Cash Flow to Fixed Charges Ratio

The fixed charge coverage ratio can be adapted to use adjusted cash flow from operations as the numerator instead of earnings before fixed charges and taxes. The cash flow to fixed charges ratio indicates more about availability of cash to fulfill contractual financing obligations than the fixed charge coverage ratio does because it is based on cash flow from operations.

The cash flow to fixed charges ratio indicates the amount of cash flow from operations the company has available to pay its contractual obligations.

Adjusted Cash Flow from Operations, the Numerator of the Cash Flow to Fixed Charges Ratio.

For the numerator of the cash flow to fixed charges ratio, cash fixed charges that decreased cash flow from operations should be added back to operating cash flow, but cash fixed charges that did not decrease cash flow from operations should not be added back.

Cash fixed charges ⇒ the second item used in calculating the numerator of the cash flow to fixed charges ratio includes:

• Cash interest paid on loans and finance leases. Those items decrease cash flow from operations, so they should be added back to calculate adjusted cash flow from operations. Cash interest paid is a disclosure on the Statement of Cash Flows.
• Cash paid for operating lease payments and short-term lease payments. These cash payments also decrease cash flow from operations, so they also should be added back to cash flow from operations.

Cash tax payments ⇒ the third item used in calculating the numerator of the cash flow to fixed charges ratio, means taxes paid in cash. Taxes paid in cash may be different from tax expense on the income statement because of accrual accounting. Cash tax payments decrease cash flow from operations, and so the cash tax payments need to be added back to cash flow from operations in order to calculate adjusted cash flow from operations for the numerator of the cash flow to fixed charges ratio. Cash tax payments is a disclosure on the Statement of Cash Flows.

Principal payments on loans and lease liability (principal) payments on finance leases do not decrease cash flow from operations because they are classified as financing activities on the Statement of Cash Flows, so those items should not be included in cash fixed charges to be added back to cash flow from operations to calculate the numerator of the cash flow to fixed charges ratio.

The numerator, adjusted cash flow from operations, is calculated as:

Fixed Charges, the Denominator of the Cash Flow to Fixed Charges Ratio

Fixed charges⇒ in the denominator is calculated the same way as it is for the denominator of the fixed charge coverage ratio because it is based on future obligations.