Evaluating the Ability to pay Long-Term Debt

Debt Ratio

The debt ratio illustrates how much of an asset's value is financed by debt. It also
illustrates the relationship between total liabilities and total assets by dividing total liabilities
by total assets. This ratio used to evaluate a business’s ability to pay its debts. If this ratio in
the higher percentage, the company's financial viability may be affected because it will be
difficult to pay off debts and stay in business.

Formula:

𝐓𝐨𝐭𝐚𝐥 𝐋𝐢𝐚𝐛𝐢𝐥𝐢𝐭𝐢𝐞𝐬
Debt Ratio = 𝐓𝐨𝐭𝐚𝐥 𝐀𝐬𝐬𝐞𝐭𝐬

YEARS 2018 2019 2020

RM’000 RM’000 RM’000
Total Liabilities 1,282,389 1,401,134 1,417,095
Total Assets 2,176,562 2,582,132 2,582,002
Calculation 1,282,389 1,401,134 1,417,095
2,176,562 2,582,132 2,582,002
Debt Ratio 0.58 0.54 0.54
Percentage 58% 54% 54%

Malayan Flour Mills Berhad’s debt ratio decreased from 58% in 2018 to 54% in 2019
and in 2020 debt ratio remained the same as the previous year. Malayan Flour Mills Berhad’s
debt ratio for 3 years still in average 50% and above. The higher debt ratio makes a company
little bit more difficult to borrow money from investor. This is because, the debt ratio of 50%
and bellow shows that the company’s assets are fully owned to the business. However, if the
debt ratio is 50% and above, it shows that half of the assets are financed with the debt. Malayan
Flour Mills Berhad will not face risk of bankrupt if the debt ratio continues decline to 50% and
below for next years.
Debt-to-equity Ratio

A ratio that used to evaluate a company's financial leverage and is calculated by

dividing a company’s total liabilities by its equity.

Formula:

𝐓𝐨𝐭𝐚𝐥 𝐋𝐢𝐚𝐛𝐢𝐥𝐢𝐭𝐢𝐞𝐬
Debt-to-equity ratio = 𝐓𝐨𝐭𝐚𝐥 𝐄𝐪𝐮𝐢𝐭𝐲

YEAR 2020 2019 2018

RM’000 RM’000 RM’000
ANSWER 𝟏, 𝟒𝟏𝟕, 𝟎𝟗𝟓 1,401,134 894,173
𝟏, 𝟏𝟔𝟒, 𝟗𝟎𝟕 1,180,998 1,282,389
=1.21 =1.18 =0.69

The debt-to-equity ratio, which depicts the proportion of total liabilities relative to total
equity, is a relationship between total liabilities and total equity. Debt to equity ratio for
Malayan Flour Mills Berhad in 2018 is 0.69. The debt-to-equity ratio is less than 1. Thus, the
company is financing more assets with equity than with debt. In 2019, debt-to-equity ratio is
1.18. The debt-to-equity ratio is more than 1. Thus, the assets of company are more funded by
debt. In 2020, debt-to-equity ratio is 1.21 that also more than 1 like previous year. Thus, the
assets of company in year 2020 are also more funded by debt.

Time-Interest-Earned Ratio

The times interest earned ratio, also known as the interest coverage ratio, is a coverage
ratio that calculates the proportion of income that can be used to cover future interest expenses.

The times interest ratio is considered a solvency ratio in some ways because it measures
a company's ability to make interest and debt service payments. Because these interest
payments are usually made over a long period of time, they are frequently treated as an ongoing,
fixed expense. If the company is unable to make the payments, it may go bankrupt and cease
to exist, as is the case with most fixed expenses. As a result, this ratio could be considered as a
solvency ratio.
Formula:

𝐍𝐞𝐭 𝐈𝐧𝐜𝐨𝐦𝐞 + 𝐈𝐧𝐜𝐨𝐦𝐞 𝐓𝐚𝐱 𝐄𝐱𝐩𝐞𝐧𝐬𝐞 + 𝐈𝐧𝐭𝐞𝐫𝐞𝐬𝐭 𝐄𝐱𝐩𝐞𝐧𝐬𝐞

Time-Interest-Earned Ratio = 𝐈𝐧𝐭𝐞𝐫𝐞𝐬𝐭 𝐄𝐱𝐩𝐞𝐧𝐬𝐞

YEAR 2018 2019 2020

Net
Income 25,831 59,507 8,571
(RM’000)
Income
Tax
Expense 39,933 78,295 29,684
(RM’000)
Interest
Expense 29,553 29,684 37,293
(RM’000)
Answer 25,831 + 39,933 + 29,553 59,507 + 78,295 + 29,684 8,571 + 29,684 + 37,293
29,553 29,684 37,293
= 3.22 = 5.64 = 2.02

From creditor’s perspective, the company that have a time-interest-earned ratio of 2.5
and below are considered a much higher bankruptcy while the company that have a time-
interest-earned ratio 2.5 and above are considered an acceptable risk. Based on this calculation,
the time-interest-earned ratio for Malayan Flour Mills Berhad in 2018 is 3.22. From an investor
or creditor’s perspective, this ratio considered an acceptable risk. In 2019, the time-interest-
earned ratio is 5.64. This ratio also can be acceptable risk from an investor perspective. In 2020,
the time-interest-earned ratio is 2.02. This ratio considered by an investor as much higher risk
for bankruptcy or default and financially unstable. Thus, Malayan Flour Mills Berhad shows
the fluctuate time-interest-earned for 3 years.