Leverage ratios represent the extent to which a business is utilizing borrowed money. It also evaluates company solvency and capital structure. Having high leverage in a firm’s capital structure can be risky, but it also provides benefits.
The use of leverage is beneficial during times when the firm is earning profits, as they become amplified. On the other hand, a highly levered firm will have trouble if it experiences a decline in profitability and may be at a higher risk of default than an unlevered or less levered firm in the same situation.
Finally, analyzing the existing level of debt is an important factor that creditors consider when a firm wishes to apply for further borrowing. Essentially, leverage adds risk but it also creates a reward if things go well.