Leverage and Liabilities: Difference between pages

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1. ''Financial reporting''.


In financial reporting, liabilities are amounts or obligations of a reporting entity arising from past transactions or events, the settlement of which may result in the transfer or use of assets, the provision of services or other yielding of economic benefits in the future.


==Leverage calculation==
Examples include overdrafts, trade payables, accruals and provisions.


Leverage is most commonly defined as debt divided by Debt plus Equity
Liabilities are represented in the balance sheet by credit balances.


= D / (D + E).


2.


<span style="color:#4B0082">'''Example 1: Leverage calculation'''</span>
More generally, liabilities are any obligations or amounts owed to others (whether or not they are obligations of a financial reporting entity).
 
If the amounts of debt and equity were equal then leverage under this definition would be calculated as:<br />
1 / (1 + 1) = 50%.
 
 
==Broader definitions==
 
The term 'leverage' is also used in a broader sense to refer to the amount of debt in a firm's financial structure.<br />
Used in this broader sense, 'leverage' means very much the same as 'gearing'. <br />
However, leverage and gearing are normally quantified by different calculations.
 
 
==Leveraging up==
 
To 'leverage up' means to increase the level of gearing in an operational or financial structure.  The intention of leveraging up is to improve expected net results.  <br />
A consequence of leveraging up is normally to increase financial risk.<br />
Many financial disasters have been a consequence of leveraging up excessively in this way in earlier periods.
 
 
==Leverage in banking==
 
Banks tend to have very high levels of leverage, compared with non-financial corporates.
 
Maximum levels of leverage are established by prudential regulation, including regulatory leverage ratios.
 
 
==Leverage in derivatives trading==
 
Leverage is also the ratio of the total value of a derivatives contract relative to the size of the required margin or collateral. <br />
 
 
<span style="color:#4B0082">'''Example 2: Leverage in derivatives trading'''</span>
 
10:1 leverage means that an investor needs to provide GBP 10,000 in order to control a position of a GBP 100,000 value futures contract while taking responsibility for any losses or gains their investments incur. <br />As a result if the value of the contract rose by 10% to GBP 110,000, there will be a potential profit of 100% (= 10 x 10%) relative to the amount of GBP 10,000 invested.<br /><br />
 
Similarly if the value were to fall by 10% to GBP 90,000, there would be a loss of the all the initial investment.<br />
Again the change in the value of the total position is 10 x the 10% movement in the value of the contract.<br />
In this case, a loss of 10 x 10% = 100%.<br />
<br />
It is also possible to lose more than the entire value of the initial investment.<br />
This is why derivatives trading can be so dangerous for the investor.




== See also ==
== See also ==
* [[Debt]]
* [[Accrual]]
* [[Deleverage]]
* [[Assets]]
* [[Balance sheet]]
* [[Capital]]
* [[Compound instrument]]
* [[Credit balance]]
* [[Disaggregation]]
* [[Equity]]
* [[Equity]]
* [[Gearing]]
* [[Exemption clause]]
* [[Leverage ratio]]
* [[Fair value]]
* [[Prudential Regulation Authority]]
* [[Financial liability]]
* [[Stability]]
* [[Financial reporting]]
 
* [[Indemnity clause]]
 
* [[Interest gap]]
==Other links==
* [[Liabilities and equity]]
[http://www.treasurers.org/node/8012 Masterclass: Measuring financial risk, The Treasurer, July 2012]
* [[Mismatch]]
* [[Net assets]]
* [[Net worth]]
* [[Off balance sheet finance]]
* [[Offset]]
* [[Overdraft]]
* [[Provision]]
* [[Reporting entity]]
* [[Trade payables]]


[[Category:Corporate_finance]]
[[Category:Accounting,_tax_and_regulation]]

Revision as of 13:59, 4 August 2019

1. Financial reporting.

In financial reporting, liabilities are amounts or obligations of a reporting entity arising from past transactions or events, the settlement of which may result in the transfer or use of assets, the provision of services or other yielding of economic benefits in the future.

Examples include overdrafts, trade payables, accruals and provisions.

Liabilities are represented in the balance sheet by credit balances.


2.

More generally, liabilities are any obligations or amounts owed to others (whether or not they are obligations of a financial reporting entity).


See also

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