In 30 seconds
- Interest coverage divides operating income (EBIT) by interest expense: how many times over the business can pay its lenders.
- Kaplio looks for more than 3 times at a utility and more than 5 at a company without sector-specific metrics; below 1.5 times there's danger.
- On their 2025 accounts, Duke, Southern, Dominion and AEP land between 2.2 and 2.6 times: the utility sector lives with thin coverage.
- Also look at floating rates and maturities: interest expense reflects the rates of the past.
- PG&E covered its interest 3.3 times in 2017 and went bankrupt in 2019 because of the wildfires: coverage doesn't see liabilities outside the income statement.
Introduction
In 2017 PG&E, California's largest utility, earned $2,905 million in operating income and paid $888 million in interest: coverage of 3.3 times, above the bar Kaplio's stock page sets for a utility today. On January 29, 2019, it filed for Chapter 11 bankruptcy. Interest coverage is one of the first numbers you should check when a company carries debt. This lesson shows you how to calculate it, how to read it and why you shouldn't rely on it alone.
Explanation
The interest coverage ratio answers a simple question: how many times over does the business earn what it owes its lenders each year? You calculate it from two lines of the income statement: on top, operating income or EBIT (what the business earns before interest and taxes); on the bottom, interest expense. If the result is 4, the business earns four times what it pays in interest.
Think of a family with a mortgage. If the year's interest comes to $6,000 and the family takes home $30,000, they cover the interest five times: even if one of them loses a job, they'll probably keep making the payments. If they take home $9,000, they cover it one and a half times, and any surprise puts them in a bind. A company works the same way, with one difference: if it stops paying, the lenders can end up owning the business.
Why EBIT and not net income? Because interest is paid before taxes and before shareholders: EBIT is the money available to pay it. There are variants. Using EBITDA instead of EBIT makes coverage look higher, because it doesn't subtract depreciation, which, at companies with a lot of plant and equipment, reflects the real cost of replacing it. Using net interest (subtracting the interest the company earns on its cash) also makes coverage higher at cash-rich companies. Kaplio uses the classic definition: operating income divided by interest expense.
Coverage looks at debt from the income statement. Net debt and the debt-to-equity ratio look at it from the balance sheet. You need both views: a company can owe a lot at very low rates and cover its interest comfortably, right up until it has to refinance.
Kaplio's thresholds
Kaplio's stock page applies two thresholds. For electric and other utilities: ">3x", with the warning "If it drops <3x during rate hikes, the dividend is in danger". For companies without sector-specific metrics: ">5x", because "<3x = danger in a recession". The difference makes sense: a regulated utility collects stable rates that the regulator sets with its financing costs in mind; a cyclical company can see its EBIT cut in half in a bad year.
Formula
Interest coverage = EBIT / Interest expense
EBIT = operating income from the income statement
Interest expense = interest on debt for the fiscal year ("Interest expense" in the 10-K)
EBITDA variant = EBITDA / Interest expense (always comes out higher)
Example
The table below compares four large US electric utilities using Kaplio's data. Get ready for a surprise: on their 2025 accounts, all four land between 2.2 and 2.6 times, below the 3x Kaplio's stock page asks of a utility. The table uses the trailing twelve months and may differ by a few tenths, but the picture is the same: the sector lives with thin coverage after years of borrowing to upgrade grids and power plants.
Step by step: Duke Energy, 2025 (figures from its Form 10-K annual report, in millions of dollars):
1. Operating income (EBIT): 8,626.
2. Interest expense: 3,634.
3. Coverage: 8,626 / 3,634 = 2.37 times.
4. Maturities: $7,123 million of its long-term debt comes due in 2026, 8.2% of the $87,212 million it had at the end of 2025.
5. Stress test: if it refinances that $7,123 million at a rate one percentage point higher, annual interest expense rises by about $71 million and coverage drops to 8,626 / 3,705 = 2.33 times. Not much in one year; a lot if it happens across the whole debt load over a decade.
Your turn. 2025 accounts (10-K, millions of dollars):
Southern Company: EBIT of 7,285 and interest of 3,238. Coverage = ___ times. Hint: between 2.2 and 2.3.
Dominion Energy: EBIT of 4,414 and interest of 2,022. Coverage = ___ times. Hint: a little lower than Southern's.
Before you look: if a utility has coverage of 3.3 times, above Kaplio's bar, do you think that rules out bankruptcy in the next two years? The answer is in the case below.
Real-data example
| Company | Ticker | Interest coverage |
|---|---|---|
| Duke Energy Corporation | DUK | 2.4 |
| The Southern Company | SO | 2.2 |
| Dominion Energy, Inc. | D | 2.2 |
| American Electric Power Company, Inc. | AEP | 2.9 |
How to read it
How to read it
Kaplio's two thresholds are in the table. The other ranges are rough guides, based on the table that Aswath Damodaran, a professor at New York University, publishes to assign a synthetic rating to large nonfinancial companies according to their coverage (January 2026 data).
| Coverage | Reading | Synthetic rating (Damodaran) |
|---|---|---|
| above 8.5x | Very comfortable | AAA |
| 5-8.5x | Comfortable: Kaplio's general bar is ">5x" | A to AA |
| 3-5x | Acceptable for stable businesses: for utilities Kaplio asks for ">3x" | A− and A |
| 1.5-3x | Thin: a bad year or a rate increase puts it at risk | B to BBB |
| below 1.5x | Danger | B− or worse |
The sector matters. Telecoms sit in the middle: Verizon covered its interest 4.4 times in 2025 ($29,259 million of EBIT against 6,694 of interest) and AT&T 3.6 times (24,162 against 6,804). Utilities sit lower because their revenue is regulated; on Damodaran's table, which is built for companies in general, Duke would rate BB+. For a cyclical company, look at coverage in the worst year of the cycle, not the best.
Pitfalls and limitations
1. Yesterday's rates. Interest expense reflects what the company agreed to when it borrowed. If part of its debt is floating-rate, a rate increase hits the income statement within months; if it's fixed-rate, it hits when the debt matures and has to be refinanced. Check the notes for how much of the debt is floating.
2. Maturities. Coverage doesn't tell you when the principal has to be repaid. A company at 3 times with half its debt maturing in two years is more exposed than one at 2 times with maturities spread over twenty. The 10-K includes a table of maturities by year: Duke has to repay $7,123 million in 2026.
3. Interest you don't see. Utilities capitalize part of the interest on construction in progress: they add it to the cost of the plant instead of expensing it. Duke capitalized $182 million this way in 2025. The interest expense on the income statement falls short of what the company actually pays.
4. EBITDA flatters. If someone hands you coverage based on EBITDA, recalculate it on EBIT. At a telecom or a utility the gap can be huge.
5. What isn't on the income statement. Coverage measures whether the normal business pays the interest. It doesn't see lawsuits, fines or liabilities that haven't been recorded yet. That's exactly what happened in the case below.
Case in point: PG&E, acceptable coverage and bankruptcy
PG&E covered its interest 2.5 times in 2016 ($2,080 million of EBIT against $829 million of interest) and 3.3 times in 2017 (2,905 against 888). At the end of 2017 it had $449 million in cash. Nothing in those numbers screamed immediate danger: it's the picture of an ordinary utility.
The problem was outside the income statement. Its power lines were linked to the Northern California wildfires of 2017 and to the Camp Fire of November 2018. In its 2018 10-K it recorded charges of $14,000 million for those fires, partly offset by $2,200 million of insurance, and it closed the year with an operating loss of $9,700 million. On January 29, 2019, PG&E and its utility subsidiary filed for Chapter 11, according to the 8-K filed that day.
And the rule breaks the other way too: Duke, Southern and Dominion have run with coverage below 3 times for years without missing a payment. Coverage is a thermometer, not a diagnosis. Use it together with net debt, maturities and the risk factors in the 10-K, and be wary of any number that gives you peace of mind before you've read that section.
Practice on Kaplio
Frequently asked questions
What is the interest coverage ratio used for?
It tells you how many times a company's operating income covers a year of interest on its debt. It's a solvency check from the income statement: the higher it is, the more room the company has to absorb a drop in earnings or a rise in rates. Duke Energy covered its interest 2.37 times in 2025.
What is a good interest coverage ratio?
It depends on the business. Kaplio's stock page looks for more than 5 times at companies without sector-specific metrics and more than 3 times at utilities, whose regulated revenue is more stable. Below 1.5 times is a danger sign. Check the worst year of the cycle too: a cyclical company's EBIT can be cut in half.
What is the interest coverage ratio formula?
Interest coverage = EBIT / interest expense. EBIT is operating income, before interest and taxes, and interest expense comes from the income statement for the same fiscal year. If EBIT is $8,000 million and interest is $2,000 million, coverage is 4 times. Kaplio uses this classic definition rather than EBITDA or net interest.
Should interest coverage use EBITDA or EBIT?
Use EBIT. Some lenders write EBITDA-based coverage into their loan agreements, but it comes out higher because it ignores depreciation, a real cost of replacing assets at telecoms and utilities. Duke Energy's 2025 coverage is 2.37 times on EBIT but 4.49 times on EBITDA. Treat the EBITDA version as a supplementary figure.