Ratio help Please :)

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Esme
Esme Registered Posts: 711 Epic contributor 🐘
How do you calculate Gearing Ratio and Interest Cover?

Thanks in advance

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  • ema192
    ema192 Registered Posts: 107 Dedicated contributor 🦉
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    gearing ratio:
    long term loans/ capital employed (total assets- current liabilities)

    interest cover:

    profilt from operations/interest

    hope this helps

    emma :-)
  • A-Vic
    A-Vic Registered Posts: 6,970 Beyond epic contributor 🧙‍♂️
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    what would be the outsome of these anyone please?
  • koda
    koda Registered Posts: 52 Regular contributor ⭐
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    Hi, do you mean what do the ratios tell you? The gearing percentage shows how much of the company is financed by debt and the interest cover shows how many times the company can cover finance costs from operating profit. The higher the interest cover ratio the better. The higher the gearing percentage, the more the company is relying on long term borrowings.

    Hope this helps...
  • Esme
    Esme Registered Posts: 711 Epic contributor 🐘
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    Thanks very much Ema and Koda
  • A-Vic
    A-Vic Registered Posts: 6,970 Beyond epic contributor 🧙‍♂️
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    Thanks koda just what i was looking for :)
  • Khurram Taj
    Khurram Taj Registered Posts: 29 Regular contributor ⭐
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    Gearing Ratio

    Hello
    There are two way to calculate gearing ratio, the standard formula for Gearing is :

    Gearing = Loans/loans + equity capital

    Second formula:-

    Long term borrowing/net assets

    IMPORTANT

    If the gearing figure is more than 60%, it is generally reported high; 100% is very high.

    Less than 20% could be taken as low. but in all cases it depends upon the prevailing circumstances at the time and what point of comparison is.


    Best regards

    Khurram Taj
  • chocolate Box
    chocolate Box Registered Posts: 13 New contributor 🐸
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    gearing ratio

    Hi, i've been looking at june 08 paper and the gearing ratio has two answers;

    long term long £12000/net assets £8400 = 1.42
    or
    long term loans £12000/Long term loan £12000 + net assets £8400 = 58.82%

    I can understand the 58.82% answer as an indicator, but I don't understand what 1.42 is meant to mean?

    Could anyone help?
  • sdv
    sdv Registered Posts: 585 Epic contributor 🐘
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    gearing ratio can be calculated in 2 ways

    1 divide debt by equity(=net assets) times 100

    in your post the 1.42 is a ratio of debt to equity. this tells us that debt is 142% of equity which is almost 3 times more then generally prefered 50% by the lenders and investors.

    The % on this calculation will be higher then the following calculation.

    or

    2 divide debt by (equity plus debt) times 100

    IN this calculation the debt is a percentage of the Capital Employed- (eqity plus debt)
    Generally this is the prefered gearing ratio by the examiners.


    as per your post the ratio is 59% which is much higher then 33% generally prefered by the lenders and investors.

    33% of capital employed (3 parts) is equal to 50% of equity (2 parts)

    hope this helps
  • dobbieobby
    dobbieobby Registered Posts: 231 Dedicated contributor 🦉
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    koda wrote: »
    Hi, do you mean what do the ratios tell you? The gearing percentage shows how much of the company is financed by debt and the interest cover shows how many times the company can cover finance costs from operating profit. The higher the interest cover ratio the better. The higher the gearing percentage, the more the company is relying on long term borrowings.

    Hope this helps...

    What a fantastic answer!! Thank you :-)
  • messedup89
    messedup89 Registered Posts: 1,281 Beyond epic contributor 🧙‍♂️
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    koda wrote: »
    Hi, do you mean what do the ratios tell you? The gearing percentage shows how much of the company is financed by debt and the interest cover shows how many times the company can cover finance costs from operating profit. The higher the interest cover ratio the better. The higher the gearing percentage, the more the company is relying on long term borrowings.

    Hope this helps...

    so thats all we need to write down in the exam when commenting on the ratios? Also if they have increased/decreased and if thats good or bad?
  • dobbieobby
    dobbieobby Registered Posts: 231 Dedicated contributor 🦉
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    I think it is, I didnt really get what gearing exactly was, but now I do!
    Why dont the books put things in plain English like people do on here???!!!!!
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