Two colleagues, Pragathi and Shefali, meet in the cafeteria for lunch. Their conversation turns to Indian equities and one of the few bright spots amid the current turmoil: strong corporate balance sheets. They also discuss the other side of the story — how being too conservative can sometimes limit growth.
Shefali: I have been sitting on funds without the confidence to invest in equities. The recent statement by the Prime Minister on the need for austerity has further shaken my confidence.
Pragathi: Same here friend. But I take my chances and always stay invested. Besides, there are few bright spots, which can reassure an investor. Balance sheet strength of companies has been strong, which is reassuring.
Shefali: Please elaborate. How would you quantify it?
Pragathi: One of the measures is to simply ask if the assets on the balance sheet are generating enough cash to service the debt and more. Interest coverage ratio can capture that information. Mathematically, it is the ratio of EBIT or earnings before interest and taxes over interest charges. A ratio well above 2x indicates that the company is delivering enough profits to cover interest and more.
