Question

What is solvency? Identify and discuss two ways a company's solvency is measured

Answer 1

Solvency is the ability of a company to meet its long term financial obligations. It indicates the continued operations of the company in the future.

Interest coverage ratio = operating income / interest expense. It measures how many times can the interest obligations be met with the operating income generated. Higher ratio is better

Debt/equity ratio measures the value of debt to equity and how much of debt relative to the ownership is taken up in a firm. Lower the ratio better the solvency