What is the importance of the term “Interest Coverage Ratio” of a firm in India?
- It helps in understanding the present risk of a firm that a bank is going to give loan to.
- It helps in evaluating the emerging risk of a firm that a bank is going to give loan to.
- The higher a borrowing firm’s level of Interest Coverage Ratio, the worse is its ability to service its debt.
Select the correct answer using the code given below:
[UPSC Civil Services Exam – 2020 Prelims]
(a) 1 and 2 only
(b) 2 only
(c) 1 and 3 only
(d) 1, 2 and 3
- Interest Coverage Ratio indicates the ability of a firm to take the loan or debt and repay it within the tenure of the loan. It helps in understanding and evaluating the present risk of a firm that a bank is going to give a loan to. Hence statement 1 is correct.
- It is calculated by dividing a company’s earnings before interest and taxes by the company’s interest expenses for a given period. Hence statement 2 is correct.
- The lower the ratio, the more the company is burdened by debt expense. When a company’s interest coverage ratio is only 1.5 or lower, its ability to meet interest expenses may be questionable. Hence statement 3 is incorrect.