Net Interest Margin: Calculation & Importance for Financial Health

Net interest margin is a ratio that measures the return on a firm’s investments in relation to the interest expense the firm pays for borrowing the capital that was used to make those investments. As is the case with other financial ratios, the net interest margin can have varying degrees of relevance based on industry and differing accounting methods, but overall it is a reliable indication of how efficiently a firm invests its capital.

Generating Positive Cash Flows

The ability to generate positive cash flow from invested capital can provide clues into the quality of management, competitive environment, and longevity of a firm. If a company generates more income from investing borrowed capital then it is paying out in interest expense and eventual repayment of principle for the capital, it is earning positive cash flow from this capital. Positive, increasing cash inflow is critical for maintaining liquidity and allows for the day-to-day upkeep of a firm. Prolonged periods of negative operating cash flows can indicate significant longevity problems for a firm, regardless of how high net income is for the year. The ability to invest borrowed capital efficiently is one of the most critical factors in the successful operation and expansion of a business.