Capital structure
In one sentenceThe mix of equity and long-term debt with which the business finances its assets and operations, affecting its risk, its cost of financing, and its owners' return.
Simply put
Every business chooses between its owners' money and lenders' money. More debt may raise the owners' return when the business earns more than the financing cost, but it raises risk when profits fall.
There is no single ideal ratio for all businesses: a business with stable profits can carry more debt than one with volatile profits.
Worked example
A manufacturing company finances its assets with equity of 6,000,000 SAR and long-term financing of 4,000,000 SAR.
Total financing6,000,000 + 4,000,000 = 10,000,000 SAR
Debt ratio4,000,000 ÷ 10,000,000 = 40%
Equity ratio = 6,000,000 ÷ 10,000,00060%
Formula: Each source ÷ total long-term sources of financing