Question

Financial Statement Analysis for Eastman Chemical company: for 2017 and 2018

Leverage Ratios

Debt-to-Assets Ratio

Debt-to-Equity Ratio

Interest Coverage

Answer 1

The word leverage means risk. Levarage ratios explain what is percantage of risk taken by company.One of the leverage ratios is financial risk. Financial risk can be explained in two ways.

1. Debt- Assets ratio

2. Debt- Equity ratio

DEBT-ASSETS RATIO

It means that what is the amount of debt money employed for every rupee of assets of the company.It can also be understood as how much assets of the company are financed by funds from creditors, loans from banks ,financial institutions and other outside liabilities. It can be calculated as

Debt - equity ratio= Total liabilities/ Total Assets

It calculates the total debt as a percantage of total assets.

If debt- assets ratio is high, it means that company has to pay more of its profits in the form of fixed commitments like loan etc.. Financing the assets through debt is good source since the company has to pay only fixed amount unless variable like in case of share in profits etc...

But on the other hand, the prosperity of the company and its ability to meet the interest payment will be affected if the assets which are sourced through debt are not efficiently managed.

Hence the ideal debt- assets ratio will be 1.

It means that company have enough assets to payout the outside liabilities. If the ratio is greater than one ,the company will be more risky to invest and vice-versa.

DEBT - EQUITY RATIO

It shows that how much amount of debt is employed in the company for every rupee of equity in the company i.e., for every rupee of owners funds. It can be calculated as

Debt- Equity ratio = short term debt+ long term debt+ other fixed payments / shareholders equity. (or)

Total debt/ Total equity. it is also called as gearing ratio. The ideal debt - equity ratio is 2:1

It means that the company is having double amount od debt when compared to equity. For example ,if the company's equity is 5 lakhs, its debt will be 10 lakhs.

INTEREST- COVERAGE RATIO

It shows companies ability to meet interest obligations out of the earnings of that year. It can be calculated as

Interest coverage ratio= Earnings before Interest and tax(EBIT)/Interest expenses.

It shows how easily can a company pay off its interest. Higher the interest coverage ratio,more the companies ability to meet its interest obligation.