Gearing

Question 1

What is gearing ?

Answer 1

Measures to which a business is dependant on borrowed funds

Financial stability / the proportional of capital employed by long term borrowing

Question 2

What is the formula for Gearing ?

Answer 2

Non current liabilities / Capital employed X100

Question 3

What is debt to equity ratio ?

Answer 3

This compares the non current liabilities with the share capital and retained profits

Question 4

What is the formula for debt to equity ratio ?

Answer 4

Debt / Equity X100

Question 5

What are the benefits of being highly geared ?

Answer 5

Might be a cheaper alternative compared to share capital
Less shareholders means more control
Internal business funds may be too low
Interest rates may be low at the time

Question 6

What are some circumstances where being highly geared is attractive ?

Answer 6

Businesses able to take on much higher gearing when :

They specialise in necessities instead of luxuries

They have a strong / well established brand

Question 7

How can gearing be reduced ?

Answer 7

Reduce debt
Increase equity
Issuing ordinary shares ( increase share capital )
Retaining profits ( increased reserves )