Gearing

AAA

DEFINITION of 'Gearing'

The level of a company’s debt related to its equity capital, usually expressed in percentage form. Gearing is a measure of a company’s financial leverage and shows the extent to which its operations are funded by lenders versus shareholders. The term “gearing” also refers to the ratio between a company’s stock price and the price of its warrants. Gearing can be measured by a number of ratios, including the debt-to-equity ratio, equity ratio and debt-service ratio. The appropriate level of gearing for a company depends on its sector, as well as the degree of leverage employed by its peers.

INVESTOPEDIA EXPLAINS 'Gearing'

For example, a gearing ratio of 70% shows that a company’s debt levels are 70% of its equity. Is this too much debt? That depends on the industry in which the company operates. A gearing ratio of 70% may be very manageable for a utility, but it may be far too much for a technology company.

In general, a company with excessive leverage as demonstrated by its high gearing ratio may be more vulnerable to economic downturns. This is because it has to make interest payments and service its debt through cash flows that may be significantly lower due to the downturn.
 
The flipside of this argument is that leverage works well during good times, since all the excess cash flows accrue to shareholders once the debt service payments have been made.

VIDEO

Loading the player...
RELATED TERMS
  1. Leverage Ratio

    Any ratio used to calculate the financial leverage of a company ...
  2. Degree Of Financial Leverage - ...

    A ratio that measures the sensitivity of a company’s earnings ...
  3. Capital

    1) Financial assets or the financial value of assets, such as ...
  4. Leveraged Floater

    A security, generally a bond, which has a leverage factor of ...
  5. Tier 1 Leverage Ratio

    The relationship between a banking organization's core capital ...
  6. Fixed Interest Rate

    An interest rate on a liability, such as a loan or mortgage, ...
RELATED FAQS
  1. What is the difference between a capital gearing ratio and a net gearing ratio?

    In the finance industry, the term "gearing" can be used in many different contexts. In essence, gearing is a ratio that reflects ... Read Full Answer >>
  2. If a company has a high debt to capital ratio, what else should I look at before ...

    A variety of equity valuation metrics can be utilized to evaluate a company along with the debt to capital ratio to get a ... Read Full Answer >>
  3. How can a firm bring down its operating leverage?

    A company with a lower percentage of fixed costs and a higher percentage of variable costs uses less operating leverage. ... Read Full Answer >>
  4. What is the long-term outlook of the banking sector?

    The long-term outlook of the banking sector remains cyclical, but with less volatility than in the past. Given structural ... Read Full Answer >>
  5. What are the biggest risks involved with financial spread betting?

    Financial spread betting is a type of financial derivatives product used to speculate the price movements of a security. ... Read Full Answer >>
  6. What is the difference between a drawdown magnitude and drawdown duration?

    Drawdown magnitude refers to an amount of money, while drawdown duration is in reference to a period of time. Drawdown is ... Read Full Answer >>
Related Articles
  1. Fundamental Analysis

    What is Gearing?

    Gearing, also called leverage, is the degree to which a company’s operations are funded by lenders versus shareholders.
  2. Investing Basics

    Will Corporate Debt Drag Your Stock Down?

    Borrowed funds can mean a leg up for companies or the boot for investors. Find out how to tell the difference.
  3. Fundamental Analysis

    Understanding Leveraged Buyouts

    LBOs are often presented as predatory by the media, but it really depends on which side of the deal you're on.
  4. Fundamental Analysis

    4 Leverage Ratios Used In Evaluating Energy Firms

    These four leverage ratios can help investors understand how oil and gas firms are managing their debt.
  5. Forex Education

    How Leverage Is Used In Forex Trading

    Forex trading by retail investors has grown by leaps and bounds in recent years, thanks to the proliferation of online trading platforms and the availability of cheap credit. The use of leverage ...
  6. Investing Basics

    Understanding Leverage Ratios

    Large amounts of debt can cause businesses to become less competitive and, in some cases, lead to default. To lower their risk, investors use a variety of leverage ratios - including the debt, ...
  7. Investing Basics

    Leverage: What It Is And How It Works

    Leverage is an investment strategy of using borrowed money to generate outsized investment returns. Before getting into greater detail on how leverage works in an investment context, it is useful ...
  8. Mutual Funds & ETFs

    Dissecting Leveraged ETF Returns

    These funds are a relatively new product to most investors, but they could be what you need for increased returns.
  9. Budgeting

    Leverage: Increasing Your Real Estate Net Worth

    Few homeowners think of their mortgages as leverage, but careful use of this asset can help them maximize their net worth.
  10. Retirement

    The Leverage Cliff: Watch Your Step

    Understanding your risk tolerance level can save you a lot of grief and financial instability in the future.

You May Also Like

Hot Definitions
  1. Adverse Selection

    1. The tendency of those in dangerous jobs or high risk lifestyles to get life insurance. 2. A situation where sellers have ...
  2. Wash Trading

    The process of buying shares of a company through one broker while selling shares through a different broker. Wash trading ...
  3. Fixed-Income Arbitrage

    An investment strategy that attempts to profit from arbitrage opportunities in interest rate securities. When using a fixed-income ...
  4. Venture-Capital-Backed IPO

    The selling to the public of shares in a company that has previously been funded primarily by private investors. The alternative ...
  5. Merger Arbitrage

    A hedge fund strategy in which the stocks of two merging companies are simultaneously bought and sold to create a riskless ...
  6. Market Failure

    An economic term that encompasses a situation where, in any given market, the quantity of a product demanded by consumers ...
Trading Center