Solving the warnings (6/6): Debt Service Coverage

In this post we are going to cover the last warning of the Dashboard: the debt service coverage. Check the previous posts to discover more about the Financing, Net Income, Equity, Equity ratio and NPV warnings.

The debt service coverage is triggered whenever your operational cash flows are not enough to pay the debt service. You can learn how the debt service coverage is calculated on the ratios section of the Accounting and Reporting Manual. If this warning is triggered it means that you are over financing your project through bank debt and your operational income does not generate enough cash flows to pay for the debt service. This warning is only relevant if the balance sheet is a report that you want to analyze (the company perspective, not the project by itself); if it is not, then you do not need to worry about it.

You can check in which year the debt service coverage is low: go to the Indicators on the reports and check the Debt service coverage ratio. Once you recognize it, you can try to adjust the debt settings so that the financing of your project can become more balanced.

 

The warning is triggered, but the other results show that the project is feasible.

If your project is feasible (has positive NPV and does not have negative equity), you can:

  1. Consider changing the financing structure of your project by adding more equity and less debt (if that makes sense in your case). By reducing the amount of debt, the debt service will be lesser and hence your operational results are more likely to correspond to the debt service coverage.
  2. Try to extend the debt payment period. A lengthier payment period will decrease the yearly debt service. Take the following table as an example: it displays the yearly service payment for a same loan amount and a same interest rate. The only difference is duration. Option B, being shorter in duration, implies a larger amount of debt service.
Bank loan A B
Initial loan 100.000 100.000
Yearly interest rate 3,00% 3,00%
Duration of the loan in months 120 60
Monthly debt service (payment) 965,61 1.796,87
Yearly debt service (payment) 11.587,29 21.562,43

It is all about trying to have a simulation that is as close to reality as it can be. Even if the financing does not affect your project’s feasibility, it may well pose some obstacles to implement it. It will be better if you take them into account!

Now all warnings are covered. If you follow all the insights along the different posts about how to solve the warnings, for sure that you will be able have a better interpretation about your project.