The Fixed Charge Coverage Ratio (FCCR) shows that whether a firm would be able to pay its fixed charge obligations (expenses) from the income it is earning before interest and taxes. It aslo helps in detrmination of the recurring charges that consume the company’s cash flow. The ratio concluded from the calculation is the number of times a firm can cover its fixed expenses each year.

Formula to calculate Fixed Charge Coverage Ratio

The formula to calculate FCCR is:

Fixed Charge Coverage Ratio = EBIT + Fixed Charges Before Taxes/Fixed Charges Before Taxes + Interest

There is no limit of fixed cost that can be used in this formula.

Example

There’s a shop named Vovno dealing in instrument retail specifically selling and repairing harps. The shop owners decided to give the shop a new look for which they will have to apply for a loan. After providing their financial statements to the bank, the loan officer calculates Vovno’s fixed charge coverage ratio.

As the Vovno’s income statement shows, it has $300,000 of income before interest and taxes and it bears $30,000 as interest expense. Vovno’s current lease payment is $2,000 a month or $24,000 a year. Here is how Vovno’s ratio is calculated:

FCCR = $300,000 + $24,000/$24,000 + $30,000

FCCR = 6 times

The above figure shows, Vovno’s ratio is six. This indicates that Vovno’s income is 6 times greater than its interest and lease payments. This is a favourable ratio and the bank should pass the loan without any problem.