Coverage Ratios

Coverage ratios measure the borrower’s ability to generate cash flows to meet interest payments. The two most commonly used are EBITDA-to-interest and EBIT-to-interest.

• EBITDA/interest expense. A higher ratio indicates lower credit risk. This ratio is used more often than the EBIT-to-interest expense ratio. Because depreciation and amortization are still included as part of the cash flow measure, this ratio will be higher than the EBIT version.
• EBIT/interest expense. A higher ratio indicates lower credit risk. This ratio is the more conservative measure because depreciation and amortization are subtracted from earnings.

Ratings agencies publish benchmark values for financial ratios that are associated with each ratings classification. Credit analysts can evaluate the potential for upgrades and downgrades based on subject company ratios relative to these benchmarks.