Financial Leverage Ratio

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The Economic Times  May 8  Comment 
RBI last month released a consultation paper on P2P lending with a view to bringing the emerging activity under regulations.
Euromoney  Mar 30  Comment 
TriOptima has called on banks to do more to create currency hubs in their trading books, allowing for greater efficiency in managing their balance sheets.
Mondo Visione  Mar 16  Comment 
The European Banking Authority (EBA) will hold a public hearing on its draft report on the calibration of the leverage ratio on Friday 15 April 2016 from 9.00 to 11.30 UK time.    The objective of the hearing is to gather views from all...
newratings.com  Nov 11  Comment 
BRUSSELS (dpa-AFX) - The European Central Bank said the introduction of leverage ratio into the Basel III framework would make banks more stable. However, concern has been raised that the non-risk-based nature of the leverage ratio could...
Mondo Visione  Nov 5  Comment 
End users and policy makers have raised concerns on how segregated initial margin for centrally cleared derivatives is treated under the Basel III leverage ratio.  End-users at the Commodity Markets Council and the Managed Funds Association, have...
newratings.com  Oct 13  Comment 
ZURICH (dpa-AFX) - The Swiss government is planning to impose five percent leverage ratio for its biggest lenders, mimicking the higher U.S. leverage ratio, Bloomberg reported, quoting people briefed on the deliberations. If the new system is...
Financial Times  Sep 29  Comment 
US derivatives regulator pushes looser bank capital requirements amid decline in clearing firms
Mondo Visione  Aug 19  Comment 
The European Banking Authority (EBA) informed today that it will incorporate additional analysis into its calibration reports on Net Stable Funding Requirements and Leverage Ratio. The announcement follows a request by the European Commission (EC)...




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The Financial Leverage ratio equals total assets divided by total equity

The financial leverage ratio is a measure of how much assets a company holds relative to its equity. A high financial leverage ratio means that the company is using debt and other liabilities to finance its assets -- and, every thing else being equal, is more riskier than a company with lower leverage.

In essence, the financial leverage ratio is a variation of the debt to equity ratio and would move in tandem with debt to equity. If a company can employ its assets at a higher return than its cost of debt, it would improve its returns on equity capital. If not the company's debt outweighs the return from its assets, then the debt cost may outweigh the return on assets. Over the long-term, this would lead to bankruptcy. Investors should take this into consideration when investing in a company with a high financial leverage ratio, especially in times of rising interest rates.

The level of leverage depends on a lot of factors such as availability of collateral, strength of operating cash flow and tax treatments. Thus, investors should be careful about comparing financial leverage between companies from different industries. For example companies in the banking industry naturally operates with a high leverage as their assets are easily collateralized.

Example

  • Company XYZ has $4 billion in assets and $1 billion in equity. This would mean that it is financing its assets with $ 3 billion liabilities. And the the company's financial leverage ratio would be 4.
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