Equity Multiplier

Equity multiplier is a financial leverage ratio which is calculated by dividing total assets by the shareholders equity. It tells about assets in dollar per dollar of equity. The higher the ratio the lower the financial leverage and the lower the ratio the higher the financial leverage.

Formula

Equity Multiplier =Total Assets
Total Equity

Equity multiplier is an important input in the DuPont return on equity analysis. DuPont return on equity analysis breaks up ROE into net profit margin, asset turnover and financial leverage (represented by equity multiplier as shown below:

ROE Under DuPont Analysis =Net Income×Sales×Total Assets=Net Income
SalesTotal AssetsTotal EquityTotal Equity

Higher equity multiplier leads to a higher return on equity.

Examples

Example 1: Company EP has total assets of $100 billion, beginning equity of $40 billion, net income for the year of $10 billion and dividends paid during the year of $4 billion.

We calculate the equity multiplier as total assets divided by total equity.

Total assets are $100 billion

Total equity = beginning equity + net income − dividends = $40 b plus $10 b minus $4 b = $46 billion

Equity multiplier is hence $100 billion divided by $46 billion and it equals 2.2

Example 2: Company DP has debt to equity ratio of 2. Find the equity multiplier

Debt/Equity = 2
Since debt = assets minus equity
(Assets − Equity)/Equity = 2
Assets − Equity = 2 Equity
Assets = 3 Equity
Assets/Equity = 3
Hence, equity multiplier is 3.

For further analysis of equity multiplier as part of DuPont analysis refer to: DuPont Analysis.

Written by Obaidullah Jan, ACA, CFA