Interest Coverage
In short
How easily a company can pay interest on its debt
If you earn $5,000/month and your loan payments are $500, your interest coverage is 10x. Higher is safer — it means the company easily affords its debt payments. A company earning just $600 against that same $500 bill has a coverage of only 1.2x and very little room for a bad month.
Interest coverage divides EBIT (earnings before interest and taxes) by interest expense for the same period, showing how many times over a company's operating earnings could pay its interest bill. Lenders and credit-rating agencies treat it as a core gauge of default risk: a company whose EBIT barely covers interest has little room to absorb a weak quarter, a rate rise on floating debt, or an operating decline before covenants are breached or refinancing gets harder. Typical coverage varies structurally by industry — capital-intensive, historically leveraged sectors like utilities or airlines often run tighter than asset-light software businesses, so compare within sector rather than across sectors. A ratio below 1 means EBIT doesn't even cover interest, a warning sign in any industry.
Formula
Interest Coverage = EBIT ÷ Interest ExpenseThresholds
- <1.5
- Distressed — may default
- 1.5-3
- Tight — limited margin of safety
- 3-8
- Healthy
- >8
- Very comfortable
Related concepts
- Debt-to-Equity Ratio — If a company has $50 in debt and $100 in shareholder equity, D/E is 0.5. Higher means more leveraged — good in boom times, dangerous in downturns.
- FCF Margin — If a business earns $100 in sales and has $15 left after paying all its bills and investing in the equipment needed to keep running, its FCF margin is 15%. Cash is what actually funds dividends, buybacks, and debt paydown — accounting profit alone doesn't.