Tangible Common Equity Ratio

The tangible common equity (TCE) ratio is a useful number to gauge leverage of a financial firm. Specifically, it answers the question: "How much can the value of a bank's assets fall before the entire value of tangible* common equity is wiped out?"

For example, assume a bank as a TCE ratio of 5%. If the value of all of the banks assets fell by 5%, theoretically stockholders would no longer have a claim on the bank's tangible assets.

Another way of thinking about the TCE ratio of 5% is that the remaining 95% of the bank's tangible assets have been purchased using loaned funds that the bank must repay.

This ratio is worth spending time with. Once investors understand its implications, they rarely look at banking businesses the same way.

* The word tangible, in accounting, essentially means anything that can be touched or traded. Cash, buildings, accounts receivable, inventories and stock holdings of a business are all tangible assets. Trade secrets, patents, copyrights, and goodwill are not tangible assets, even though they may have value.

Tangible Common Equity Ratio = (Total Shareholder's Equity - Total Intangible Assets - Preferred Stock) / (Total Assets - Total Intangible Assets)