What is Solvency Ratio?
Solvency Ratio measures long-term financial health by comparing net income plus depreciation to total liabilities. It answers: can this business meet all its obligations over time, not just immediate bills?
Why Solvency Matters
Liquidity ratios measure short-term survival. Solvency measures long-term viability. A company can have excellent liquidity but poor solvency if long-term debt is overwhelming relative to earnings power.
For founders planning multi-year growth trajectories, solvency analysis ensures the business model can sustain itself through investment cycles without becoming overleveraged.
Interpreting Solvency Ratio
Higher is better. A ratio above 20% is generally considered healthy. Below 10% signals potential long-term financial stress even if short-term liquidity looks fine.
Formula
Solvency Ratio = (Net Income + Depreciation) ÷ Total Liabilities
Expressed as a percentage
Example
Your SaaS company has:
- Net Income: $200,000
- Depreciation: $25,000
- Total Liabilities: $750,000
Solvency Ratio = ($200,000 + $25,000) ÷ $750,000 = 30%
You generate 30 cents toward liabilities for every dollar you owe annually. That indicates strong long-term financial health.