Question

Use the following information from separate companies a through d :

Net Income (Loss) Interest Expense Income Taxes
a. $119,000 $44,000 $35,000
b. 135,000 16,000 25,000
c. 138,000 12,000 30,000
d. 314,000 14,000 50,000

Required:
Compute times interest earned. Which company indicates the strongest ability to pay interest expense as it comes due?

Answer 1

Answer:

Company D

Explanation:

The computation is shown below:

As we know that

Times interest earned ratio = Net Income + interest expense + income tax ÷ Interest expense

For company a:

Times interest earned ratio = $119000+ $44000 + $35000 ÷ $44000

= $198000 / $44000

= 4.5 times

For company b:

Times interest earned ratio is

= $135000+ $16000 + $25000 ÷ $16000

 = $176000 / $16000

= 11 times

For company c:

Times interest earned ratio = $138000+ $12000 + $30000 ÷ $12000

= $180000 ÷ $12000

= 15 times

For company d:

Times interest earned ratio = $314000+ $14000 + $50000 ÷ $14000

= $378000 / $14000

= 27 times

As it can be seen that the times interest ratio is higher in company d so it has the strongest ability to pay the interest expense