Interest coverage ratio- treating capitalized interest as an expense

  1. So when treating capitalized interest as an immediate expense for analytical purposes, why does interest coverage (EBIT/Interest expense) not have EBIT reduced by the amount of the expense? 2. With finance leases, why are interest payments an operating cash flow, but not considered an operating expenditure? That is, interest payments are not subtracted in calculating operating income (EBIT)
  1. I’m not sure i’m following, you would increase EBIT by the amount of capitalized interest expense in that period.

  2. Because interest is indirectly involved in the revenue generating process. One could argue that a company could issue equity to finance capex, but we don’t see an equity cost in operating income. So why would we skew the core operating metric due to including financing expense? Interest in the operating cash flow statement has always felt awkward to me, given your point.

EBIT is Earnings _ Before _ Interest and Taxes: you don’t subtract any interest to arrive at EBIT; interest comes afterward.

Under US GAAP, _ all interest_ is an operating cash (out)flow, but not an operating expense. That’s just one of the stupider rules of US GAAP. I think they did that exclusively to frustrate Level I and Level II CFA candidates.


You’re welcome.