Debt capacity
How much a borrower can borrow, and which test binds.
By Surojit Chakraverti, founder of L3VLUP and an investor running a long-short healthcare and technology equities strategy.
On this subject: debt capacity.Updated 1 October 2026
Part of credit and restructuring models, with the models, labs and guides around it.
What it does
The most a borrower can carry on the terms offered, set by whichever of three lender tests binds first. The leverage test multiplies EBITDA by the most the market will lend against it; the coverage test divides EBITDA by the minimum interest cover times the rate; the deleveraging test finds the debt that free cash flow could repay a target share of within the tenor, which solves in closed form as N x FCF / (s + N x rate x (1 - tax)). Lenders lend against the smallest answer, and the gap between it and the proposed debt is the cushion.
Where it lives
The same schedule in each model that carries it, with the rows to open. Open a model in the browser, go to the sheet, and click the lines.
- Assumptions, rows 47–50: Leverage test: maximum total debt / FY0 EBITDA, Coverage test: minimum FY0 EBITDA / cash interest, Deleveraging test: share of debt repaid, Deleveraging test: repayment period
- Operations, rows 14–17: Capex, Increase in working capital, Unlevered tax on EBIT, Unlevered free cash flow
- Capacity, rows 5–7: Total debt at close, Blended interest rate on proposed debt, Total leverage at close
- Capacity, rows 10–13: Leverage test capacity, Coverage test capacity, Average unlevered free cash flow, FY1 to FY6, Deleveraging test capacity
- Capacity, rows 16–20: Debt capacity, Binding capacity test, Debt capacity / FY0 EBITDA, Capacity cushion…
What a reviewer looks for
- Leverage alone, with no test of repayment.
- Coverage tested at today’s rate when the loan floats.
- Capacity computed on adjusted EBITDA the lender would not accept.
Learn it, then build it
Build · Lab · ~15 min
Capital Stack Challenge
Finance a real buyout from revolver to equity, hold it through a shock, and explain every layer against the deal the sponsor actually did.
Build · Lab · ~15 min
Optimal Capital Structure
Explain why more debt stops helping: watch coverage, rating and spread move as leverage rises until WACC turns.
Read · Guide · 11 min
Credit and Covenant Modelling: What a Lender Actually Tests
Vocabulary: Debt Capacity, Leverage Ratio (Debt/EBITDA), Interest Coverage Ratio.