Debt service coverage ratio

The debt service coverage ratio (DSCR) shows whether a company’s operating income is enough to cover its required debt payments. You calculate it using line items from the company’s income statement.

Here’s the formula:

$\text{DSCR}=\frac{\text{net operating income}}{\text{debt service requirements}}$

From the first fundamental analysis section, net operating income is gross income (profit) minus operating expenses. Debt service requirements are the payments the company must make on its outstanding loans.

A DSCR above 1 means net operating income is greater than required debt payments, which generally indicates more room to meet those obligations. A DSCR below 1 means net operating income isn’t enough to cover debt payments, making it more likely the company will struggle to pay its debts.

You may see other DSCR formulas used in practice. For the Series 7 exam, FINRA uses this simplified version. No matter which version you use, the key idea is the same: expenses must be deducted from income.