Net Interest Expense Interest Income Companies sometimes keep their cash hoards in short-term deposit investments [such as certificates or deposit with maturities up to twelve months, savings account, and money market funds]. The cash placed in these accounts earn interest for the business, which is recorded on the income statement as interest income. Interest income will fluctuate each year with the amount of cash a company keeps on hand. Interest Expense Companies often borrow money in order to build plants or offices, buy other businesses, purchase inventory, or fund day-to-day operations. The borrowed money is converted to an asset on the balance sheet (i.e., if a business borrows $1 million to build a distribution center, the distribution center would add $1 million of assets to the balance sheet after the cash was spent.) The interest a company pays to bondholders, banks, and private lenders, on the other hand, is an expense that it receives no asset for. Hence, interest expense must be accounted for on the income statement. Some income statements report interest income and interest expense separately, while others report interest expense as “net”. Net refers to the fact that management has simply subtracted interest income from interest expense to come up with one figure. [In other words, if a company paid $20 in interest on its bank loans, and earned $5 in interest from its savings account, the income statement would only show interest expense – net $15.] The amount of interest a company pays in relation to its revenue and earnings is tremendously important. To gauge the relation of interest to earnings, investors can calculate the interest coverage ratio.
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