Interest coverage
How many times over the company's profits could pay its interest bill.
Operating profit divided by interest expense. A coverage of 10 means profits could fall 90% before the company could not pay its lenders. A coverage of 1.5 means a modest downturn puts it in breach.
This is frequently a better danger signal than debt-to-equity, because it measures the ability to service the debt rather than merely its size.
Interest coverage = Operating income ÷ Interest expenseWhy the debt is the engine
Put in 30, borrow 70, secure the loan against the company you are buying. A 30% rise in the business doubles your money. The same arithmetic works in reverse, which is why buyouts fail loudly.
Below about 2, the company is one bad year away from its lenders taking control.
Looking at the debt level without checking whether the company can comfortably pay for it.
Related terms
See Interest coverage on a real company
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