Debt Service Coverage

Question 1

Two types of debt service coverage measures?

Answer 1

1) Profit-based

2) UCA cash flow-based

Question 2

Profit-based Debt Service Coverage Measures What?

Answer 2

Profit-based measures directly relate the cash flow of potentially highest quality to the repayment of the loan.

Question 3

Benefits of Profit-based Debt Service Coverage?

Answer 3

Facilitate communication with the borrower

Remind us of the importance of real, sustainable income as a component of cash flow

Question 4

Limitations of Profit-based Debt Service Coverage?

Answer 4

Imply that all net income has equal cash potential

Do not account for major demands on cash flow

Imply that loan repayment will have a first claim on cash flow

Question 5

UCA Cash Flow Based Debt Service Coverage Measures What?

Answer 5

UCA cash flow-based measures isolate cash interest and principal payments, allowing the measurement of operating cash flow before considering interest and principal.

Question 6

Benefits of UCA Cash Flow-based Debt Service Coverage?

Answer 6

Show accurate measures of cash available to service debt

Question 7

Limitations of UCA Cash Flow Based Debt Service Coverage?

Answer 7

Borrowers unfamiliarity with the UCA cash flow statement make it difficult to discuss the measures with a borrower and include them as loan covenants in a credit agreement

Question 8

Profit-based Coverage Ratios:

Answer 8

Interest Coverage Ratio
Fixed-charge Coverage Ratio
Debt Service Coverage Ratio
EBITDA to Principal and Interest

Question 9

Interest Coverage Ratio

Answer 9

Earnings before Interest and Taxes (EBIT) / Interest Expense

The ratio measures the ability to cover interest expense with profits after expenses.

Question 10

Fixed-charge Coverage Ratio

Answer 10

EBIT + Lease and Rental Expense / Int. Exp. + Lease and Rental Exp. +Prior-year CMLTD

The ratio measures the ability to cover fixed charges (interest, lease/rent expense and CMLTD) with profits after expenses.

Question 11

Debt Service Coverage Ratio

Answer 11

Net Profit after Tax + Deprec. + Amort. - Depletion / Prior-year CMLTD – Term Debt

This ratio measures how many times CMLTD is covered by the current year’s net profit after tax adjusted for non-cash expenses (depreciation, amortization and depletion).

Question 12

EBITDA to Principal and Interest

Answer 12

Net Profit after Tax + Int. + Deprec. + Amort./ Prior-year CMLTD + Interest Expense

This ratio measures the ability to cover principal and interest with the current year’s net profit before tax plus interest adjusted for non-cash charges (depreciation, amortization and depletion).

Question 13

Cash Flow-based Coverage Ratios:

Answer 13

Debt Service Principal and Interest Coverage Ratio

Interest Coverage from Operating Cash Ratio

Question 14

Debt Service Principal and Interest Coverage Ratio

Answer 14

Net Cash after Operations / Cash Paid for Int. +CMLTD + Current portion Capital Leases

This ratio measures the ability to cover interest, principal loan payments, and current capital leases with net cash after operations.

Question 15

Interest Coverage from Operating Cash Ratio

Answer 15

Net Cash after Operations / Cash Paid for Interest

This ratio measures the ability to cover interest payments from net cash after operations.

Question 16

Look for these margins of protection as you compare available cash flow and required debt service:

Answer 16

1. The excess of available cash flow over required debt service
2. The stability and quality of the sources of cash flow
3. The stability and predictability of cash flow demands and the ability to curtail them without reducing the company’s effectiveness