What happens when the debt ratio is high?

Answer 1

The consequences of a company's high debt ratio depend on the nature of the capital markets in which that company raises its capital. In some countries such as Japan, companies tend to rely primarily on bank borrowing for financing, and a high debt ratio (compared with American companies) is fairly common. Since the banks are the primary creditors, they will care only about whether the company is liquid enough to repay the debt.

In the US, however, and other countries that rely more heavily on issuing and selling shares of stock to raise capital (instead of borrowing), a high debt ratio will make a company look riskier, and may make it more difficult for the company to borrow additional funds. And if the company issues bonds to raise capital, it may have to offer potential investors higher-than-normal interest rates of return in order to make their bonds more attractive to the investors. The riskier a company looks, the more it has to compensate investors for assuming that pervceived risk.