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CA Intermediate · Financial Management and Strategic Management · Financial Analysis and Planning - Ratio Analysis

Which one of the following ratios is classified as a coverage ratio, measuring a firm's ability to meet its fixed financial charges from operating earnings?

The debt service coverage ratio is a coverage ratio because it compares earnings available with fixed obligations like interest and loan instalments. Inventory turnover and debtors turnover are activity ratios, while net profit margin is a profitability ratio, so they do not measure ability to meet fixed charges.

  1. ADebt service coverage ratioCorrect
  2. BInventory turnover ratio
  3. CNet profit margin
  4. DDebtors turnover ratio

Explanation

Coverage ratios assess the ability to meet interest, preference dividend and repayment obligations from earnings. The debt service coverage ratio does this. Inventory and debtors turnover are activity ratios, and net profit margin is a profitability ratio.

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