Times Interest Earned Ratio

Times interest earned ratio indicates whether the business is able to repay its debt and whether it has issues with this repayment or not. This ratio compares profit (earnings) of the business before interest expenses with interest expenses

Times interest earned ratio formula

Times interest earned = Earnings before interest and tax (EBIT) / Interest expense

Times-interest-earned ratio indicates how many times EBIT exceeds Interest Expense, which is a good indicator of the business ability to pay interest on borrowings.

In case Net Income is used, it has to be increased by Tax Expenses and Interest Expenses to get Earnings Before Interest and Tax (EBIT).

In case times interest earned ratio is less that 1, this is an indication that the business does not earn sufficient profit from its activities to enable it paying interest costs.

The higher the ratio, the better is the ability of the business to pay the cost of debt.

Limitations of Times Interest Earned Ratio

On the other side, it is essential to bear in mind, that EBIT is highly impacted by accounting standards and principles applied. This means, that EBIT does not show cash position of the business.

Revenue and profit might be earned, since accrual principle is applied, however the business might have not enough cash to pay interest when it is due. Therefore Times Interest Earned Ratio should be analyzed together with Cash flow statement of the business.

Times interest earned ratio is also called as interest coverage ratio.

Times Interest Earned Ratio – example

There is such financial data for the particular business:

Net income – $56,000
Interest expenses – $12,000
Income tax expenses – $5,000

Since Earnings before Interest and Tax (EBIT) data is not provided,

1st step – calculate EBIT:

EBIT = Net income + Income tax expenses + Interest expenses = $56,000 + $5,000 + $12,000 = $73,000

2nd step – calculate Times Interest Earned:

Times Interest Earned Ratio = $73,000 / $12,000 = 6.08 times

In this example Earnings before Interest Expenses and Tax Expenses exceed interest expenses 6 times, which is a good ratio. It also indicates the business can get more loans if needed.

You can find times interest earned ratio calculator here: