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Example 1
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Suppose a person approached Bank for a Loan.He asks bank for a loan of 5000000 @ 12% p.a.
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He says that from this loan, he will take start a business where he will earn every year Rs 400000
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Will bank give him loan?
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Interest on Loan every year [email protected]%=600000

Profit earned every year=400000

With the new business, he will not be able to earn even that much profit that he can repay interest.

Hence bank will not give loan

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What are Coverage Ratios
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Ratios which are used to calculate whether compay has the profitability to repay loan is repayable is called coverage ratos

It measures how many timed of repayment the business is to be repaid

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Formula
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Profit After Tax+Dep+Interest/Total Amount Repaid

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Ideal Ratio
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If this ratio is less than 1,no bank will give loan

This ratio should be ideally atleat 1.5

Higher the ratio,the better

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