What does the debt to equity ratio indicate about a company?

The debt to equity ratio is a financial metric that indicates the relative proportion of a company's debt to its shareholders' equity. This ratio is a critical measure of a company's financial leverage and overall risk profile. A higher ratio suggests that a company is financing its growth through debt, which can indicate more risk, particularly if the company faces volatile earnings or economic downturns, as it has a higher obligation to meet debt repayments. Conversely, a lower ratio may imply a more conservative approach to financing, potentially indicating lower risk, as it relies more on equity financing.

Understanding this ratio is vital for investors and stakeholders as it provides insights into how much risk a company is taking on and how much reliance is placed on external borrowing versus internal financing through equity. Thus, the correct choice emphasizes the relationship between debt and equity, which is central to assessing financial stability and risk in businesses.