Financial Reporting · Calculation and interpretation of accounting ratios and trends to address users' and stakeholders' needs

Gearing and Investor Ratios for ACCA Financial Reporting

Updated 11 October 2026 · Fact-checked

Gearing shows how much of an entity's capital is debt, and interest cover shows how easily profit pays interest. EPS, P/E, dividend cover and dividend yield show returns to shareholders. Calculate each from the statements, state the formula, then explain what the result means for lenders or investors.

Understand Gearing and Investor Ratios

Every company is funded by equity (shareholders) or debt (lenders). Gearing measures how much comes from debt. More debt means fixed interest must be paid whatever profit is. That raises risk for shareholders and lenders, but it can also raise returns to shareholders when profits are good.

Interest cover tests whether profit can pay that interest. A low figure means a small fall in profit could leave the company struggling to pay lenders. Lenders care most about gearing and interest cover.

Investor ratios look at returns to shareholders. EPS is profit per ordinary share. P/E compares the share price with EPS, so it shows how many years of current earnings the market is paying for. A high P/E suggests the market expects growth or sees low risk. A low one suggests the opposite.

Dividend cover shows how many times profit could pay the dividend, so it tells you how safe the dividend is. Dividend yield shows the cash return as a percentage of the share price. Cover looks at the company's side. Yield looks at the investor's side.

No ratio means anything alone. In FR you must compare to a prior year, another entity or the sector, then explain causes and effects.

Key rules to remember

Gearing (debt ÷ equity): Gearing = Long-term debt ÷ Equity × 100%; Equity means share capital plus all reserves. Include preference shares and long-term borrowings as debt unless told otherwise.
Gearing (debt ÷ capital employed): Gearing = Long-term debt ÷ (Debt + Equity) × 100%; Use the definition the question gives. If none is given, state the one you use and keep it consistent.
Interest cover: Interest cover = Profit before interest and tax ÷ Finance costs; Answer is in times. Use profit from operations before finance costs.
Earnings per share: EPS = (Profit after tax − preference dividends) ÷ Weighted average ordinary shares; Earnings are those attributable to ordinary shareholders.
Price/earnings ratio: P/E = Market price per share ÷ EPS; Answer is in times (years of earnings).
Dividend cover: Dividend cover = Profit for ordinary shareholders ÷ Ordinary dividends; Equivalent to EPS ÷ dividend per share. Answer in times.
Dividend yield: Dividend yield = Dividend per share ÷ Market price per share × 100%; Use the dividend per share for the same period as the price.

How to solve Gearing and Investor Ratios questions

Use this routine for any gearing or investor ratio question, whether it is an objective test or a written part of Section C.

1Read the requirement and note who the user is: lender, shareholder or both.
2Pick the formula. Use the definition given in the question. If none is given, state your own.
3Extract the figures carefully: debt (non-current borrowings and preference shares), equity (capital plus reserves), PBIT, finance costs, ordinary earnings and shares.
4Calculate for each year or entity. Show workings so you earn method marks.
5Compare: say what moved, by how much, and whether it is better or worse for the user.
6Explain likely causes, such as new loans, share issues, falling profit or dividend policy changes.
7Conclude for the user: is the risk higher or lower, and what would you want to know next?

Quickest way: Ratio, direction, reason

When to use it: Use this in Section A and B objective questions and when time is short in Section C.

Write the formula in one line beside the numbers before you calculate.
Check the units: gearing and yield are percentages. Interest cover, P/E and dividend cover are times.
For objective tests, calculate first, then eliminate options that use the wrong base, such as profit after tax instead of PBIT.
For written answers, use the pattern: figure, change, meaning, reason. One sentence each.
Always finish with a view on risk or return for the named user.

Common mistakes in Gearing and Investor Ratios

Using profit after interest for interest cover
The income statement shows profit before tax, which is already after finance costs, and students pick it up quickly.
Fix: Add finance costs back to get PBIT, or use profit from operations. Then divide by finance costs.
Leaving out reserves from equity in gearing
Students take only share capital because it is the first equity line.
Fix: Equity is share capital plus share premium plus all reserves including retained earnings.
Confusing dividend cover with dividend yield
Both use dividends and sound alike.
Fix: Cover is earnings ÷ dividend, in times, and shows safety. Yield is dividend ÷ price, in %, and shows investor return.
Using year-end shares for EPS when shares changed in the year
The closing share count is on the statement of financial position.
Fix: Use the weighted average number of shares, and apply any bonus or rights adjustments the question gives.
Only stating the number with no interpretation
Students focus on the calculation, which feels like the safe part.
Fix: Add what the change means for the user and a likely cause. Interpretation carries the marks in Section C.
Saying high gearing is always bad
Textbooks stress risk, so students overstate it.
Fix: Say higher gearing raises financial risk and can boost shareholder returns if profits cover the interest. Judge it against the sector and interest cover.

Worked examples

Example 1

Extracts for Ridge Co at 31 March: Share capital ₹50,00,000; retained earnings ₹70,00,000; non-current borrowings ₹60,00,000. Profit before interest and tax ₹36,00,000; finance costs ₹6,00,000. Calculate gearing (debt ÷ equity) and interest cover, and comment for a lender.

Show the solution

Equity = 50,00,000 + 70,00,000 = ₹1,20,00,000.
Gearing = 60,00,000 ÷ 1,20,00,000 × 100% = 50%.
Interest cover = 36,00,000 ÷ 6,00,000 = 6 times.

Answer: Gearing is 50% and interest cover is 6 times. Debt is half the size of equity, but profit covers interest six times. A lender would see interest payments as comfortably affordable, though it should compare with the sector and the prior year.

Example 2

Delta Co has profit after tax of ₹48,00,000 and 20,00,000 ordinary shares in issue all year. There are no preference shares. Ordinary dividends are ₹14,40,000. The market price is ₹72 per share. Calculate EPS, P/E, dividend cover and dividend yield.

Show the solution

EPS = 48,00,000 ÷ 20,00,000 = ₹2.40.
P/E = 72 ÷ 2.40 = 30 times.
Dividend cover = 48,00,000 ÷ 14,40,000 = 3.33 times (2.40 ÷ 0.72).
Dividend per share = 14,40,000 ÷ 20,00,000 = ₹0.72.
Dividend yield = 0.72 ÷ 72 × 100% = 1%.

Answer: EPS ₹2.40; P/E 30 times; dividend cover 3.33 times; dividend yield 1%. The low yield and high cover show the company keeps most profit for reinvestment. The high P/E suggests the market expects strong growth. Income-seeking investors may find the yield unattractive.

Exam tips

Use the formula definitions the question or ACCA gives. Where a definition is not given, state yours and apply it consistently to both years.
In objective tests, one wrong base, such as year-end shares or PAT in interest cover, makes the answer wrong. Marking is all or nothing, so check the inputs twice.
In Section C, write short comment paragraphs. Link gearing and interest cover to lenders, and EPS, P/E, cover and yield to shareholders.
Look for cause clues in the scenario: a new loan, a share issue, an acquisition or a dividend change often explains the ratio movement.
Always compare: with the prior year, the sector average or the other entity given. A single figure alone earns little.

Practice questions from Calculation and interpretation of accounting ratios and trends to address users' and stakeholders' needs

Gearing and Investor Ratios in other exams

The same ground in other exams, if you are preparing for more than one or want another angle on it.

Gearing and Investor Ratios: frequently asked questions

What is the gearing ratio formula in ACCA FR?

The two common versions are debt ÷ equity and debt ÷ (debt + equity), both as percentages. Use the one the question gives. If it gives none, state your choice and stay consistent.

How do I calculate interest cover?

Divide profit before interest and tax by finance costs. The answer is in times. A higher figure means profit can pay interest more easily.

What is the difference between dividend cover and dividend yield?

Dividend cover is earnings divided by dividends, in times, and shows how safe the dividend is. Dividend yield is dividend per share divided by share price, as a percentage, and shows the investor's cash return.

What does a high P/E ratio mean?

It means investors pay many years of current earnings for the share. This often reflects expected growth or low perceived risk, but it can also reflect temporarily low earnings or an overpriced share.