Capital gearing ratio – Meaning & Example

Capital gearing ratio represents the relationship between equity share capital of a firm and its fixed interest bearing funds. Fixed interest bearing funds include preference share capital, debentures, bonds and other type of loans which bear a fixed rate of interest on it.

This ratio is used to measure the ‘degree of leverage’ of a firm. A firm having low capital gearing ratio will be called as highly leveraged and vice versa.

Formula for computing capital gearing ratio:

Capital gearing ratio can be calculated by using below given formula:

Equity share capital / fixed interest bearing funds

Where:

Equity share capital refers to total share capital minus preference share capital.

Example:

Let’s assume that ABC Ltd Company has following figures on its balance sheet:

20122013
Equity share capital1,00,00,00090,00,000
Preference share capital28,00,00045,00,000
Debentures25,00,00030,00,000
Bonds27,00,00037,50,000

Using the above given figures, we are able to calculate capital gearing ratio for year 2012 and 2013 separately.

For the year 2012:

1,00,00,000 / 80,00,000 = 1.25 : 1

For the year 2013:

90,00,000/ 1,12,50,000 = 0.8 : 1

The above results show that the company was low geared (leveraged) in 2012 whereas it was highly geared (leveraged) in the year 2013.

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