Additional Information Closing Balances as at 31/12/2018 Assets $641, Owner's Equity $262, Accounts Receivable $72, Inventory $50 The Alpha company operates in the electronics industry. If the industry achieved a Interest Coverage ratio of 3.5 times for the 2019 year, then Alpha company would be..........select the correct answer from below.

Question

BlackTom AI · Accepted Answer

To evaluate Alpha against the industry benchmark, I first determine the industry’s reported interest coverage ratio and compare it with Alpha’s own ratio using the provided financial data.

Step 1: Compute Alpha’s interest coverage. This ratio is EBIT divided by Interest Expense. From the income statement, EBIT is 97 and Interest Expense is 35, so Alpha’s interest coverage = 97 / 35 ≈ 2.77 times. This shows Alpha is earning enough to cover interest about 2.77 times, which is below the industry standard of 3.5x.

Step 2: Compare to the industry benchmark. The industry average coverage is 3.5x, which is higher than Alpha’s 2.77x. A lower coverage implies higher relative default risk or tighter debt service burden, all else equal.

Now, let’s assess each option:

Option a: Safer than the average firm in the industry. This is incorrect because Alpha’s coverage (≈2.77x) is below the industry average of 3.5x, indicating Alpha is not safer; it’s comparatively riskier in terms of debt service.

Option b: Not as safe as the average firm in the industry. This is correct because Alpha’s lower ratio signals weaker ability to meet interest payments relative to peers. The debt service cushion is smaller than the industry, aligning with increased risk.

Option c: As safe as the average firm in the industry. This is not supported by the numbers since the industry standard exceeds Alpha’s coverage, so Alpha cannot be considered equally safe.

Option d: All things being equal, Alpha most likely had a lower interest rate than the average firm in the industry. This statement contradicts typical risk-and-rate dynamics: a lower coverage ratio usually corresponds to higher perceived risk and typically a higher, not lower, interest rate. Therefore, this is unlikely and inconsistent with the computed ratio.

In summary, the data show Alpha’s interest coverage is weaker than the industry average, making option b the accurate interpretation among the choices provided.

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