What is DSCR?
Understanding the DSCR, how it works and whether a DSCR loan is the right finance solution for your business.
A DSCR (Debt Service Coverage Ratio) loan in the UK evaluates a business's ability to cover debt repayments through its operating income. It's a critical tool used by lenders to assess the financial health of a company.
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Pages in this SectionWhat is the debt-service coverage ratio?
Debt-service coverage ratio is a widely used indicator of a company's financial health, especially for businesses carrying a significant amount of debt. The ratio compares a company's total debt obligations (including principal repayments and some capital lease agreements) to its operating income.
What does a DSCR above 1 mean?
A DSCR above 1 indicates that the business generates enough income to cover its debt obligations, and the higher the ratio, the more favourable the loan terms. For businesses looking to secure funding, calculating and understanding your DSCR is essential before applying.
Key takeaways
- DSCR is an important measure of a company's financial health.
- Lenders, stakeholders, and partners will target different DSCR metrics.
- DSCR can vary based on industry, company history, and other factors.
- Seasonal businesses may experience more flexible DSCR terms.
Understanding the debt service coverage ratio
Debt-service coverage ratio is crucial for businesses with considerable debt. Different lenders, stakeholders, and partners will target different DSCR metrics, depending on a company's history, industry, product pipeline, and prior relationships with lenders.
External parties may also be more lenient during seasonal operation when a company's income is variable, though DSCR terms are often included in loan agreements.
What is the debt service coverage ratio used for?
DSCR is primarily used to determine a company's ability to meet its debt obligations. It helps lenders assess the risk associated with providing a loan or extending credit to a business.
DSR calculations
What is the formula for calculating DSCR?
DSCR = Net Operating Income / Total Debt Service
Calculating DSCR Using Excel:
To calculate DSCR in Excel, simply divide the net operating income by the total debt service using a formula like "=A1/B1" where A1 contains the net operating income and B1 contains the total debt service.
Debt service coverage ratio example:
Suppose a company has a net operating income of £200,000 and total debt service of £150,000. The DSCR would be calculated as follows:
DSCR = £200,000 / £150,000 = 1.33
What is a good or bad debt service coverage ratio?
A DSCR of 1 or higher indicates that the company has sufficient operating income to cover its debt obligations. A ratio below 1 suggests that the company may struggle to meet its debt payments. Lenders typically prefer a DSCR of at least 1.2 to 1.5, but this can vary depending on the industry and other factors.
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