Interest Coverage Ratio (ICR)
Question
What is the importance of the term "Interest Coverage Ratio" of a firm in India? Select the correct answer using the code given below:
- 1.
It helps in understanding the present risk of a firm that a bank is going to give loan to.
- 2.
It helps in evaluating the emerging risk of a firm that a bank is going to give loan to.
- 3.
The higher a borrowing firm's level of Interest Coverage Ratio, the worse is its ability to service its debt.
Options
1 and 2 only
2 only
1 and 3 only
1, 2 and 3
Explanation
The Interest Coverage Ratio (EBIT / Interest Expense) measures how easily a company can pay interest on its outstanding debt. It helps banks assess both the present and emerging financial risks of lending to a firm (Statements 1 and 2 are correct). A higher ratio indicates that the firm generates much more earnings than its interest obligations, meaning it has a better (not worse) ability to service its debt (Statement 3 is incorrect). > One-line conceptual takeaway: A high Interest Coverage Ratio implies strong financial health and lower default risk for the borrower. Answer: (a).
Question details
Year
2020
Paper
GS Paper 1
Question
Q62
Subject
Economy
Sub-topic
Industry, MSME & Services
Type
Statement-based
Difficulty
Medium
Nature
Static
Source hint
Basic Financial Accounting / NPA Crisis
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