Texas Ratio Formula
To calculate the Texas Ratio, you divide a bank's bad debt on the books by the amount of money it has to absorb the bad debt.
Bad debt refers to loans that are delinquent or 'non-performing'. In other words, these are loans that aren't getting paid back.
Money available to absorb the bad debt refers to tangible equity capital and loss reserves (or money that the bank has set aside in anticipation of some loans going bad).
After crunching the numbers, you get a Texas Ratio. If the number approaches 100% (or higher), the Texas Ratio suggests that the bank is more likely to fail.
Using the Texas Ratio
Note that the Texas Ratio is just one measure of a bank's strength. A high Texas Ratio does not guarantee that a bank will fail, but it's a useful piece of data. There's plenty of debate about the value of the Texas Ratio, so don't just use it in isolation - it's a piece of a larger puzzle.