Debt capacity

Debt capacity (capacité d’endettement) is the maximum amount of debt that a company can carry given the cash it generates. Lenders estimate it through two approaches that cross-check each other. The first sets a multiple of EBITDA, the total leverage, adapted to the sector and to the visibility of revenue. The second projects free cash flow after tax, capital expenditure and working capital requirement, then checks that the debt is repaid within the life of the loan in a base case and in a downside case. ECB Banking Supervision defines adequate repayment capacity as the ability to fully amortise senior secured debt, or to repay at least 50% of total debt, over five to seven years. It considers that leverage above 6x EBITDA raises concerns for most industries. Private debt funds set their own limits. When the debt is repaid in a single bullet at maturity, the analysis focuses on the ability to refinance at maturity. For you, debt capacity is prepared by documenting the recurrence of EBITDA, the level of maintenance capital expenditure and the conversion of EBITDA into cash.

A mid-sized company generates €30m of EBITDA and €15m of free cash flow before debt service. Over six years, it repays €90m. Under the rule of 50% of total debt over five to seven years, the debt would reach at most €180m, or 6x EBITDA. The lender sets 4.5x, or €135m, to keep headroom in a downside case.

• The recurrence of EBITDA and the share of contracted revenue.
• The rate at which EBITDA converts into free cash flow.
• The downside case the lender uses and the headroom under the covenants.
• The repayment profile: amortising or bullet.