times interest earned
/ TIE /
Suppose your monthly loan interest is 1,000 and your take-home pay before that bill is 5,000. You earn five times what the interest demands — a comfortable cushion. If your pay before the bill were only 1,100, you would barely cover it, with no room for a bad month. Times interest earned measures this same cushion for a company: how many times over its earnings can pay its interest bill.
The ratio equals earnings before interest and taxes (EBIT, sometimes called operating income) divided by interest expense. The logic for using EBIT is that interest is paid out of profit before interest is subtracted, and before tax, since interest is itself tax-deductible. If a company earns 500,000 of EBIT and owes 100,000 in interest, its times-interest-earned ratio is 500,000 / 100,000 = 5.0 — it earns five times its interest obligation. A ratio of 1.0 means earnings exactly cover interest with nothing to spare; below 1.0 means the company is not earning enough to pay its lenders from operations.
Times interest earned matters because it is a direct, intuitive solvency check that bond investors and lenders watch closely; a falling ratio is an early warning of distress. It pairs naturally with debt-to-equity: one shows how much debt exists, the other shows how easily its cost is met. The caveat: EBIT is an accrual-accounting profit figure, not cash, and interest must be paid in cash — so a firm can show a healthy TIE yet still face a cash crunch if its profits are tied up in unpaid receivables or unsold inventory.
A manufacturer reports EBIT of 800,000 and interest expense of 200,000, giving a times-interest-earned ratio of 4.0. Even if profits fell by half, it could still cover its interest twice over — a cushion lenders find reassuring.
A ratio of 4.0 means profit could halve and still cover interest twice.
Times interest earned uses accrual EBIT, not cash; interest is paid in cash, so a high ratio does not guarantee the company actually has the cash on hand to pay it.