Fixed Charge Coverage Ratio Calculator

What is FCCR?

The Fixed Charge Coverage Ratio (FCCR) measures whether a company’s cash flows are sufficient to cover its interest expenses, mandatory debt repayments, and lease expenses.

How to Calculate Fixed Charge Coverage Ratio (FCCR)

The FCCR is a solvency ratio that assesses if a company’s cash flows are adequate to meet its fixed charges. Essentially, it answers the question: “Does the company generate enough cash flow to meet its fixed charges?” Conceptually, the FCCR represents the number of times a company could hypothetically pay off its annual fixed charges. Lenders often use the FCCR to determine the creditworthiness of a potential or existing borrower.

Classifying Costs as Fixed Charges

Classifying costs as fixed charges requires some discretion, but generally, they must meet the following criteria:

• Predictable Occurrence: The cost should be recurring and quantified with minimal variance.
• Non-Discretionary Spending: The cost should either directly or indirectly contribute to the company’s revenue generation and business model, applicable to day-to-day operations.
• Fixed Costs: The charge should not fluctuate based on the amount of revenue, unlike variable costs.

For example, the amount due and the dates when interest expenses and mandatory debt repayments come due are outlined in the loan agreement. The debt associated with these cash outflows was issued to fund operations or related functions, and the fixed costs were pre-negotiated.

FCCR Formula

Broadly, the FCCR is a ratio that compares an earnings metric to the total fixed charges. There are two common approaches to calculating the FCCR, which we’ll refer to as the “GAAP” and “Non-GAAP” variations for simplicity.

GAAP Approach

The first method abides closer to GAAP accounting and divides a company’s earnings before interest and taxes (EBIT) by fixed charges before taxes plus interest expense.

Fixed Charge Coverage Ratio =frac\EBIT +Fixed Charges Before Taxes\Fixed Charges Before Taxes +Interest Expense

Suppose a company has the following financials:

• EBIT: $250,000
• Fixed Charges: $150,000
• Interest Payments: $10,000

The numerator is $400,000 ($250,000 + $150,000), and the denominator is $160,000 ($150,000 + $10,000).

FCCR =frac$400,000$160,000 = 2.5

Non-GAAP Approach

EBIT is a GAAP measure of profitability, but many equity analysts adjust the metric given the drawbacks of accrual accounting, such as the inclusion of non-cash items like depreciation and amortization (D&A). The second approach for calculating FCCR starts with a non-GAAP metric, earnings before interest, taxes, depreciation, and amortization (EBITDA).

In the non-GAAP approach, FCCR is calculated as the ratio between:

• Numerator: Adjusted EBITDA – Capital Expenditure (Capex) – Cash Taxes
• Denominator: Interest Expense + Mandatory Debt Repayment

Capex is subtracted while D&A is added back (i.e., EBITDA) since Capex is a real cash outflow, but D&A is a non-cash expense related to accrual accounting.

Fixed Charge Coverage Ratio =frac\EBITDA -Capex -Cash Taxes\Cash Interest Expense +Mandatory Debt Amortization

EBITDA is already a non-GAAP metric, yet in this context, it can be further changed by discretionary adjustments, as long as there is an agreement in writing between the borrower and lender(s). The latter non-GAAP EBITDA approach is far more common in practice, whereas the GAAP EBIT approach is more often taught in academia.

Additional Fixed Charges

Besides interest and mandatory principal amortization, the following charges could also be included if deemed appropriate:

• Lease Payments
• Preferred Dividends
• Insurance Premiums

FCCR Equation: Discretionary and Non-Cash Spending

In the FCCR equation, growth Capex or optional prepayment of debt should be excluded since they constitute discretionary spending. PIK interest and deferred taxes should also be excluded because they are non-cash (i.e., no real cash outflow occurred).

What is a Good FCCR?

Like the interest coverage ratio (ICR) – also known as the times interest earned (TIE) ratio – the higher the ratio, the better the company’s creditworthiness.

• FCCR = 2x: Can pay off fixed charges twice.
• FCCR = 1x: Can pay off fixed charges once.
• FCCR < 1x: Cannot pay off fixed charges.

The higher the FCCR, the stronger the company’s creditworthiness as a borrower. Companies with higher FCCRs have fewer earnings spent on fixed charges like interest, leases, and principal repayments, leaving more free cash flows (FCFs). Higher FCFs reduce the borrower’s risk of missing a scheduled payment to a third party and allow for more reinvestment and discretionary spending to drive growth.

What is the Minimum FCCR for Loan Covenants?

Certain lending agreements contain covenants based in part on the FCCR. The so-called “FCCR minimum” frequently appears in secured credit facilities, such as ABL revolvers and senior term loans. The FCCR covenant forces the borrower to maintain certain metrics above a specified threshold because a lower FCCR presents greater risk to lenders. The minimum FCCR is typically set around 1.0x to 1.25x. If the FCCR declines below 1.0x, the company will turn cash flow negative unless additional external financing is obtained, which would likely be difficult. However, lenders do not rely on the FCCR by itself, as it is one of many credit metrics that help them understand the financial health of a company.

FCCR vs. Times Interest Earned Ratio (TIE): What is the Difference?

Both the FCCR and TIE conceptually have the same objective: deciding if the company has adequate earnings to meet certain payments. The difference between FCCR and the TIE ratio is as follows:

• Fixed Charge Coverage Ratio (FCCR): Since more costs like the annual lease payment are accounted for, the FCCR is a relatively more conservative measure of a company’s ability to meet its upcoming payments.
• Times Interest Earned Ratio (TIE): Compared to the FCCR, which is inherently a more conservative financial metric, the TIE ratio is more convenient and less time-consuming to calculate. Hence, senior, risk-averse lenders tend to pay closer attention to FCCR, although the TIE ratio, or interest coverage ratio, is more common in loan covenants.

FCCR Calculation Example

In our illustrative example, we’ll calculate a company’s FCCR using the following assumptions:

Financial Data (2021A)

• EBITDA: $20 million
• Capex: $2.5 million
• Cash Taxes: $5 million
• Interest Expense: $2.25 million
• Mandatory Debt Repayment: $4 million

After subtracting Capex and cash taxes from EBITDA, we’re left with $12.5 million for the covenant-adjusted EBITDA, i.e., the lender-negotiated earnings amount that the covenant is set upon.

Covenant Adjusted EBITDA = $20 million - $2.5 million - $5 million = $12.5 million

Next, we add our two fixed charges – the interest expense and mandatory debt repayment – for a total fixed charges amount of $6.25 million.

Total Fixed Charges = $2.25 million + $4 million = $6.25 million

Finally, we calculate the FCCR by dividing the Covenant Adjusted EBITDA by the Total Fixed Charges.

Fixed Charge Coverage Ratio =frac $12.5 million$6.25 million = 2.0

In this case, the 2.0x FCCR suggests the company’s earnings are sufficiently adequate to pay off its total fixed charges twice.