Finance and Accounting; Gearing Ratio

Gearing is very important for raising a new finance for any company. It defines the level of company’s long term debt compared with its long term equity. Gearing normally expressed as percentage. A high gearing ratio shows the high amount of debt to equity and low gearing ratio shows the low amount of debt to equity.

The formula for calculating gearing is:

Gearing (%) = (long term liability / capital employed) *100

Long term liabilities = Loan (more than one year) + Preference shares + Mortgages.

Capital employed = Share capital + Retained earnings + Long term liabilities.

Traditionally Gemeni plc will be identified in high risk if the gearing ratio is more than 50%. This means this business has lots of debt to pay. This will not be a positive sign for Gemeni plc. Again less than 25% gearing ratio will not be a positive sign as well. Because it shows Gemeni plc have low gearing that mean company cannot afford to overextend in the face of an inevitable downturn in sales and profits.

According to the data (See Appendix 2), Gemeni plc’s gearing ratio at 2012 was 57.1% which was increased from 33.3% a year earlier. This happened because of Gemeni plc increased long term debt by £2 million and decreased retained earnings by £1 million. That mean gearing ratio of Gemeni plc is very high and company is highly in danger for bankruptcy.

Appendix 2:

Gemeni plc’s (not a real company) gearing ratio calculating:

2012 (£,000) 2011 (£,000)

Long-term liabilities 4000 2000

Capital employed 7000 6000

Gearing ratio 57.1% 33.3%

Coherent dividend policy:

Coherent means something which is logical and consistence. Coherent dividend means the dividend