Debt Coverage Ratio determines a so-called general liquidity of the company in terms of the cash flow. Apart from the operating cash flow, free and incoming cash flows can be used for estimation purposes.
Alternative names of the Debt Coverage Ratio:
- Cash / Debt Coverage
- DCR – Debt Coverage Ratio
- DC – Debt Coverage
- CF / TDR – Cash Flow to Total Debt Ratio.
What Does the Debt Coverage Ratio Show?
The indicator shows the company’s ability to generate enough proceeds to cover its debts. The higher the value of the coefficient, the easier it is for the companies to repay debts. Unlike the indicator of the overall liquidity, which measures the ability to cover debt at the expense of working capital, this indicator allows determine the coverage of debts at the expense of real money.
Formula of the Debt Coverage Ratio
DCR = Incoming cash flow from operating activity / Amount of all debts
CDC = Operating cash flow / Amount of all debts
CDC = Free cash flow / Amount of all debts
CDC = Net cash flow / Amount of all debts
Normative Value of the Debt Coverage Ratio
Determining the Debt Coverage Ratio based on the free cash flow, represents a classic method of calculations. The value of the coefficient must vary between 0.5 and 1. If the value is below 0.5, it means the company has accumulated a large amount of debt or it generates too little money. For a more complete analysis, the indicator should be investigated in its dynamics.