Alexksy is right, although the explanation is convoluted. You have to work backward by developing an income statement. Start with net income which is 15 percent of $4,200,000 or $650,000. If the tax rate is 40 percent then income before tax is $650,000 / (1 - .40), = $1,050,000. That includes interest of $250,000, so income before interest and tax is $1,300,000.

Sales . . . . . . . . . . . . . . $4,200,000

Expenses . . . . . ..

Interest . . . . . . . . . . . . . . .250,000

income before tax . . . .1,050,000

income tax . . . . . . . . . . . . 420,000

Net income . . . . . . . . . .$620,000

How many times can the company pay its interest out of $1,300,000. Obviously $1,300,000 / $250,000 = 5.2 times.

Or $1,050,000 / $250,000 = 4.2 times plus the interest that has already been paid = 5.2 times.

I believe the answer is C.

I've never taken finance though so I'm not sure, but here's what I managed to put together from some reading.

When calculating TIE you have to remember that you are doing EBIT/interest payable.

Interest payable should be easy enough to calculate... 5,000,000 x 5% =250,000.

However Earnings before interest and Taxes (EBIT) requires a bit more work.

So now we can simplify our formula to (EBIT/250,000)... just substituting in the 250,000 because its the interest payable.

Remember that EBIT differs from sales or revenue because it is the money earned after the cost of doing business. Also remember that Net Income is equal to earnings minus the cost of doing business.

Knowing this you would use the profit margin to find the company's net income...

Sales x profit margin... 4,200,000 x 15% = 630,000

Then reverse the effect of tax and then add back interest payment to get Earnings before interest and Tax...

Reversing Tax can be found by: 630,000/.6 = 1,050,000 the .6 comes from 1-tax rate

Then add back interest payments... 1,050,000 + 250,000 = 1,300,000

So now you know EBIT = 1,300,000 and your interest payments are 250,000

So using the calculation for TIE we would find 1,300,000/250,000 = 5.2

This is a question from my college finance textbook. My friends and I are stumped by it. Could you please answer and maybe explain the answer if possible. Thank so much!

A firm has $5,000,000 of debt and pays an interest rate of 5% annually on this debt. Their annual

sales are $4,200,000, their tax rate is 40%, and their profit margin is 15%. What is this firm’s

Times Interest Earned (TIE) ratio?



a. 3.6 b. 4.0 c. 5.2 d. 6.4 e. 5.0