A financial tool employed to assess an entity’s capacity to service its debt obligations. It quantifies the ability to meet current debt payments with its available cash flow. For example, a calculation result of 2.0 suggests that the entity generates twice the income required to cover its debt obligations.
This metric is crucial for lenders when evaluating the risk associated with extending credit. A higher value generally indicates a greater likelihood of repayment, thereby reducing the lender’s exposure to potential losses. Its historical application stems from corporate finance, evolving alongside increasingly sophisticated credit risk assessment models.