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Capital & valuation
Leverage and coverage ratios
Leverage measures debt against earnings (net debt to EBITDA); coverage measures earnings against the interest bill (interest coverage). The two ratios lenders watch.
Owned by: Manager / DirectorTest band: Manager / Director
The formula
Net debt / EBITDA; Interest coverage = EBIT ÷ Interest expense
In practice
Net debt to EBITDA above 3× is where lenders get nervous for most small businesses. Interest coverage below 3× means one bad quarter threatens the payment.
The kind of thing the test asks
- Net debt is $6M and EBITDA is $1.5M. A lender will most likely…
- Interest coverage has fallen from 6× to 2.5× over two years with flat EBIT. The cause is…
More in capital & valuation
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