Question

Why would the amount of debt/EBITDA be an important ratio when examining the problem of high debt, particularly with respect to the leveraged loans?

Answer 1

First of all lets understand the ratio of Debt/EBITDA . This ratio facilitates the comparison of borrowings with earnings before interest, taxes, depreciation and amortization (EBITDA). It measures whether the company will be able to pay off its debts or not in a timely manner.

A lower debt/EBITDA ratio indicates that the company has adequate level of funds to satisfy its financial obligations whenever they fall due. A higher debt/EBTIDA ratio means that the company is heavily financed or leveraged and it might face difficulties in paying off its debts in a timely manner.

This ratio is particularly important when examining the problem of high debt, particularly with respect to the leveraged loans, since it gives an idea to the investors with the approximate time period that is required by a firm or a business to pay off its debts, ignoring items like interest, depreciation, taxes, and amortization.

The formula to calculate the ratio is given by the below equation:

= debt / Earnings before Interest, Taxes, Depreciation, and Amortization (EBITDA).

The main conclusion of this ratio is to reflect the cash available with the company to pay back its debts