What is Interest coverage ratio?

One of the biggest reasons for losses in this stock market is investing in companies that are not financially strong because even the slightest financial problem affects such companies, due to which their stocks crash. For this reason, we must avoid investing in weak companies that are financed. Friends, in this blog, we will know the interest coverage ratio, saving us from investing in companies, even financially. We will know what the interest coverage ratio is. How is it calculated, and how should we use it.

What is the interest coverage ratio?

Let us know what the interest coverage ratio (ICR) is. Friends, the Average coverage ratio is a financial ratio that tells us how easily a company can make interest payments on its loan. The higher the ICR of a company, the more financially strong that company is.

the formula for the interest coverage

Friends, the formula for the interest coverage ratio is

Here, earnings before impression taxes still mean the operating profit and interest of the company interest expense This means that how much the company is giving the total on its loans in a year, we get the earnings before impression, taxes, and expenses both from the income statement of the company.
For example, let’s assume (A.B.) is a large company whose income statement is something like this. Let us also calculate the ICR of the limited. Friends, the formula for the ICR is
Here the earnings before interest taxes of (A.B. Ltd.) is Rs.12 crores and Rs.2 crores from the entry sector. Thus the ICR of A.B. Ltd. will become.

This means that A.B. Ltd.’s operating profit is six times its annual interest expense, and A.B. Ltd. can quickly pay its interest from its operating profit.

How to use interest coverage ratio 

From the ICR, lenders credit and investors see how risky it can be to give any loan to the company. The lower a company’s average coverage ratio, the more difficult it is to pay the interest from its operating profit. Investors generally consider companies that have an ICR of three or more as financially strong. As a company’s ICR falls below three, the company becomes riskier in the eyes of investors.

Suppose the ICR of a company is less than one. In that case, the company is also in financial condition because a coverage ratio of less than 1 indicates that the company cannot pay its dress from its operating profit. And the company may lose bankers for some time to come. There is no need to calculate the ICR in others by yourself. Often, companies show this in their annual reports, or we can easily see it on many websites like a screener, in, or moneycontrol.com.

Friends, along with looking at today’s ICR of companies, we should also see its year after year trend.

 Let’s assume for the exam. A.B. Ltd. and D.C. Ltd. are two companies, and what is the ICR of both the companies for the last five years. Here we can take that the Interest Coverage Ratio of A.B. Ltd. has been consistently good since 2016, which means that any Ltd. is continuously making itself stronger. At the same time, the interest coverage ratio of D.C. Ltd. has been continuously decreasing since 2016. Due to one reason or the other, D.C. Ltd. is becoming financially week year after year. In this way, we can understand from the trend of ICR of companies that companies are making themselves financially strong over time.

 It was from the beginning and today’s video is on top of internet coverage. In this, we learned what happens, how it is calculated, and how we should use it.