CFA Level I · CFA Level I Exam · Credit Analysis for Corporate Issuers
An analyst evaluating a corporate issuer's creditworthiness wants a coverage measure that captures the issuer's ability to meet interest obligations from operating performance. Which ratio is most appropriate?
EBIT divided by interest expense is the most appropriate measure. It is the interest coverage ratio and shows how many times operating earnings cover interest costs. Debt to assets is a leverage ratio, and free cash flow to equity does not directly address the capacity to pay interest.
- AEBIT divided by interest expenseCorrect
- BTotal debt divided by total assets
- CFree cash flow divided by shareholders' equity
Explanation
EBIT divided by interest expense is the interest coverage ratio, which shows how many times operating earnings cover interest costs. Debt to total assets is a leverage measure, not a coverage measure. Free cash flow to equity relates to return on equity and does not directly assess interest-paying ability.
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