Interest Coverage Ratio

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Dictionary Says

Definition of 'Interest Coverage Ratio'

A ratio used to determine how easily a company can pay interest on outstanding debt. The interest coverage ratio is calculated by dividing a company's earnings before interest and taxes (EBIT) of one period by the company's interest expenses of the same period:

Interest Coverage Ratio
Investopedia Says

Investopedia explains 'Interest Coverage Ratio'

The lower the ratio, the more the company is burdened by debt expense. When a company's interest coverage ratio is 1.5 or lower, its ability to meet interest expenses may be questionable. An interest coverage ratio below 1 indicates the company is not generating sufficient revenues to satisfy interest expenses.

Things to Remember
  • A ratio under 1 means that the company is having problems generating enough cash flow to pay its interest expenses.
  • Ideally you want the ratio to be over 1.5.

A company that barely manages to cover its interest costs may easily fall into bankruptcy if its earnings suffer for even a single month. To understand more on the importance of this ratio, read Why Interest Coverage Matters To Investors.

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