Gearing: Difference between revisions
imported>Doug Williamson (Updated link) |
imported>Doug Williamson (Expand.) |
||
| Line 1: | Line 1: | ||
1. <br /> | '''1.''' <br /> | ||
<i>Financial gearing</i> measures the relative amount of debt in a firm's capital structure.<br /> | <i>Financial gearing</i> measures the relative amount of debt in a firm's capital structure.<br /> | ||
Gearing is sometimes also known as <i>leverage</i>. | Gearing is sometimes also known as <i>leverage</i>. | ||
| Line 34: | Line 34: | ||
2. <br /> | <b>Bank supervision</b><br /> | ||
In the banking context, the calculation of the regulatory [[Leverage ratio]] is strictly specified, following [[Basel III]]. | |||
'''2.''' <br /> | |||
<i>Operational gearing</i> relates to the operating costs of a business, and measures the relative proportions of fixed and variable operating costs. | <i>Operational gearing</i> relates to the operating costs of a business, and measures the relative proportions of fixed and variable operating costs. | ||
3. <br /> | '''3.''' <br /> | ||
'Gearing up' refers to increasing the levels of financial or operation gearing - or both - within an organisation.<br /> | 'Gearing up' refers to increasing the levels of financial or operation gearing - or both - within an organisation.<br /> | ||
The intention of gearing up is to improve expected net results. <br /> | The intention of gearing up is to improve expected net results. <br /> | ||
| Line 48: | Line 52: | ||
==See also== | ==See also== | ||
* [[Basel III]] | |||
* [[Debt equity ratio]] | * [[Debt equity ratio]] | ||
* [[Debt to equity ratio]] | * [[Debt to equity ratio]] | ||
| Line 54: | Line 58: | ||
* [[Intangible assets]] | * [[Intangible assets]] | ||
* [[Leverage]] | * [[Leverage]] | ||
* [[Leverage ratio]] | |||
* [[Leveraged]] | * [[Leveraged]] | ||
* [[Leveraged takeover]] | * [[Leveraged takeover]] | ||
Revision as of 13:09, 30 October 2016
1.
Financial gearing measures the relative amount of debt in a firm's capital structure.
Gearing is sometimes also known as leverage.
Gearing and leverage ratios can be calculated in several different ways, so consistency of approach is important.
Two essential bases to define are:
i. The use of book or market values.
ii. The use of Debt divided by Equity (D/E) or of Debt divided by Debt plus Equity = D / (D+E).
Example 1: Calculation of gearing
Gearing
Assume the values of debt and equity are equal, say USD 1m each.
D/E = 1/1 = 100%.
This is usually known as 'gearing'.
Example 2: Calculation of leverage
Leverage
Using the other calculation with the same inputs (D = 1 and E = 1):
D / (D+E) = 1/2 = 50%.
This is usually known as 'leverage'.
Adjustments to D and E figures
With respect to the Debt figure, practice varies in including or excluding certain items such as cash, short term borrowings, leases, pensions and other provisions.
Practitioners may also adjust the Equity figure, for example to exclude intangible assets.
Bank supervision
In the banking context, the calculation of the regulatory Leverage ratio is strictly specified, following Basel III.
2.
Operational gearing relates to the operating costs of a business, and measures the relative proportions of fixed and variable operating costs.
3.
'Gearing up' refers to increasing the levels of financial or operation gearing - or both - within an organisation.
The intention of gearing up is to improve expected net results.
A consequence of gearing up is normally to increase risk.
Many financial disasters have been a consequence of gearing up (or leveraging) excessively in this way in earlier periods.
See also
- Basel III
- Debt equity ratio
- Debt to equity ratio
- Geared beta
- Intangible assets
- Leverage
- Leverage ratio
- Leveraged
- Leveraged takeover
- Levered
- MCT
- Off balance sheet finance
- Ungeared
- Ungeared cash flow
Other links
Masterclass: Measuring financial risk, The Treasurer, July 2012
