Study Surgery

A: Knowledge of the Gearing Ratio is not just confined to Unit 8 (PEV) but is also required for Unit 11 (DFS) and Unit 15 (CMCC).

The gearing ratio shows the extent to which a company is financed by debt capital as opposed to risk capital, and shows the relationship between long-term debt and capital. It can be calculated as:

Either

Long-term debt * 100 (known as debt capital ratio) ;
Capital employed

Or

Long-term debt * 100 (known as debt equity ratio)
Shareholders funds

Long-term debt is long-term loans, and capital employed can be calculated as fixed assets + current assets – current liabilities (or shareholders funds plus long term loans) and represents the total investment in the business from all sources. Multiplying by 100 will give a percentage. A figure of 50 per cent or less for the debt capital ratio (or 100 per cent for the debt equity ratio) means that the company will not be considered as too highly geared and will be able to raise further funds from either loans or from shareholders. If a company is considered as too highly geared it will find it difficult to raise further funds. From a personal point of view, anyone with a mortgage for the majority of a property’s cost is likely to be highly-geared!