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sir this is perhaps a very inane question related to gearing ratio calculation. However, i wanted to know that sometimes when we don’t know the current share price or market vale of equity, we use the equity figure from SOFP, which includes share capital, reserves and retained earrings. And similarly for debt we would use the value stated in SOFP, to arrive at a gearing ratio.
However, what is this ratio exactly called? Gearing ratio at book value? If it would be called as gearing ratio at book value, then my only point of contention would be that when we take share cap+ reserves+ retained earnings, then doesn’t that give us MV of equity? So, how come debt is at book value (from SOFP) but equity is at MV?
We normally calculate the gearing ratio using market values, because the book values in the SOFP are always rather meaningless.
If, however, we are required to consider book values, then the book value of equity is the share capital plus retained earnings. When using market value, it is simply the market value (retained earnings are irrelevant). This is because the most obvious reason for the market value being higher than just the share capital is because the company has been retaining – the market value effectively already includes the retained earnings.
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