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Long-Term Debt-Paying Ability: The Star Logo, and South-Western Are Trademarks Used Herein Under License
Long-Term Debt-Paying Ability: The Star Logo, and South-Western Are Trademarks Used Herein Under License
Long-Term
Debt-Paying Ability
Chapter 7, Slide #2
Copyright 2007 by Thomson South-Western, a part of The Thomson Corporation. All rights reserved.
Times Interest Earned (cont’d)
Chapter 7, Slide #4
Copyright 2007 by Thomson South-Western, a part of The Thomson Corporation. All rights reserved.
Times Interest Earned
Short-Run Variation
(Recurring Earnings + Noncash Expenses)
Excluding Interest Expense, Tax Expense,
Equity Earnings, and Minority Earnings
Interest Expense, Including Capitalized Interest
• Short-run coverage
– Add back noncash expenses to recurring income
(Depreciation/Gains/Losses)
– Less conservative
Chapter 7, Slide #5
Copyright 2007 by Thomson South-Western, a part of The Thomson Corporation. All rights reserved.
Fixed Charge Coverage
Chapter 7, Slide #6
Copyright 2007 by Thomson South-Western, a part of The Thomson Corporation. All rights reserved.
Fixed Charge Coverage (cont’d)
Chapter 7, Slide #8
Copyright 2007 by Thomson South-Western, a part of The Thomson Corporation. All rights reserved.
Debt Ratio and Certain Liabilities
• Reserves
– Matches an expense but is not a liability per se
– Infrequently used in U.S. GAAP statements
– Include in ratio for conservative application
• Deferred Income Taxes
– Difference between income tax expense and income
taxes payable
– Commonplace in U.S. GAAP statements
– Recognized as a liability by GAAP; include in ratio
Chapter 7, Slide #9
Copyright 2007 by Thomson South-Western, a part of The Thomson Corporation. All rights reserved.
Debt Ratio and Certain Liabilities
(cont’d)
• Capital leases
– Asset and liability are reported on the balance
sheet
• Operating leases
– Reported as expense on the income statement
– Supplemental analysis using future payments
• One-third can be estimated as interest
• Two-thirds can be added to the fixed assets and long-term
liabilities for debt ratio analyses
• Disclosure is required of
– Contract face amount
– Nature and terms of the instrument
– Amount of the potential loss
– Entity’s collateral policy and description of the
collateral
• Risk: Potential loss if
– The co-party fails to perform
– Changes in market make instrument less valuable
• Disclosure is required of
– The extent of risk from exposures to individuals or
groups of counterparties in the same industry or
region
• Small companies are particularly susceptible
to concentration risk