How to Use Financial Reports to Determine Current Cash Debt Coverage Ratio

How to Use Financial Reports to Determine Current Cash Debt Coverage Ratio Here's the two-step formula for calculating the current cash debt coverage ratio:

  1. Find the average current liabilities.

    Current liabilities for current year + Current liabilities for previous year ÷2 = Average current liabilities

  2. Find the current cash debt coverage ratio.

    Cash provided by operating activities ÷Average current liabilities = Current cash debt coverage ratio

You can find current liabilities for the current year and the previous year on the balance sheet. You can find cash provided by operating activities on the statement of cash flows.

Mattel

Using the cash provided by operating activities from Mattel's 2007 cash flow statement and the average of its current liabilities from its 2007 and 2006 balance sheets, you can calculate the current cash debt coverage ratio. Using the two-step process, you first calculate the average current liabilities; then you use that number to calculate the ratio:

  1. Calculate average current liabilities.

    $1,716,012,000 (2012 current liabilities) + $960,435,000 (2011 current liabilities) ÷2 = $1,377,470,000 (Average current liabilities)

  2. Calculate the ratio for the current reporting year.

    $1,275,650,000 (Cash provided by operating activities, 2012) ÷$1,377,470,000 (Average current liabilities) = 0.93(Current cash debt coverage ratio)

To determine whether a company's cash provided by activities is improving, you also want to calculate the ratio for the previous reporting year. In this case:

$664,693,000 (Cash provided by operating activities, 2011) ÷$1,377,470,000 (Average current liabilities) = 0.48.2 (Current cash debt coverage ratio)

This comparison shows you that Mattel's cash position improved from the end of 2011 to the end of 2012.

Hasbro

Now you will use the cash provided by operating activities from Hasbro's 2012 cash flow statement and the average of its current liabilities from its 2012 and 2011 balance sheets to show you how to calculate the current cash debt coverage ratio:

  1. Calculate average current liabilities.

    $960,435,000 (2012 current liabilities) + $942,344,000 (2011 current liabilities) ÷2 = $951,390,000 (Average current liabilities)

  2. Calculate the ratio for the current reporting year.

    $534,796,000 (Cash provided by operating activities, 2012) ÷$951,390,000 (Average current liabilities) = 0.56 (Current cash debt coverage ratio)

For comparison's sake, calculate the ratio for the previous reporting year as well:

$396.069.000 (Cash provided by operating activities, 2011) ÷$951.390.000 (Average current liabilities) = 042 (Current cash debt coverage ratio)

What do the numbers mean?

The current cash debt coverage ratio looks at a company's ability to pay its short-term obligations. The higher the ratio, the better.

A negative “cash provided by operating activities” number is a possible danger sign that the company isn't generating enough cash from operations. You need to investigate why its cash from operations is insufficient. Look for explanations in the notes to the financial statements or in the management's discussion and analysis.

If you don't find the answers there, call the company's investor relations department. Also look at analysis written by the financial press or independent analysts.

It's not unusual for growth companies to report negative cash from operations because they're spending money to grow the company. However, companies can't sustain a negative cash flow for long, so be sure you understand the company's long-term plans to improve its cash position.

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