A firm has total interest charges of $10,000 per year, sales of $1 million, a tax rate of 40 percent, and a net profit margin of 6 percent. What is the firm's times-interest-earned ratio?
A) 16
B) 10
C) 7
D) 11
E) 20

Question

Quizplus · Accepted Answer

Times-interest-earned ratio = Earnings Before Interest and Taxes (EBIT) / Interest charges

Let's first calculate the EBIT:
Net Profit Margin = Net Profit / Sales
=> 6% = Net Profit / $1 million
=> Net Profit = $60,000

Now, we can use the formula for EBIT:
EBIT = Net Profit + Interest charges + Taxes
=> $60,000 + $10,000 + ($60,000 + $10,000) x 0.4 = $118,000

Finally, we can calculate the times-interest-earned ratio:
Times-interest-earned ratio = EBIT / Interest charges
=> $118,000 / $10,000 = 11.8

Therefore, the closest choice is D (11).

A Firm Has Total Interest Charges of $10,000 Per Year