🤔 Is the current portion of DEBT covered by the actual daily activity “earnings”? What about the long-term portion as well? Which Liabilities should be considered? ↴
◕ The Cash Debt coverage can show if the actual cash coming from the operating activities is enough for the short and long-term portion of debt that has to be paid.
🖩 It’s generally calculated by dividing the cash generated from the ordinary activities by the liabilities, or better, by the debt amounts.
🗓️ If only the coverage of current portion of debt is analyzed, we put the average current liabilities in the denominator: these are not, in truth, all the current liabilities that we find in the balance sheet: we can choose the actual short-term debt amounts, or, going from exclusion, keeping out the current liabilities that have been recorded for “pure” accounting purposes.
If we want to analyze all the debt coverage, long-term amounts due should be added up.
🏭 In both cases, the numerator is represented by the cash flow originated from the daily business activities, which is given by + Revenues – Expenses – how much money clients still have to pay for goods or services already provided + what the company still owes to suppliers for those expenses – the possible increase in inventory (if it’s a manufacturing firm).
💰 If all the debt is considered, it’s very difficult to find a ratio equal to 1 – that means it’s hard to have (yearly) operating cash flows that can cover all the debt outstanding. That’s where the analysis of financing resources comes in handy: how is the gap going to be filled? With new money coming from lenders, banks, owners, etc.?
☞ Do you know how to handle these sit
uations? Let us know!
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