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Gearing

Gearing (or leverage) is the relationship between the debt and the equity in a business - between borrowed money and shareholders' money.

Gearing (or leverage) is the relationship between the debt and the equity in a business - between borrowed money and shareholders' money. A company with £300,000 total debt and £300,000 of shareholders equity is 50% geared (300/600).

For a company to be highly geared - that is, for it to have borrowed a large amount of money relative to its shareholders' funds - is not necessarily a bad thing. As long as the return on the borrowed money is greater than the interest payable on it, the shareholders will benefit.

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But just as gearing can amplify profits in good times, it can exaggerate losses in bad times - interest on debt has to be paid back regardless of how well or badly a company performs. Geared or leveraged takeovers occur when a takeover bid is made using a high proportion of borrowed money.

See also: Leverage

Watch Tim Bennett's video tutorial: Three ways leverage can boost your returns.

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