Leverage ratio (debt to EBITDA)

BDC defines leverage as the amount of debt a company has in its mix of debt and equity. A leverage ratio puts a number on that mix. In an acquisition it can come up when a lender sizes the loan against the target’s EBITDA, as described below. The guide to financing a business acquisition shows where that loan sits among the other funding sources.

Which ratio is meant

BDC’s glossary names debt-to-equity and debt-to-total-assets as the two ratios used to measure leverage. Its acquisition-financing article says the senior lender typically decides how many multiples of EBITDA it is willing to lend, which is the debt-to-EBITDA view. BDC adds that highly leveraged companies carry more risk of missing debt payments when revenues decline.

What to ask

• Which EBITDA the lender uses: the seller’s reported figure or an adjusted one.
• Whether the debt counted includes a vendor take-back note.
• Whether the lender will test the ratio after closing as a covenant.
• How the lender’s view differs from the debt service coverage ratio.