What Is the Times Interest Earned (TIE) Ratio?

The times interest earned (TIE) ratio is a solvency ratio that determines how well a company can pay the interest on its business debts. It is a measure of a company's ability to meet its debt obligations based on its current income. The formula for a company's TIE number is 澳洲幸运5官方开奖结果🍃体彩网:earnings before interest and taxes (EBIT) divided by the total interest payable on bonds and other debಞt. The result is a number that shows how many times a company could cover its interest charges with its pretax earnings. TIE is also referred to as the interest coverage ratio.

Formu♈la and🤡 Calculation of the Times Interest Earned (TIE) Ratio

Assume, for example, that XYZ Company has $10 million in 4% debt outstanding and $10 million in common stock. The company needs to raise more capital to purchase equipment. The cost of capital for issuing more debt is an annual interest rate of 6%. The company's 澳洲幸运5官方开奖结果体彩网:shareholders expect an annual dividend payment of 8% plus growth in the stock p꧃rice of XYZ.

The business decides to issue $10 million in additional debt. Its total annual interest expense will be (4% X $10 million) + (6% X $10 million), or $1 million annually. The company's EBIT is $3 million.

This means that the TIE ratio for XYZ Company is 3, or three times the annual int🧸erest expense.

What the TIE Ratio Can Tell You

Obviously, no company needs to cover its debts several times over in order to survive. However, the TIE ratio is an indication of a 澳洲幸运5官方开奖结果体彩网:company's relative freedom from the constraints of debt. Generating enough cash flow to continue to invest in the business is better than merely having enough money to stave off 澳洲幸运5官方开奖结果体彩网:bankruptcy.

A company's capitalization is the amount of money it has raised by issuing stock or debt, and those choices impact its TIE ratio. Businesses consider the 澳洲幸运5官方开奖结果体彩网:cost of capital for stock and debt and use that cost to make decisions.

Special Considerations

As a rule, companies that generate consistent annual earnings are likely to carry more debt as a percentage of total capitalization. If a lender sees a history of generating consistent earnings, the fir🌞m will be considered a better credit risk.

Utility companies, for example, generate consistent earnings. Their product is not an optional expense for consumers or businesses. Some utility companies raise a conside♛rable percentage of their capital by issuing debt.

Startup firms and businesses that have inconsistent earn🧸ings, on the other hand, raise most or all of the capital they use by issuing stock. Once a company establishes a track record of producing reliable earnings, it may begin raising capital through debt offerings as well.

The Bottom Line

The times interest earned ratio looks at how well a company can furnish its debt with its earnings. It is one of many ratios that help investors and analysts evaluate the financial health of a company. The higher the rat✅io, the better, as it indicates how many times a company could pay off its debt with its earnings.