Interest Coverage Ratio

[keep_running]

Hello,
Year end annual lease payment = $175,000
EBIT in the next year = $450,000
7 percent imputed interest rate on the lease with a 10 year time period.
What is the interest coverage ratio?

 

[S2000magician]

Use your calculator to get the PV on the lease.
Calculate the interest on that PV.
Divide EBIT by that interest.
Arrive at 5.23.

 

[busprof]

To clarify 2000’s example - remember that on a capital lease, the interest expense is the carrying value at the beginning of the year times the interest rate. And the carrying value will be the lower of fair market value or the present value of the remaining payments.
In this case, since we don’t have FMV, we assume carrying value is the PV of the lease payments.