The company's interest-bearing debt rises from THB 18 million to THB 22 million, yet its debt-to-equity ratio falls. Should the owner feel more comfortable?
The answer sits elsewhere in the statements. In this series' hypothetical company, equity grows faster than debt, improving the ratio. Meanwhile, pre-interest profit grows more slowly than interest expense, and operating cash flow falls. D/E alone shows only part of the burden.
This article uses the same invented equipment seller, systems installer, and support provider. Amounts are THB millions, and years 1 (Y1) and 2 (Y2) each span 12 months. The figures teach statement reading; they are neither lending thresholds nor advice for a company to borrow.
Define the debt before comparing D/E
Equity here means the whole shareholders' equity balance, not only registered capital. D/E stands for debt to equity, but reports define debt differently. Some include all liabilities; others include only interest-bearing debt. Check the formula before treating different results as an economic change.
| Definition | Calculation | Result |
|---|---|---|
| Total liabilities / equity | 47 ÷ 34 | 1.38 times |
| Interest-bearing debt / equity | 22 ÷ 34 | 0.65 times |
| Interest-bearing debt less all cash / equity | (22 − 6) ÷ 34 | 0.47 times |
| Net financial obligations after reserving operating cash / equity | [22 − (6 − 2)] ÷ 34 | 0.53 times |
The last row assumes THB 2 million of cash must be retained for operations. The remaining THB 4 million is treated as a financial asset and deducted from debt under this analytical framework. Part 7 explains the classification more fully.
Name both the items counted and the measurement date. All four rows use year-end balances, not averages. They are not FLEV, which Part 7 calculates from average net financial obligations.
Debt can rise while its ratio falls if equity grows faster
Interest-bearing debt rises 22.22%, from THB 18 million to THB 22 million. Equity rises 30.77%, from THB 26 million to THB 34 million, so interest-bearing debt/equity falls from 0.69 to 0.65.
The THB 8 million rise in equity reconciles to THB 12.4 million net profit less THB 4.4 million dividends. The hypothetical company issues no new equity this year. That explains the ratio's direction, but not whether cash is available on every creditor due date.
If accumulated losses leave equity very small or negative, D/E may be unusually high or cease to read like a normal proportion. A negative result does not mean a light debt burden. Open the actual balances and the cause of falling equity first.
Does profit grow fast enough to cover interest?
This article defines interest coverage as EBIT ÷ interest expense. EBIT is earnings before interest and tax, so the ratio asks how many times accrual-basis profit covers interest.
| Item | Y1 | Y2 |
|---|---|---|
| EBIT | 15.0 | 18.0 |
| Interest expense | 2.0 | 2.5 |
| EBIT ÷ interest | 7.50 times | 7.20 times |
| Cash from operations (CFO) | 12.4 | 11.4 |
EBIT rises 20% while interest rises 25%, so coverage falls even though profit is higher. Read direction alongside level. This does not justify calling 7.20 safe for every business.
If interest expense is zero, this ratio is undefined; report that no interest was incurred. If EBIT is negative, show the loss clearly rather than interpreting a negative ratio as interest-paying capacity.
The profit numerator includes revenue not yet collected and expenses not yet fully paid. CFO reflects the period's operating cash according to cash-flow classification. In this example, paid interest and tax are already in CFO. Before using CFO in another formula, check whether they are being added back or deducted twice.
Covering interest still leaves principal to examine
Interest is only one part of what lenders collect. Principal may fall due in installments or one large payment. On that date, the company needs cash, genuinely available credit, or a new financing agreement.
At the end of Y2, THB 22 million interest-bearing debt includes THB 8 million classified as current. That signals short-term obligations requiring examination. It does not say the company repaid THB 8 million of principal during Y2 or give each due date.
Debt service coverage ratio (DSCR) compares cash defined as available for debt service with the period's debt-service obligation. Read the agreement to learn which cash flows the numerator includes and which debt payments the denominator includes. Banks and contracts may differ.
We cannot calculate DSCR from these figures: we know only that net borrowing rose THB 4 million, not gross drawdowns and principal repayments separately. Calling EBIT divided by interest “DSCR” answers the wrong question. Guessing principal repayments from closing debt is equally risky.
Where did the higher ending cash come from?
At the end of Y2, cash rises from THB 4 million to THB 6 million. The balance alone looks more liquid, but the year's cash bridge also shows borrowing and dividends.
After THB 9 million investment, CFO leaves THB 2.4 million before dividends of THB 4.4 million; financing still matters. This year's dividend is also below the THB 9.4 million paid in Y1. Higher closing cash therefore did not come solely from better collection on the work.
Investment may support future work; dividends are a shareholder cash decision. These figures do not decide which item to stop. They separate cash needs from operations, investment, and payments to owners before selecting financing that matches the period of need.
How operating, investing, and financing changed cash
Cash-change components, THB millions
Separate panel scale: −15 to +15 THB million
Inflows positive, outflows negative. Borrowing is a net increase, not gross loan proceeds.
CFO
Fixed-asset purchases
Net increase in borrowing
Dividends paid
Net result, not another component to add
Separate panel scale: −3 to +3 THB million
Net change in cash
Match receipt dates to payment dates before taking on more debt
For a hypothetical software team, SI business, or Odoo Partner paid in milestones, read loan terms alongside delivery dates, acceptance criteria, invoicing dates, and expected cash receipts. If acceptance has not been signed and the invoice cannot yet be issued, more credit may bridge the wait, but someone must still resolve that bottleneck.
A hypothetical factory may have cash tied in raw materials and finished goods. Check what supports actual orders, what sells slowly, and when each supplier is due. Stretching payment without agreement can cost discounts or interrupt deliveries; a longer DPO is not automatically good.
| Question | Evidence to open | Owner to consult |
|---|---|---|
| How much is due, and when? | Debt schedule separating principal, interest, due dates, and covenants | Finance team and credit approver |
| Will cash arrive in time? | Short-term cash forecast, individual receivables, and acceptance evidence | Accounting, collections, and project manager |
| How much of the relied-on credit is truly available? | Undrawn credit, draw conditions, collateral, and financial covenants | Finance team and lender |
| If receipts are late, what can move first? | Investment, dividends, and expenses deferrable under agreements | Management and the spending owners |
A debt answer should end with a dated maturity schedule
Before signing for more debt, I want one schedule placing cash receipts alongside principal and interest due dates, with an option if cash comes in late. That makes “affordable” a testable, conditional judgment rather than a D/E reading alone.
Pick the earliest upcoming debt payment and trace which receipt will fund it, whether it has been invoiced, and who can confirm its collection date. That starts useful work even when annual statements cannot answer every timing question.
Source framework and scope of the example
This article uses debt-capacity ratios with statements invented for the series. Amounts and reconciliations are original examples. No D/E or interest-coverage threshold fits every company. Interpret loan conditions under the actual agreement. For more on ratio analysis, see CFA Institute: Financial Analysis Techniques
