For years, I’ve been analyzing companies, and there’s an indicator that banks never stop checking: the collateral ratio. It’s one of those numbers that tells you whether a company can truly pay what it owes—not just in the coming months, but over the long term. The difference from other indicators is crucial: while the liquidity ratio only looks at the short term, the collateral ratio shows you the full picture.

Basically, the collateral ratio measures whether a company has enough assets to cover all of its debt. It sounds simple, but it goes deep. You can find a company that looks good over the next 12 months but is destined to collapse in 2–3 years. That’s why banks use it all the time.

The formula is straightforward: divide total assets by total liabilities. That’s it. If a company has 100 million in assets and 50 in debts, your ratio is 2. If it has 100 in assets but 150 in debts, the ratio is 0.67. Numbers that speak for themselves.

Now, what’s the optimal value? Here’s the interesting part. A collateral ratio between 1.5 and 2.5 is considered healthy. Below 1.5, the company is in dangerous territory, with a real risk of insolvency. Above 2.5, you might be looking at inefficient management—too many unused assets and low leverage.

Let’s take Tesla: its most recent balance sheets showed assets of 82.34 billion and liabilities of 36.44 billion. The resulting collateral ratio was 2.26—within the optimal range, but on the high side. What does that mean? That Tesla is solid, but it’s probably able to leverage more. Now contrast that with Boeing: 137.10 in assets but 152.95 in liabilities. Ratio of 0.90. That’s concerning. The pandemic shattered its demand, and its numbers reflected that brutally.

Something novice investors miss: context matters immensely. Tesla looks over-leveraged if you look only at the numbers, but it’s a tech company where research requires equity capital. Boeing, on the other hand, has a compromised collateral ratio because it faced a real operational collapse.

A stark example: Revlon. The cosmetics company went bankrupt recently. In September 2022, it had 5.02 billion in liabilities but only 2.52 billion in assets. Its collateral ratio was 0.50—literally half of what it owed. This doesn’t appear out of nowhere; it’s the result of years of poor management. And here’s the critical point: companies that go bankrupt always have a compromised collateral ratio before they fall.

The advantage of this indicator is that it works for any company size. A startup and a multinational can be compared using the same ratio. You don’t need to be an accountant to pull the numbers from the balance sheet. And it’s predictable: if you see the collateral ratio deteriorating year after year, you’re seeing a red flag.

My advice: never rely on the collateral ratio alone. Combine it with the liquidity ratio to see what’s happening in the short term. Review the historical trend, not just today’s number. Understand the business. Revlon didn’t go bankrupt because its numbers were bad; its numbers were bad because its business was broken. The collateral ratio only shows you the symptom, not the disease. But it’s a symptom I never ignore when evaluating where to invest.