This
multiple compares total debt to one year’s worth of Earnings before Interest,
Taxes, Depreciation, and Amortization (or “EBITDA”). EBITDA is, therefore, a proxy for funds
available to service the debt. The
resulting multiple indicates how much EBITDA (or approximately how many periods)
it would take to retire the debt with EBITDA.
This ratio is, therefore, a measure of “cash flow leverage”.
Obviously,
a lower multiple indicates less leverage and lower risk. Keep in mind that you are comparing a balance
sheet item to an income statement measure with this ratio. This can be problematic if the debt balance
at the end of a given period is unusually high or low or if EBITDA is measured
in only a partial year.

Note that total interest-bearing debt should comprise the numerator, and it may also be appropriate to subtract cash and cash equivalents from total debt to construct a more meaningful ratio.

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