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Interest Coverage Ratio
How easily a company can pay interest on outstanding debt, measuring ability to service debt obligations.
Formula
Interest Coverage Ratio = EBIT / Interest Expense
Or: Interest Coverage = (EBITDA - CapEx) / Interest Expense
Definition
What is Interest Coverage?
Interest coverage ratio shows how many times over a company can pay its interest expenses from operating earnings. It's a key indicator of financial health for companies with debt.
Coverage Standards
A ratio above 2.0 is generally considered safe. Above 3.0 is comfortable. Below 1.5 raises concerns. Below 1.0 means the company can't cover interest from operations.
Debt Covenants
Lenders often include minimum interest coverage ratios in loan covenants. Falling below triggers default provisions. Monitor this metric if you have debt financing.
Example
Company with term loan:
- EBIT: $500,000
- Annual Interest Expense: $120,000
Interest Coverage = $500K / $120K = 4.17x
The company can cover interest payments 4.17 times over, a healthy position.
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