Advantages and Disadvantages of High Gearing

Advantages of High Gearing

Borrowing may allow the firm to take on profitable projects

Taking on more profitable projects may allow the company to expand and in the future reduce its Gearing ratio

Borrowing may be a quick and cheap form of financing a project compared to other means such as share issues which may not all be taken up

Disadvantages of High Gearing

If the company has low profits then it may struggle to meet interest payments, leading to a higher risk of being liquidated

The firm may find it harder to get further loans, since investors will be put off by the high gearing level

Advantages and Disadvantages of Low Gearing

Advantages of Low Gearing

Changes in interest rates especially upward trends have a lower effect on the firm

Less risk of liquidation occurring due to not being able to pay off interest payments

Reduced Interest payments, so more investment can occur elsewhere and the firm can have more cash flow to take on bigger and potentially more profitable projects

Disadvantages of Low Gearing

The firm is expected to make regular dividend payments

The higher ratio of Shareholder funds will mean that the company will now be owned by its shareholders more relatively.