Interest Coverage Ratio (ICR)

The Interest Coverage Ratio (ICR) measures a company's ability to meet its interest charges out of its operating profit. It is calculated by dividing operating profit, or EBITDA depending on the definition used, by the interest expense of the period. An ICR of 4 means profit covers interest four times over, offering a comfortable safety margin to lenders.

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The ICR complements the DSCR – Debt Service Coverage Ratio, which also includes principal repayment: the former assesses the sustainability of interest alone, the latter that of total debt service. In SME acquisition financing, the ICR is frequently written in as a Covenant (Financial), tested periodically over the life of the loan; a breach of the contractual threshold triggers renegotiation or default clauses.

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By way of illustration, a company generates 4 MCHF of operating profit and bears 1 MCHF of interest charges: its ICR is 4.0. A covenant set at 3.0 leaves headroom before breach; a fall in profit to 2.8 MCHF would bring the ratio to 2.8 and trigger the clause.

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In financial structuring, the forecast ICR helps size the sustainable level of debt in a structure. A comfortable ratio preserves the company's ability to absorb a slowdown without breaching its banking commitments, protecting lender and shareholder alike.