Gearing - financial vs operational

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Gearing - financial vs operational

Postby james999 » Sun Feb 22, 2009 1:28 am

Can anyone please explain the differences between Financial and Operating gearing ratios?
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Re: Gearing - financial vs operational

Postby steve collings » Sun Feb 22, 2009 1:57 pm

Hi,

Operating gearing looks at to what extent a company's costs are fixed and looks at the relationship between sales revenue and operating profits. A company who has high fixed costs will have a high operational gearing whereas if a company has no operational gearing then operating profit would rise at the same rate as sales growth. So essentially if sales increase then there is an increase in profits but more risk if sales fall and if an entity has high operating gearing (due to high fixed costs) then there is a higher break-even point.

Financial gearing looks at the proportion of a company's debt in its overall capital structure. It can be calculated in different ways, such as:

1. Long term debt / shareholders funds

2. Long term debt / long term debt + shareholders funds

3. All debt / all debt + shareholders funds

The higher the financial gearing ratio the less likely it will be that a financier will be willing to lend money because there is a higher risk. In contrast if a company's financial gearing is relatively low (i.e. a low ratio after the above calculation) then lenders will feel more comfortable because if the company got into difficulties then it could sell off its assets to satisfy long term creditors.

Hope that helps.

Regards
Steve
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Re: Gearing - financial vs operational

Postby james999 » Sun Feb 22, 2009 8:57 pm

Thanks Steve - very helpful, much appreciated!
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Re: Gearing - financial vs operational

Postby ziron38 » Fri Sep 18, 2009 6:10 am

Operating gearing looks at to what extent a company's costs are fixed and looks at the relationship between sales revenue and operating profits.While Financial gearing looks at the proportion of a company's debt in its overall capital structure.

Dossier de surendettement
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