Interest Coverage RatioICR
The interest coverage ratio measures how easily a company can pay interest on its debt: EBIT divided by interest expense. A ratio of 5 means operating profit covers interest five times; a low ratio warns of financial stress.
Debt is fine as long as a company can afford the interest. The interest coverage ratio checks exactly that, comparing operating profit with interest costs. Lenders, credit analysts and investors all watch it, especially when rates rise or earnings fall. This entry explains the formula, how to read it and its limits.
- Category
- Fundamentals and Macroeconomics
- Reading time
- 3 min
- Also called
- Times interest earned, TIE ratio, Interest cover
- Updated
Interest coverage in plain words
The interest coverage ratio shows a company's ability to pay interest on its outstanding debt, and lenders use it to judge lending risk.1
It is also called the times interest earned ratio, and it divides EBIT by interest expense.1
Operating margin — revenue left after operating expenses — feeds directly into the EBIT used here.2
How to calculate it, step by step
Find EBIT
Operating profit before interest and taxes.
Find interest expense
From the income statement.
Divide
EBIT ÷ interest expense.
Compare with peers
Industries differ.
Watch the trend
Falling coverage is a warning.
Stress-test
What if rates or earnings change? See Interest Rate.
Worked examples
Example 1 — Comfortable coverage
6.25×EBIT $50m, interest expense $8m.
| Coverage | $50m ÷ $8m = 6.25× |
Operating profit covers interest more than six times, so debt service looks safe.1
Example 2 — Rising rates
Coverage downSame company refinances; interest rises to $20m while EBIT stays $50m.
| New coverage | $50m ÷ $20m = 2.5× |
Higher borrowing costs cut coverage sharply even with unchanged profits. See Rate Hike and Rate Cut.
Example 3 — Danger zone
Can't cover interestEBIT falls to $12m with $15m of interest.
| Coverage | $12m ÷ $15m = 0.8× |
Below 1×, operating profit doesn't even cover interest — a sign of distress. See Zombie Companies.
Interest coverage vs debt-to-equity
| Aspect | Interest coverage | Debt-to-equity |
|---|---|---|
| Measures | Ability to pay interest | Amount of debt vs equity |
| Source | Income statement | Balance sheet |
| Higher is | Safer | Riskier |
| See also | Altman Z-score | Debt-to-Equity Ratio |
How the ratio is used
Lending decisions
Banks set covenant minimums.
Credit ratings
A key input for agencies. See Credit Rating.
Stock screening
Avoiding over-indebted firms.
Bond analysis
Judging default risk. See Corporate Bonds.
Advantages and disadvantages
Advantages
- Simple and widely used.
- Directly measures debt-servicing ability.
- Sensitive to rate changes.
Disadvantages
- EBIT is not cash.
- Ignores principal repayments.
- One weak quarter can distort it.
Going deeper
Read as far as you need. Each level builds on the one before it.
Who uses it
Beginner
Lenders, creditors and investors use the ratio to gauge how risky it is to lend to a company.1
EBITDA version
Intermediate
Some analysts use EBITDA instead of EBIT to approximate cash available, which gives a higher ratio. See Operating Cash Flow.
Operating leverage effect
Advanced
Companies with high fixed costs see EBIT — and coverage — swing sharply with sales. See Operating Leverage.
Common mistakes
Using net income
Coverage uses EBIT, before interest.
Ignoring variable-rate debt
Coverage can drop fast when rates rise.
Comparing across industries
Utilities and tech differ.
Looking at one period
Use trends and averages.
Check your understanding
Test yourself before moving on. Each answer comes with an explanation.
Key points to remember
- Interest coverage = EBIT ÷ interest expense.
- Higher means debt is easier to service.
- Below 1× is a red flag.
- Rising rates can cut coverage quickly.
- Use it with balance-sheet ratios.
Frequently asked questions
What is a good interest coverage ratio?
Is it the same as times interest earned?
Can it be negative?
Further learning
- Debt-to-Equity Ratio
How much debt there is.
- Altman Z-Score
A broader distress score.
- Credit Rating
How agencies judge debt.
- Operating Leverage
Why EBIT swings.
Sources
This article is written in our own words. The sources below support the specific facts, rules and figures marked with a number in the text. Links open the original publisher’s page.
- Corporate Finance Institute. Interest Coverage Ratio (opens in a new tab) Checked .
- Corporate Finance Institute. Operating Margin (opens in a new tab) Checked .
Educational content, not financial advice. Examples use hypothetical prices and simplified costs; actual fees, margin rules and regulations vary by broker, market and country. We are not affiliated with any publisher linked above. Last reviewed . Report an error or request a source credit.