Is the planned increase in borrowings expected to help the company meet its gearing objective?

A company has a financial objective of maintaining a gearing ratio of between 30% and 40%, where gearing is defined as debt/equity at market values.

The company has been affected by a recent economic downturn leading to a shortage of liquidity and a fall in the share price during 20X1.

On 31 December 20X1 the company was funded by:

• Share capital of 4 million $1 shares trading at $4.0 per share.

• Debt of $7 million floating rate borrowings.

The directors plan to raise $2 million additional borrowings in order to improve liquidity.

They expect this to reassure investors about the company’s liquidity position and result in a rise in the share price to $4.2 per share.

Is the planned increase in borrowings expected to help the company meet its gearing objective?
A . No, gearing would increase but the gearing objective would be met both before and after the announcement.
B . No, gearing would increase and the gearing objective would be exceeded both before and after the announcement.
C . No, gearing would increase and the gearing objective would be met before the announcement but exceeded after the announcement.
D . Yes, gearing would fall and the gearing objective would be exceeded before the announcement but met after the announcement.

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Answer: B