Financial Leverage Gearing

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Financial Leverage (Gearing)

• 1. Definition
• 2. Leverage ratios

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1 Definition

• Financial leverage (gearing) of a firm is the
  extent to which debts are used to finance a
  firms assets. If a high percentage of a firms
  assets are financed by debts, then the firm is
  said to have a high degree of financial leverage.
• The higher the financial leverage of a firm, the
  higher the chance for it to bankrupt.

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2 Leverage ratios

• The following are common ratios which are used to
  measure the financial leverage
• Ratio (1) and (2) are increasing as the level of
  leverage increases, while the ratio (3) is
  decreasing as the level of leverage decreases.