Debt service coverage ratio

The debt service coverage ratio or capital service coverage ratio (engl. Debt service coverage ratio , DSCR) is a financial ratio , wherein depending on the nature of the debtor the loan interest and repayment certain revenue be compared. This is to determine to what extent a debtor is able to raise interest and repayment for the loans taken out .

General

Lenders have an interest in measuring their credit risk with the debtor. A variety of debt ratios are available to you for this. These are important control and decision parameters for the provision and retention of outside capital . While the interest burden rate only takes into account the interest expense of a borrower , the debt service coverage ratio also includes the repayments to be made. Interest expenses and repayments together form the debt service . Interest includes all interest expenses that result from interest-bearing liabilities (exceptions: interest on pension provisions , bank fees ). The debt service coverage ratio indicates the extent to which the interest and repayments to be raised on loans can be paid by the debtor from income. The type of income depends on whether the debtor is a company , private household or the state (or its local authorities ).

Companies

For companies, the debt service is compared to the earnings before interest and taxes ( EBITDA ) or the cash flow before interest and repayment of a period. EBITDA and cash flow are indicators from which the debt service is to be paid. The higher the EBITDA or cash flow, the easier it is for a company to service its debt.

${\displaystyle {\mbox{Schuldendienstdeckungsgrad}}={\frac {\mbox{EBITDA}}{\mbox{Zinsaufwendungen + Tilgungszahlungen}}}}$

Tend to have strong equity company in a better position to contest the debt service as a borrowing-dependent. Correspondingly, the debt service coverage ratio is more favorable for companies with high equity capital. It worsens if additional debt is incurred or if the level of debt remains the same, the interest rate rises. The coverage ratio must be at least 1: 1 in order to guarantee the payment of interest and amortization on the debt. The debt situation for companies is critical - depending on the sector - when the debt service permanently exceeds 50% of the cash flow / EBITDA, i.e. the cash flow falls below twice the debt service. If these limits are not only exceeded temporarily, a company finds itself in a corporate crisis .

For project financing , a debt service coverage ratio of 1.2 is assumed as a minimum, so the project's cash flow available for debt service must exceed debt service by 20%. International project financing often works with ratios between 1: 1.3 to 1: 1.5. If the cash flow decreases due to a deterioration in business activity and / or if the debt service increases due to higher interest rates / loans, the credit risks of project financing increase.

An unfavorable debt service coverage ratio indicates that an increase in equity is necessary in order to also reduce the dependency on creditors associated with a high level of borrowing.

States

States and their regional authorities ( federal states , cantons , municipalities ) are also borrowers. In the case of these debtors, the debt service coverage ratio indicates the extent to which the interest and repayments to be raised on loans are covered by the state through gross domestic product , state expenditure or export earnings . The budgetary debt service relates to the expenditure of the general public budget, while the macroeconomic debt service results from the comparison of the interest expenses and repayments with the gross domestic product.

${\displaystyle {\mbox{Schuldendienstdeckungsgrad}}={\frac {\mbox{Zinsaufwendungen + Tilgungszahlungen}}{\mbox{BIP oder Gesamteinnahmen}}}}$

If, for example, the national debt (gross) reaches the level of the gross domestic product ( national debt ratio therefore 100%) and - assuming an interest rate of 6% - the tax revenue is 30% of the gross domestic product, the tax revenue is already burdened with 18% interest expense ( interest coverage ratio ). After servicing the debt , the state then only has around 80% of the tax revenue for its actual public finance tasks. Debt servicing can be subject to greater changes if the volume of short-term debt is relatively high and the mostly variable debt interest rates are subject to large market fluctuations. The situation is critical for a state and its local authorities if the interest and repayment service exceeds 20% to 25% of the permanently achievable export revenues (state) or total income (local authorities) or reaches more than 20% of total expenditure. If the critical limits are exceeded permanently, states can get caught in a state crisis.

In the case of states and their local authorities, a negative development in the debt service coverage ratio can usually only be countered with strict budgetary discipline in the area of ​​expenditure. Gross national product or export revenues, on the other hand, are aggregates that can hardly be influenced in the short and medium term.

In the overall budget of the Federal Republic of Germany for 2012, interest expenditure is estimated at 38 billion euros with a total of 309 billion euros in total expenditure, so the interest burden ratio is still an acceptable 12.3% of total expenditure. Compared to the gross domestic product in 2012 (2,645.0 billion euros) that was a slight 1.4%.

Private households

The IMF since 2004 recommends determining the debt service ratio for households in relation to income . The relevant reference value is the available annual net income, because the taxes and duties included in the gross income are not available to the private household. Fixed costs ( rent and ancillary costs , insurance premiums , leasing fees , subscription costs ), energy costs and other living costs are to be deducted from the available net income :

   verfügbares Netto-Einkommen
   - Miete und Nebenkosten
   - Versicherungsprämien
   - Leasinggebühren
   - Energiekosten
   - übrige Lebenshaltungskosten
   = Netto-Einkommen vor Schuldendienst
   - Schuldendienst
   = Netto-Einkommen (frei verfügbar)

The net income can be found in the following formula as a denominator :

${\displaystyle {\mbox{Schuldendienstdeckungsgrad}}={\frac {\mbox{Zinsaufwand + Tilgung}}{\mbox{Netto-Einkommen vor Schuldendienst}}}}$

The debt service coverage ratio worsens when new loans are taken out or the interest rate increases (with variable interest rates ) or the net income decreases (e.g. due to unemployment ).

According to the OECD , the debt service ratio in some countries was less than 25% of household income, while in the USA the debt service ratio was only 10% in 2013. These quotas largely prevent financing risks that can also arise on the expenditure side from an increase in the price level for the cost of living. If the debt service ratio exceeds 40%, there are considerable financing risks for the private household, which can lead to insolvency , over-indebtedness , loan termination and ultimately personal insolvency . A private debtors is considered vulnerable when the debt service of all loans more than 40% of their monthly gross income must expend. Converted to the net income in the USA (Germany; see tax rate ), the rate is around 29% (26%).

Around 45% of German private households were in debt in 2014, around 22% of all German households own real estate financing . Around 60% of households used less than 20% of their net income for interest and repayments, less than 10% of households used more than 50% of their income, the average rate being 20%.

Effects

The debt service coverage ratio can be part of bond terms or loan agreements within the framework of the covenants . In doing so, the debtor undertakes to his creditors not to exceed a certain contractually stipulated upper limit of the debt service coverage ratio. If the upper limit is exceeded, then there is a breach of contract ( English covenant breach ), which initially usually results in a healing period ( English remedy / grace period ), which is intended to enable the borrower to subsequently meet the specified key figure. However, if this still does not succeed , a higher credit margin or even an extraordinary termination right of the creditor will be triggered.

Others

Related to the debt service coverage ratio, which only considers the respective period result, is the so-called Loan Life Cover Ratio (LLCR), in which the present value of the entire cash flow over the loan term is related to the respective residual debt. The latter describes the ability of a project / investment to provide debt servicing over the entire term of a loan.

See also

• Interest coverage ratio

Individual evidence

1. ↑ Christian Decker, International Project Financing: Concept and Review , 2008, p. 113
2. ^ Norbert Kloten / Peter Bofinger / Karl-Heinz Ketterer, Newer Developments in Monetary Theory and Monetary Policy , 1996, p. 92
3. ↑ Heinz-J. Bontrup , wages and profits. Economics and business basics , 2nd edition, 2008
4. ↑ Pascal Gantenbein / Klaus Spremann, Zinsen, Anleihe, Kredite , 2014, p. 25
5. ↑ Urs Egger, Agricultural Strategies in Various Economic Systems , 1989, p. 124
6. ↑ International Monetary Fund, International Monetary Fund Annual Report 2004 , 2004, p. 33
7. ↑ OECD, Economic Outlook, 2006/2 edition, December 2006, p. 182
8. ↑ Deutsche Bundesbank, Monthly Report November 2013 , p. 14
9. ↑ Jesse Bricker / Brian Bucks / Arthur Kennickell / Traci Mach / Kevin Moore, Surveying the Aftermath of the Storm: Changes in Family Finances from 2007 to 2009 , Federal Reserve Board Working Paper 2011-07, March 2011, p. 17
10. ^ Deutsche Bundesbank, Risks from the indebtedness of German households with real estate loans , Financial Stability Report 2013, p. 68
11. ↑ Deutsche Bundesbank, Assets and Finances of Private Households in Germany: Results of the 2014 Asset Survey , March 2016, p. 75