposit their surplus funds into this market because of the low risk even if it means returns are not relatively high. The asset base used in the retail sector is more diversified making it less risk and more desirable for investors. From this analysis of the debt-to-equity value of the major retail sector, we can appreciate the valuation process and why the its value is so low in contrast to other industries. Finally, as we compared the debt-to-equity values of both markets, we can understand how and why there is a large difference between these two major industries in the share market.

Firstly, the main comparison will come to their way of securing profits. Commercial banks give money in the short-term to the customers in exchange for profit in the long term which is the interest. This form of business leaves companies in debt as opposed to equity. On the other hand, major retails sell products and services which can be mass produced for cheap and sold for a high profit. This creates a strong equity bases because funding from debt is not needed unless an emergency. Secondly, because the commercial banks were beginning in debt, investors found it hard to invest in the companies as they come with more risk, so equity didn’t change drastically. Whereas the retailer industry found itself, in a minimal risk position making it more approachable to new and risk averse investors. In conclusion, the debt-to-equity ratio value is understanding and well knows its representation of the financial risk performance of a company and can be used to discover why some industries use more debt and others use more equity. Through the comparison exploration of the debt-to-equity ratios of the commercial banks and retailer industries, it is evident that the large reasons for the use of debt or equity is the type of industry. When comparing the performance of a company through the use of the debt-to-equity value, it is better to keep the companies in the same industry as this will make it hard to distinguish what is above and what is below market values. ReferencesHayes, A (2020). Debt-To-Equity Ratio – D/E (2020). Available at: https://www.investopedia.com/terms/d/debtequityratio.asp (Accessed: 27 August 2020). Maverick J.B (2019) What Debt-to-Equity Ratio Is Common for a Bank? (2020). Available at: https://www.investopedia.com/ask/answers/052515/what-debt-equity-ratio-commonbank.asp (Accessed: 27 August 2020). Viney, Christopher, and Peter Phillips (2019). Financial Institutions, Instruments and Markets, McGraw-Hill Australia, 2019. ProQuest Ebook Central, Available at: http://ebookcentral.proquest.com/lib/wsudt/detail.action?docID=5798433. (Accessed: 27 August 2020). (ANZ), A. (2020) ANZ Banking Group (ANZ) Financial Ratios - Investing.com AU, Investing.com Australia. Available at: https://au.investing.com/equities/australia---nzbanking-grp-ltd-ratios (Accessed: 27 August 2020). Kaufman, K. (2020) Here's Why Warren Buffett And Other Great Investors Don't Diversify, Forbes. Available at: https://www.forbes.com/sites/karlkaufman/2018/07/24/hereswhy-warren-buffett-and-other-great-investors-dont-diversify/#234886634795 (Accessed: 28 August 2020). Kokemuller. N (2020) When in Retail, How Do You Make Profit From Your Wholesale Purchases? (2020). Available at: https://smallbusiness.chron.com/retail-make-profitwholesale-purchases-76690.html (Accessed: 28 August 2020). (WOW), W. (2020) Woolworths Ltd (WOW) Financial Ratios - Investing.com AU, Investing.com Australia. Available at: https://au.investing.com/equities/woolworthslimited-ratios (Accessed: 28 August 2020)....