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Debt capacity analyzer

Estimates a company's sustainable debt capacity using leverage multiples, interest coverage ratios, free cash flow conversion, and credit rating thresholds, then benchmarks the result against sector peers and outputs a…

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Purpose

Estimate the maximum sustainable debt a company can carry — and the incremental capacity available today — by triangulating across leverage multiples, coverage ratios, free cash flow conversion, and rating agency thresholds, then pressure-testing the result against sector peers. Replaces back-of-envelope leverage guesses with a defensible debt envelope a CFO can take to a board or a banker can take to a credit committee.

When to Use

Invoke this skill when the user asks to:

  • Size a new bond issuance, term loan, or revolving facility
  • Determine how much debt an acquisition or LBO target can support
  • Stress-test current leverage before a refinancing or rating review
  • Assess incremental borrowing headroom under existing covenants
  • Evaluate whether a buyback, dividend, or capex program is affordable on credit
  • Benchmark a company's leverage profile against sector peers

Inputs Required

Before starting, collect:

  • EBITDA: Last-twelve-months and, if available, normalized/run-rate EBITDA
  • Existing debt: Gross debt, cash balance, and current net debt
  • Free cash flow drivers: Capex, working capital change, cash taxes, and dividends
  • Target credit profile: Desired rating (e.g., BBB / Ba2) or "maintain current rating"
  • Sector: Industry and a short list of comparable peers if known
  • Current interest cost: Blended rate on existing debt and expected rate on new debt
  • Covenant terms: Any existing financial maintenance covenants (leverage, coverage)

If peer comps are not provided, use representative sector medians and state the assumption. If FCF detail is missing, estimate FCF conversion at 50–65% of EBITDA and flag it.

Instructions

Step 1: Normalize EBITDA and Establish the Base

Build a clean earnings base before sizing any debt:

  • Start from reported EBITDA, then adjust for one-time items, stock comp policy, and non-recurring revenue
  • Distinguish reported vs. run-rate EBITDA — size capacity off the more conservative figure unless a clear synergy/ramp case justifies run-rate
  • Confirm net debt (gross debt minus readily available cash; exclude restricted cash and minimum operating cash)

Step 2: Leverage Multiple Method (Net Debt / EBITDA)

Anchor capacity to sustainable leverage:

  • Map target rating to a leverage band: investment grade typically ≤2.5–3.0x; crossover/BB 3.0–4.5x; B-rated 4.5–6.0x (adjust by sector — utilities and infrastructure tolerate more; cyclicals and tech less)
  • Compute Total Debt Capacity = Target Leverage Multiple × Normalized EBITDA
  • Subtract existing net debt to get Incremental Debt Capacity
  • Show capacity at the conservative, base, and aggressive ends of the rating band

Step 3: Interest Coverage Method (EBITDA / Interest)

Confirm the company can service the debt:

  • Use the target coverage floor for the desired rating: IG generally ≥6.0x EBITDA/interest; BB 3.0–5.0x; B 1.5–3.0x
  • Solve for Max Interest = EBITDA / Target Coverage Floor, then Max Debt = Max Interest / Expected Blended Rate
  • This becomes a binding constraint when rates are high — flag when the coverage-implied capacity is lower than the leverage-implied capacity

Step 4: Free Cash Flow Conversion Method

Test capacity against actual cash available to amortize and refinance:

  • Compute FCF = EBITDA − Capex − Cash Taxes − Working Capital Change
  • Calculate FCF / Total Debt — sustainable debt should keep this above ~10% for IG, ~5–10% for BB
  • Stress FCF for a downside case (e.g., EBITDA −20%) and confirm the company still covers cash interest plus required amortization
  • Identify any year where FCF turns negative under stress — this caps real capacity regardless of multiples

Step 5: Reconcile the Three Methods

The true capacity is the most binding constraint, not the average:

  • Lay the three implied debt figures side by side (leverage, coverage, FCF)
  • The recommended capacity is generally the lowest of the three at the target rating
  • Note which constraint binds and why — this tells the user what to fix to unlock more capacity (e.g., refinance to lower rate → coverage relaxes)

Step 6: Peer Benchmarking

Position the result against the sector:

  • Compare implied leverage, coverage, and FCF/debt to peer medians
  • Flag where the company sits inside or outside the peer band — a leverage figure that looks fine in isolation may be an outlier in a defensive sector
  • Note rating implications of moving above the peer median

Step 7: Headroom and Covenant Check

Translate capacity into usable, safe borrowing room:

  • Show covenant headroom: distance between pro-forma leverage and the tightest covenant trigger
  • Recommend a prudent operating cushion (typically maintain ≥0.5x leverage headroom and ≥1.0x coverage headroom below covenant levels)
  • Flag if the rating-implied capacity already breaches an existing covenant

Output Format

  • Structure: Diagnostic walkthrough by method, then a reconciliation table and a final recommended debt envelope
  • Length: 900–1,300 words
  • Format: Prose analysis with one comparison table (three methods reconciled) and one peer benchmark table
  • Sections: Normalized base → Leverage method → Coverage method → FCF method → Reconciliation (binding constraint) → Peer benchmark → Headroom & covenant check → Recommended debt envelope
  • Tone: Credit committee memo — quantitative, conservative, explicit about which constraint binds and what assumptions drive the answer

Quality Checklist

Before delivering output, verify:

  • [ ] All three capacity methods (leverage, coverage, FCF) are computed with explicit numbers, not just described
  • [ ] The recommended capacity equals the most binding constraint — not an average of the three
  • [ ] The binding constraint is named, with the reason it binds and what would relax it
  • [ ] Leverage and coverage bands are mapped to the specific target rating
  • [ ] Downside FCF stress case is run and its impact on capacity is stated
  • [ ] Final output gives both total capacity and incremental capacity after existing net debt

Notes

  • The single most common error is sizing off the leverage multiple alone — in a high-rate environment, coverage usually binds first
  • Run-rate EBITDA adjustments are where capacity estimates get inflated; size off normalized EBITDA and treat synergy ramp as a separate upside case
  • For acquisition financing, model pro-forma combined EBITDA and combined debt — not the standalone target
  • Recommend the user confirm covenant definitions (EBITDA add-backs vary materially by credit agreement) before treating headroom as final

How to use this skill

This file is a Claude Code skill in Anthropic's standard format — markdown with YAML frontmatter at the top.

Installing in Claude Code:

  • ~/.claude/skills/<folder-name>/SKILL.md — auto-loads in every session anywhere on your machine (recommended for skills you'll use across multiple projects)
  • <your-project>/.claude/skills/<folder-name>/SKILL.md — auto-loads only when working in that project (recommended for project-specific skills)

Restart Claude Code or open a new session to register.

Using in Claude.ai, ChatGPT, Gemini, or other AI tools:

  1. Drag this file into a new chat, or copy and paste its contents
  2. Send your task or request as your next message — the AI will apply the skill where it fits

For Claude Code skill details: https://docs.anthropic.com/en/docs/claude-code/skills