Leveraged Finance

4 calculators on this page

Reach for this firstHow much debt the earnings carry Where a buyout return actually comes from Sources and uses, with equity as the plug

Going deeperThe deleveraging path

This deskWhat it does, who is in the room, and how the transactions relate.

The desk at a glance

Leveraged finance raises debt against a company's own cash flows, in order to buy that company. The borrower is usually a business somebody is acquiring; the lender is usually a fund rather than a bank; and the amount is set not by what the business needs but by what its cash flows will support.

That last point is the whole desk. A buyout is priced backwards from the financing: what a financial buyer can pay is what it can borrow, plus the equity it will commit for the return it targets. When lenders retreat by one turn of leverage, bids fall across the market even though not one business has changed. This is why the same asset is worth different amounts in different quarters, and why the answer has nothing to do with the asset.

The desk also carries a risk no other origination desk carries in the same shape: it commits the bank's own money before it has raised anybody else's. A commitment letter binds the bank to fund on agreed terms even if the market moves in between. What happens when it does move is the subject of half the documentation.

Who does what

• The sponsor — the private equity fund. It is the client, it decides the structure, and its return target sets the maximum price. See the fund itself on the other half of the site, and the buyout here.
• The underwriting banks commit to fund and then sell the debt on. The gap between what they committed to and what the market will buy is their exposure.
• The syndication desk sells the loan to funds and other banks. If it does not clear, the terms move within the flex the commitment allows — and beyond that the bank keeps the paper. See the Term Loan B.
• Direct lenders — funds that will commit the whole amount themselves, removing syndication risk entirely. Sponsors pay for that certainty, and in an auction certainty sometimes beats the last few basis points. See unitranche.
• The rating agencies rate the structure for the funds and the collateralised loan obligations that are the organised buyer of this paper.
• The lenders' lawyers write the credit agreement — and what that document permits, years later, is what decides who has power in a restructuring.

What decides whether this desk is busy

Six mechanisms, each with the direction it pushes in and the thing to watch. None of them is a forecast, and none is a number that goes out of date.

The calendar this business keeps

Every desk has a rhythm its regulars plan around and a newcomer discovers by being surprised by it.

How this desk reaches the rest of the site

The deals and the instruments are one subject. These are the corridors — each one a mechanism, not a resemblance.

How the work is actually doneWhat the client pays for, the documents in order, and the arithmetic.

What the client is actually paying for

Three separate things, and confusing them is the commonest error:

• The margin — the ongoing spread over a floating benchmark rate. This is the cost of the money, paid for as long as the debt exists.
• The original issue discount — the loan is sold below its face value, so the lender receives more than the margin implies. It is how a deal is repriced without reopening the margin, and it is where flex usually lands first.
• The arrangement and underwriting fees — paid once, for putting the structure together and for standing behind it.

The economically important term is not any of the three. It is what the document permits: how earnings may be adjusted before leverage is measured, how much further debt may be incurred, whether assets may be moved beyond the lenders' reach, and what a majority of holders may impose on a minority. Two loans at the same margin are not the same loan, and the difference only shows up when things go wrong — by which time it cannot be renegotiated. The playbook reads one in the order that matters.

Which blocker decides across this desk

• Price5 of 9The two sides cannot agree what it is worth.Decides: Bolt-on acquisition, Continuation vehicle, Mezzanine finance, Term Loan B, Unitranche. Matters on 4 more.
• Financing6 of 9The money is not there, or its cost moved under the deal.Decides: Bridge to bond, Dividend recapitalisation, Leveraged buyout, Stapled financing, Term Loan B, Unitranche. Matters on 3 more.
• Approval0 of 9A regulator, a court, a board or a shareholder vote says no.Decides: none of them. Matters on 1 more.
• Diligence0 of 9What was found when the buyer actually looked.Decides: none of them. Matters on 3 more.
• Execution3 of 9Documents, disclosure, timetable, and the people running it.Decides: Continuation vehicle, Mezzanine finance, Stapled financing. Matters on 5 more.

The documents, in the order they appear

• The commitment letter and term sheet — signed at the same time as the acquisition agreement, binding the banks to fund. Includes the flex: how far terms may be moved to get the debt sold.
• The fee letter — separate and usually confidential, because the fees would otherwise be readable off the public documents.
• The credit agreement — the loan itself. Definitions first: what counts as earnings, what counts as debt, what counts as a permitted investment.
• The intercreditor agreement — who is paid first, who may enforce, and what the junior lenders may not do. On a structure with more than one layer this is the document that decides outcomes; see mezzanine.
• The security documents — what is pledged, in which jurisdictions, and whether the pledge survives the borrower's insolvency there.
• The offering memorandum, if the debt goes to the bond market rather than the loan market — see the high-yield issue.

Run the numbers

Interactive: how much debt the earnings carryMedium

Open this calculator on its own page →

Two tests bind a financing — a leverage ceiling and an interest-cover floor — and only the tighter of the two is the answer. Which one binds tells you what the structure is really exposed to.

EBITDA ($m) Maximum leverage (× EBITDA) All-in borrowing rate % Minimum interest cover (×) Capex ($m) Cash tax ($m)

Capacity on the leverage test

—

Capacity on the cover test

—

Debt capacity

—

Annual interest

—

Cash after everything

—

Which test binds

—

Reading

—

One year, no amortisation, no working-capital swing. A real credit paper does all three, and they usually make the answer smaller. Information and education only. Not advice, not a valuation, and not a quote for anything.

Interactive: where a buyout return actually comes fromMedium

Open this calculator on its own page →

Three sources, separated: the earnings grew, the multiple moved, or the debt was repaid. Most arguments about whether buyouts create value are arguments about which line is largest.

Entry EBITDA ($m) Entry multiple (×) Exit multiple (×) EBITDA growth % p.a. Debt at entry ($m) Debt repaid over the hold ($m) Hold period (years)

Equity in

—

Equity out

—

Money multiple

—

Annualised return

—

From earnings growth

—

From the exit multiple

—

From paying debt down

—

Reading

—

No fees, no dividends taken out along the way, one entry and one exit. Each source is measured holding the other two at entry, so the three do not sum exactly to the gain. Information and education only. Not advice, not a valuation, and not a quote for anything.

Interactive: sources and uses, with equity as the plugMedium

Open this calculator on its own page →

The first page of every deal model. The two columns have to be equal, which means the equity cheque is not chosen — it is whatever is left.

Purchase price ($m) Debt refinanced ($m) Fees and expenses ($m) Cash on the balance sheet used ($m) Senior debt ($m) Subordinated debt ($m) Equity rolled by management ($m)

Total uses

—

New debt

—

Cash equity to write

—

Balance

—

Equity share of the funding

—

Spent on the transaction itself

—

Reading

—

Rolled equity is a source here because it never leaves. Whether a lender counts it towards the sponsor's contribution is a credit-agreement question, not an arithmetic one. Information and education only. Not advice, not a valuation, and not a quote for anything.

Interactive: the deleveraging pathMedium

Open this calculator on its own page →

Deleveraging is not a plan, it is an output: cash left after interest, capex and tax, swept into the loan, year after year.

EBITDA ($m) EBITDA growth % p.a. Debt at the start ($m) Interest rate % Capex ($m) Tax rate % Cash sweep % Years

Leverage at the start

—

Leverage at the end

—

Debt remaining

—

Repaid out of cash

—

When it clears 3×

—

Reading

—

No working-capital movement, no disposals, no refinancing. Those are the three things that actually change a deleveraging path, and none of them is in here. Information and education only. Not advice, not a valuation, and not a quote for anything.

Go deeper, and practiseLonger pieces, what an interview asks here, and a page to print.

Go deeper

How a deal dies here

• The debt does not clear and the flex is not enough. The banks fund anyway and hold paper at a loss, which is a deal that completed and a transaction that failed.
• The sponsor cannot reach its return at the price the seller wants, once the financing is priced. It withdraws, and a trade buyer wins the auction.
• Diligence changes the earnings figure the whole structure was sized against. Leverage is a multiple of a number that has just moved.
• The exit stops being credible. No listing window and no trade buyer means no way out in five years, and the entry price falls to reflect it.
• A covenant is tested too early. A structure that cannot survive its own first test after closing is one nobody will lend into.

Test yourself: leveraged finance

Quick questions on this desk — four options each, checked entirely on your device, nothing stored or sent. Wrong answers come with explanations, and the deep dives above hold every one of them. For education only.

What an interview asks here

Leveraged finance questions test one instinct: can you start from what the debt will support rather than from what the business is worth.

Try each one out loud before you open it. What is underneath is the shape of a complete answer, not a script — somebody who can produce those parts in their own words can also answer the four variations that follow, and somebody who has memorised a paragraph can answer one.

Q1How much debt can this company carry?

What it is checking. The core question of the desk, and the answer must name two tests rather than one multiple.

A complete answer contains:

• Two constraints bind: a leverage ceiling, as a multiple of EBITDA, and an interest cover floor.
• Capacity is the smaller of the two, and which one binds tells you what the structure is exposed to — a low-rate high-multiple structure binds on leverage, a high-rate one binds on cover.
• Then check that the business funds itself at that level: EBITDA minus capex, minus cash tax, minus interest, has to be positive.
• Both tests can pass and the company can still fail, because neither of them is about the maturity.
• And the definitions matter more than the numbers — what counts as EBITDA is set in the credit agreement, add-backs included.

Read it properly: Debt capacity · Reading the agreement

Q2Where does a buyout return actually come from?

What it is checking. The question that separates a rehearsed answer from an understood one, because the three sources can be separated arithmetically.

A complete answer contains:

• Earnings growth: the business generates more than it did.
• Multiple expansion: it was bought at one multiple and sold at a higher one. That is the market's doing rather than the sponsor's.
• Debt paydown: cash generated by the company repaid the loan, so the equity is worth more even with everything else unchanged.
• Each can be measured holding the other two at entry, which is how you say which one dominated a given deal.
• The honest observation: when most of the return is multiple expansion, the sponsor was in the right asset class at the right time.

Read it properly: Where the return comes from · Leveraged buyout

Q3Rates rise 200 basis points. What happens to buyout activity?

What it is checking. Whether you can trace a rate move through to a bid price rather than gesturing at sentiment.

A complete answer contains:

• The interest cover test tightens immediately, so debt capacity falls even if the leverage ceiling is unchanged.
• Less debt at the same required equity return means a lower price the sponsor can bid.
• So sponsors drop out of processes against strategic buyers, whose bids are not funded this way.
• Sellers who do not need to sell withdraw, which is why volumes fall rather than prices — the transactions simply do not happen.
• Existing structures are affected differently: floating-rate debt reprices immediately, and a hedge that expires is a cliff on a known date.

Read it properly: Debt capacity · Trade buyer vs. sponsor

Q4What does cov-lite actually mean?

What it is checking. A term everybody uses and most candidates overstate. The precise answer is a differentiator.

A complete answer contains:

• It means no maintenance covenant — no quarterly ratio the borrower must satisfy regardless of what it does.
• Incurrence covenants remain: the borrower still cannot take on debt, pay a dividend or sell an asset without meeting a test at that moment.
• So the document still governs actions; what is lost is the early warning.
• The practical effect is timing — lenders arrive at the table later, by which point the cushion has usually been spent.
• Springing covenants are the common compromise: a single test that applies only if the revolver is drawn past a threshold, which protects the bank rather than the institutional lender.

Read it properly: Term loan B · Covenant headroom

Q5Why does it matter who holds the loan?

What it is checking. A modern question. The instrument is identical and the outcome in a stress is not.

A complete answer contains:

• A bank syndicate can be convened, and each lender values the borrower's other business — an amendment can be agreed in weeks.
• A CLO is a portfolio governed by ratings, diversity and coverage tests, so its behaviour under a downgrade is mechanical rather than negotiated.
• A unitranche lender is one telephone number: fastest to amend, and no syndicate for the borrower to hide behind.
• Marks are less visible the further a loan travels from a syndicate, which makes a stressed situation less legible than the equivalent bond.
• And the amendment provisions have become their own risk — what a majority may change decides what every other term is worth.

Read it properly: CLO issue · Unitranche

Q6Talk me through sources and uses.

What it is checking. A modelling question. The point is that the equity number is an output.

A complete answer contains:

• Uses: the purchase price, any existing debt being refinanced, and fees and expenses.
• Sources: new senior debt, subordinated debt, cash on the target's balance sheet being used, and any equity management rolls over.
• The two columns must be equal, so the sponsor's cash equity is whatever the rest does not cover — it is a plug, not a decision.
• Rolled equity is a source because it never leaves; whether a lender counts it towards the sponsor's contribution is a credit-agreement question.
• A negative plug means the structure returns cash at closing, which lenders will ask about.

Read it properly: Sources and uses · The calculator

Q7What is a dividend recap and who should be uncomfortable about it?

What it is checking. It is a question about incentives, and the answer has to describe the document rather than criticise the sponsor.

A complete answer contains:

• The company borrows more and pays the proceeds to its owner as a dividend. Leverage rises, the owner takes cash out, and the business is unchanged.
• Whether it is permitted was decided years earlier, in the restricted payments basket and the builder basket of the credit agreement.
• Existing lenders are worse off, and if the document allows it they have already consented — which is the whole point of reading the permissions first.
• It is neither a scandal nor free: it raises the leverage that the maturity refinancing will be measured against.
• The instinct it should trigger is to check what other permissions sit next to it, because that basket is rarely the only wide one.

Read it properly: Dividend recap · Reading the agreement

Q8A borrower services its debt comfortably every year and still fails. How?

What it is checking. Whether you distinguish a cash-flow risk from a refinancing risk. Most candidates conflate them.

A complete answer contains:

• Interest cover is a flow test. It says nothing about the year the principal is due.
• A structure can pay its interest for a decade and end the period with nearly all of the principal outstanding — the sweep never gets there.
• Refinancing is a market, not a plan: the borrower is exposed to whether the market is open on a date it does not control.
• Meanwhile capital expenditure is the discretionary line, so the cut compounds against a competitor who is investing.
• That shape took twelve years in the best-documented retail example, and looked fine for eleven of them.

Read it properly: A levered retailer · The deleveraging path

Do these against a clock → — one at a time, ninety seconds each, answer before you look.

Whose questions these are. Every question on this page was written for this publication. None is taken from anybody else’s question bank, and none is a claim about what any named firm asks — that is neither verifiable from here nor ours to assert. They are our own reading of which mechanism a question of this kind is testing. Information and education only.

How the transactions fit together

Everything on this desk is the same arithmetic: a business bought or refinanced with more debt than it carried before, and the debt serviced out of the cash the business itself produces. A leveraged buyout is the complete form of it, and the other transactions are pieces of that structure sold separately. A Term Loan B is the senior layer, written for institutional lenders rather than banks; a unitranche collapses senior and junior into one instrument and one lender, trading price for speed and a single conversation; mezzanine is the layer that sits below both and is paid for taking the first real loss.

Two exist because the timetable of a purchase and the timetable of a bond market do not match. A bridge to bond lends the money now on terms designed to be unattractive to keep, so it is repaid by an issue later; stapled financing is that package prepared by the seller's own adviser and offered to every bidder, which removes a variable from the auction and adds a question about whose interest is being served.

The rest are what happens to a business that is already owned this way. A bolt-on acquisition buys something smaller and funds it inside the existing structure. A dividend recapitalisation borrows again and pays the proceeds to the owner, which returns money without selling anything and leaves the business carrying the debt. A continuation vehicle solves the same problem from the fund's end rather than the company's: the asset moves into a new vehicle, some investors leave and some stay, and the price is set by a transaction the manager is on both sides of.

Concepts to master

• Leverage is a multiple of an adjusted number. Add-backs for exceptional costs and run-rate synergies each may be defensible; together they are the difference between a figure a lender accepts and one it does not.
• Returns come from three places — paying down debt, growing earnings, and selling at a higher multiple than you bought. Only the first two are the buyer's doing. See the buyout model.
• Certainty of funds is a product. In a competitive process, a bid that cannot fail on financing beats a marginally higher one that can.
• Covenant-lite is not covenant-free. It means maintenance tests are absent or apply only to the revolver; the incurrence tests are still there, and they still bind.
• This desk manufactures the raw material of the leveraged credit market — see credit and the loan itself, plus leverage as a mechanism.

Analysis

⬇ The whole desk on one printable page

Who pays whom, drawn

The timetable on a transaction page says what happens and in what order. These say where the money goes — every payment between the parties, and what each one is for. Only the transactions where the cast list alone does not answer that carry one; each diagram sits on its own page.

• Leveraged buyout — A buyout: who ends up owing the money
• Dividend recapitalisation — A recapitalisation: cash out, leverage behind
• Continuation vehicle — A continuation fund: the manager on both sides

Who does this: Leveraged Finance is a sell-side seat in Investment Banking, alongside Mergers & Acquisitions, Equity Capital Markets, Debt Capital Markets, Restructuring, Structured Finance, Valuation & Deal Analysis. See the industry map.