Proprietary Ratio
The Proprietary Ratio, also known as the Equity Ratio, is a financial metric that measures the proportion of total assets funded by owners’ equity. It shows the contribution of owners in the total capital of the business and provides insight into the company’s financial leverage and solvency.
The formula to calculate the Proprietary Ratio is:
Proprietary Ratio = Shareholder’s Equity / Total Assets
In other words, it shows what proportion of the total assets is owned by the shareholders. A higher ratio indicates less reliance on debt and other external sources of financing, suggesting that the company has a strong financial position. Conversely, a lower ratio might suggest higher financial risk due to greater reliance on debt.
However, the ideal ratio can vary significantly depending on the industry and the specific business model of the company. Some companies are more capital-intensive and may require more debt financing, leading to a lower Proprietary Ratio. Others may be less capital-intensive or may have more retained earnings, leading to a higher ratio. Therefore, the Proprietary Ratio is often used in conjunction with other financial ratios when analyzing a company’s financial health.
Example of the Proprietary Ratio
Suppose we have a company called “TechCo Inc.” with the following financials:
- Total Assets: $1,000,000
- Shareholder’s Equity: $700,000
Using the formula for the Proprietary Ratio, we can calculate:
Proprietary Ratio = Shareholder’s Equity / Total Assets
So, the Proprietary Ratio for TechCo Inc. would be:
Proprietary Ratio = $700,000 / $1,000,000 = 0.7 or 70%
This means that 70% of TechCo Inc.’s total assets are financed by the shareholders’ equity. This suggests that TechCo Inc. relies less on debt and more on equity for its financing, which could indicate a stronger financial position. However, one would need to compare this ratio with other companies in the same industry to have a better understanding of TechCo Inc.’s relative financial health and risk.
