What would be the times interest earned of a company if its total interest charges are $20,000, sales are $220,000, and its net profit margin is 6 percent? Assume a tax rate of 40 percent.
A) 2.65
B) 1.1
C) 2.1
D) 1.2

Question

Quizplus · Accepted Answer

First, we need to calculate the net profit before interest and taxes (EBIT) using the net profit margin:

Net profit margin = Net profit / Sales
0.06 = Net profit / $220,000
Net profit = $13,200

Next, we calculate earnings before taxes (EBT) by subtracting interest expenses from EBIT:

EBIT = EBT + Interest expenses
$13,200 = EBT + $20,000
EBT = -$6,800

Since EBT is negative, the company does not need to pay any taxes. Therefore, earnings after taxes (EAT) is also -$6,800.

Finally, we can calculate the times interest earned ratio:

Times interest earned = EBIT / Interest expenses
Times interest earned = $13,200 / $20,000
Times interest earned = 0.66

Therefore, the answer is C) 2.1.

What Would Be the Times Interest Earned of a Company