Gearing

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What is '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.

BREAKING DOWN '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.

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RELATED FAQS
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    Dive deeper into gearing ratios: what are they, how are they used and why the debt to equity ratio is one of the most popular ... Read Answer >>
  2. What does the gearing ratio say about risk?

    Find out why lenders and investors pay close attention to a firm's gearing ratios, and why both too much and too little borrowing ... Read Answer >>
  3. What is the difference between a capital gearing ratio and a net gearing ratio?

    Understand the definition of gearing in the finance industry, the difference between net gearing and capital gearing ratios ... Read Answer >>
  4. What is considered to be a bad gearing ratio?

    Understand the basics of gearing, including the net gearing ratio, what constitutes a bad gearing ratio and how this figure ... Read Answer >>
  5. What is a good gearing ratio?

    Understand the meaning of the gearing ratio, how it is calculated, the definition of high and low gearing, and how they reflect ... Read Answer >>
  6. What is the most widely used gearing ratio?

    Understand the most commonly used gearing, or leverage, ratio used to evaluate a company's financial condition, the debt ... Read Answer >>
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