finance correction
Financial project report
Investors and the company place great emphasis on financial ratios. Investors are interested in financial ratios like the debt-to-asset ratio for determining how well or badly the company is performing financially (Purcell, 2018).
The debt to asset ratio, measures the ratio of long- and short-term total debt to assets which are current and fixed assets. The following formula is used to determine the ratio;
Debt-to-asset ratio = . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Equation 1
Following are the debt-to-asset ratios for TSLA (Tesla), F (Ford), GM (General Motors), Chevrolet (GM) and Jeep (STLA), which is Stellantis. Nevertheless, because the fourth quarter of 2021 has not yet been released, it was not feasible to get tot ratios for that year. The graph below depicts the five-year trend for Tesla (TSLA), Ford (F), General Motors (GM), Chevrolet (GM), and Jeep (STLA).
|
debt to asset ratio |
|||||
|
|
2020 |
2019 |
2018 |
2017 |
2016 |
|
tesla |
54.59% |
76.36% |
78.77% |
80.34% |
73.95% |
|
Ford (F) |
88.47% |
87.15% |
85.94% |
86.19% |
87.69% |
|
General Motors (GM) |
78.88% |
79.85% |
81.18% |
82.96% |
80.12% |
|
Chevrolet (GM) |
78.88% |
79.85% |
81.18% |
82.96% |
80.12% |
|
Jeep (STLA) |
74.07% |
70.75% |
74.29% |
78.21% |
81.45% |
The experts agree that a ratio between 0.3 and 0.6 is the ideal debt ratio for investors. An investor measures how effectively a company is managing its debt using its debt-to-asset ratio. If they need to borrow more in the future, low-debt-to-asset ratio companies have room to borrow more. The ratio indicates the amount of interest a company will pay, and the higher it is, the higher the interest. The company's liquidity is hampered by high interest payments.
Debt finance, on the other hand, tends to rise when interest rates are low. It's worth noting that a firm with a low debt-to-asset ratio has a higher credit score. To put it another way, the less debts the company has, the better its credit rating will be. The firm is highly leveraged when the debt-to-asset ratio is extremely high and the investments are consequently riskier (Tracy, 2013).
With debt to asset ratios over 0.6, all the rest of the companies, including Tesla, have a very high debt to asset ratio. It is not good for Ford and their shareholders that their debt-to-asset ratio is above 0.85. Furthermore, it informs investors that the majority of the company's profits are utilized to pay loan interest.
According to the table below, only one company has managed to reach a low debt-to-asset ratio in the last several years. In the year 2020, Tesla Inc had a debt-to-asset ratio of 0.54.
Figure 1: trend for the Tesla (TSLA), Ford (F), General Motors (GM), Chevrolet (GM), Jeep (STLA) over the past five years.
For both small and large businesses, debt financing has numerous advantages and cons. In this case, debt financing is associated with the following benefits and drawbacks.
Advantages of debt financing
Business ownership: Using a loan as a means of funding the business does not require paying the loan back using equity. If an individual borrows money, personal properties, including stocks, are required to be used to repay back. In contrast, debt financing does not require this.
Tax deduction: Before taxes are deducted from taxes paid by businesses, the government must consider loans, interest, and depreciation. Thus, as loan amounts rise, interest rates do as well, which means government deductions for taxes reduce as well. As a result, business expenses are classified as loans. This means that the amount paid for loans will be deducted from the final taxable income (Tracy, 2013).
Low interest rates: Business lenders can negotiate low-interest rates in comparison to others when the business goes for loans. When business expenses are low, taxes are higher, so low-interest rates benefit the business. Usually, high-interest rates apply to peer-to-peer lending, short-term loans, credit cards in the financial market. A small business administration loan has a low-interest rate, among other loan options.
Debt can fuel growth: When buying equipment, inventory, or hiring workers, long-term loans can be quite helpful. The low-interest rate on these loans allows the business to run smoothly and without interruption.
Disadvantages of debt financing
The money must be paid: It does not matter whether the business fails, the debt has to be paid. A company can be liquidated in a clear manner since it is considered a separate entity. Therefore, assets will be sold at auction through nonpayment.
High interest rates: While the government attempts to control interest rates, market dynamics determine the interest rates irrespective of the "special" loans available for the business. Furthermore, it is common to find that a business is willing to take loans even with high-interest rates during desperate times.
Credit ratings are affected: An increase in the credit rating occurs when the company takes out a loan. An increase or decrease in credit rating is determined by how well or poorly a company pays back its loan. So, it is vital to check whether a loan will affect the rating wherever possible.
Collateral is needed: Businesses seeking funding for their operations must provide collateral in the form of their assets. For instance, buildings and equipment are common collateral. The building and the assets may be auctioned off by the company if payment is not received.
The performance of the business in the market determines whether a loan is good or bad for the business. Loans are quite useful for businesses that are making a profit. Profit-less businesses are more likely to face difficulties.
References
Tracy, J. A., & Tracy, T. C. (2013). Small business financial management kit for dummies. Hoboken, N.J: John Wiley & Sons.
Purcell, W. R. (2018). Understanding a company's finances: A graphic approach. Place of publication not identified: Diane Pub Co.
Debt asset ratio
tesla 2020 2019 2018 2017 2016 0.54590000000000005 0.76359999999999995 0.78769999999999996 0.8034 0.73950000000000005 Ford (F) 2020 2019 2018 2017 2016 0.88470000000000004 0.87150000000000005 0.85940000000000005 0.8619 0.87690000000000001 General Motors (GM) 2020 2019 2018 2017 2016 0.78879999999999995 0.79849999999999999 0.81179999999999997 0.8296 0.80120000000000002 Chevrolet (GM) 2020 2019 2018 2017 2016 0.78879999999999995 0.79849999999999999 0.81179999999999997 0.8296 0.80120000000000002 Jeep (STLA) 2020 2019 2018 2017 2016 0.74070000000000003 0.70750000000000002 0.7429 0.78210000000000002 0.8145
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