Board Topic: DSC VS Traditional Cash flow
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DSC VS Traditional Cash flow

Posted by: S. E. Oct 27 2004, 04:25 PM

Can you help me understand why DSC in this two senerio is differnt. One lender took out lease and added back the lease to net income and deducted all of the CPLTD and Lease payment. Other one never added back lease and only counted CPLTD.
Traditional cash flow is same but DSC is so much differnt. Accoring to Lender A I would qualify for the loan and Lender B will not.
Who is right.
But I can not explain why the so much difference in the ratio.
A B
Sales 20 20
Less operating -5 -5.
Less lease -5 -5
Subtotal 5 5

Add lease 5

Avialble to service Debt 5 10
CPLTD 3 8 (3 plus lease of 5)
DSC 1.6 1.25

Traditional cash flow 5-3= 2 10-8= 2

Debt Service coverage ratio= income / cpltd.
DSC is a a ratio, cash required in given year. Relative to the income and expense.


Please respond.

Posted by: loanuniverse Oct 27 2004, 07:29 PM
First let me address a couple of items in your scenarios that I found wrong. {sorry about this, but I am a numbers guy and doing this for so many years has conditioned me to look for wrong math or assumptions}

” Subtotal 5 5”
Your math here is wrong. Operating income, which is what I assume you are calculating is 10 10.

” Debt Service coverage ratio= income / cpltd.”
If this is the explanation the lenders gave you is wrong. Debt gets repaid with cash flow not with income. Accounting income can be managed so much that it could very easily be meaningless.

Now to answer your question will require me to divulge a trade secret that is heavily guarded by the industry, which will probably get me kicked out from the secret society of credit analysts, but you seem trustworthy so here it goes: “Credit Analysis is more of an art that it is a science” There are no hard coded rules about the way that some of these ratios are calculated. A culture is usually developed in an institution that creates a “that is the way things are done around here” mentality, which is not too bad since it creates consistency.

Take me for example, nine out of ten times I will not add back the lease expense, and I will concentrate solely on traditional financing as my denominator {cpltd + interest expense}. However, from time to time we get a customer whose lease expense is so large that we might add it to the denominator in order to be “conservative”.

Another big source of contention is whether to use EBIDA or EBITDA as traditional cash flow. A lot of people would argue that the money paid in taxes will be available to service debt specially if the debt service is “interest only” since interest is tax deductible. Personally, I like to use EBIDA to avoid making an extra assumption and remain “conservative”.


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