Times interest earned (TIE) ratio

By: Rashid Javed | Updated on: October 26th, 2021

Times interest earned (TIE) ratio shows how many times the annual interest expenses are covered by the net operating income (income before interest and tax) of the company. It is a long-term solvency ratio that measures the ability of a company to pay its interest charges as they become due.Times interest earned ratio is known by various names such as debt service ratio, fixed charges cover ratio and Interest coverage ratio. The ratio is expressed in times.

Formula:

Times interest earned ratio is computed by dividing the income before interest and tax by interest expenses. The formula is given below:

times-interest-earned-ratio-img1

Income before interest and tax (i.e., net operating income) and interest expense figures are available from the income statement.

Example:

A creditor has extracted the following data from the income statement of PQR  and requests you to compute and explain the times interest earned ratio for him.

times-interest-earned-ratio-img2

Required: Compute times interest earned (TIE) ratio of PQR company.

Solution:

= (2,570 / 320)
= 8.03 times

The times interest earned ratio of PQR company is 8.03 times. It means that the interest expenses of the company are 8.03 times covered by its net operating income (income before interest and tax).

A D V E R T I S E M E N T

Significance and Interpretation:

Times interest earned ratio is very important from the creditors view point. A high ratio ensures a periodical interest income for lenders. The companies with weak ratio may have to face difficulties in raising funds for their operations.

Generally, a ratio of 2 or higher is considered adequate to protect the creditors’ interest in the firm. A ratio of less than 1 means the company is likely to have problems in paying interest on its borrowings.

A very high times interest ratio may be the result of the fact that the company is unnecessarily careful about its debts and is not taking full advantage of the debt facilities.

More from Financial statement analysis (explanations):
A D V E R T I S E M E N T
21 Comments on Times interest earned (TIE) ratio
  1. Question: A company faces total interest charges of $10,000 per year, annual sales of $1,000,000, a tax rate of 40 percent, and a net profit of 60 percent. What is the company’s times interest earned ratio?

  2. If 60 percent profit is before interest and tax, your problem can be solved as follows:

    Net profit before interest and tax = $1,000,000 × 0.6 = $600,000

    According to above formula, the ratio is computed by dividing profit before interest and tax by interest expenses for the period. The ratio would therefore be computed as follows:

    Times interest earned ratio = 600,000/10,000 = 60 times

  3. Calculating the Times Interest Earned Ratio For the most recent year, Back Alley Boys, Inc., had sales of $250,000, cost of goods sold of $80,000, depreciation expense of $27,000, and additions to retained earnings of $33,360. The firm currently has 20,000 shares of common stock outstanding, and the previous year’s dividends per share were $1.50. Assuming a 34% income tax rate, what were the times interest earned ratio?

  4. Accounting For Management

    afi123! you need to find out income before interest and tax and the interest expenses of the firm to apply the times interest earned ratio formula. These two figures are computed below:

    Income before interest and tax (IBIT):
    = Sales – COGS – Depreciation
    = $250,000 – $80,000 – $27,000
    = $143,000

    Income before tax (IBT):
    = Additions to retained earnings + dividends
    = ($33,360 + $30,000)/0.66
    = $96,000
    The sum of the additions in retained earnings and the amount of dividends have been divided by 0.66 to arrive at income before tax (IBT).

    The annual Interest expense:
    = IBIT – IBT
    = $143,000 – $96,000
    = $47,000

    Times interest earned ratio (TIER):
    = $143,000/$47,000
    = 3.04 times

  5. Accounting For Management

    Hi Rachna,

    The tax rate given in the question is 34%. If company pays 34% tax on its taxable income, the income after tax would be 66% or 0.66 (100% – 34%). Another way to express this relationship is as follows:
    Income after tax = Income before tax – Income tax
    66% = 100% – 34%
    or
    .66 = 1 – .34

    Hope this helps.

  6. Accounting For Management

    @Lorie
    If ratio is 4, it means income before interest and tax is 4 times bigger than the annual interest expenses.

  7. This information has been most helpful, I just hope that I have gotten the understanding to do my final paper with. Thanks everyone for the contribution.

  8. I have been presented with the following information about XYZ Ltd.
    Total equity is 8%
    ROA is 20%
    Total asset turnover is 6 times.

    Determine the ROE for XYZ Ltd

  9. Can someone please help me?
    If I have an income statement with financial income, do I include that in the interest expenses?
    Thank you

  10. I want to ask, if the company given the times-interest earned ratio is 4.2, an annual expenses $30,000 and its pay income tax equal to 28% of earning before tax. How to find the net income of the company.

  11. Moss Motors has $8 billion assets, and its tax rate is 40%. the company’s basic earning ratio is 12% and its return on assets is 3%. What is Moss TIE?

  12. abc corporation has Br.1000000 of debt outstanding of 10% interest rate. the firm’s annual net sales are Br. 4000000; its tax rate is 40% and its net profit margin is 5%, what is abc caompany’s times interest earned ratio?

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