This ratio measures the net operating income available to pay the short-term debt.
The DSCR is a useful benchmark to measure an individual or firm’s ability to meet their debt payments with cash.
A higher ratio implies that the entity is more creditworthy because they have sufficient funds to service their debt obligations to make the required payments on a timely basis.
The formula used for calculating the debt service coverage ratio is:
DSCR = Net Operating Income / Total Debt Service
Generally, the debt service coverage ratio is calculated as
DSCR = (Annual Net Income + Interest Expense + Amortization & Depreciation + Other discretionary and non-cash items like non contractual provided by the management)/ (Principal Repayment + Interest Payments + Lease Payments)
Thus, to calculate the debt service coverage ratio of a company or business entity, it is, at the first point, essential to calculate the net operating income of the company.