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Chapter 10. Beyond Their Means: Balance ... > Red Flag 9: When the Interest Covera...

Red Flag 9: When the Interest Coverage Ratio Drops Below One-to-One

The interest coverage ratio is an indicator that Sean Egan pays a lot of attention to when his team at credit analysis firm Egan-Jones Ratings Co. goes through a company’s financial statements. When the ratio of income before interest and taxes divided by interest drops below one-to-one, it means a company is going to struggle to keep up with interest repayments on its debt. A drop below this level can be an early warning sign of major financial difficulties ahead. In early 2002, Egan-Jones cut Ford Motor Co.’s credit rating to junk status because its interest coverage had fallen to around one-to-one. “It has interest coverage that gives it no room to spare,” said Egan. “If a company goes below one-to-one, it means it is going to have to look for other sources of capital.” Throughout 2002, Ford consistently denied that it had faced any difficulties financing its huge debt load.


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