What is debt capacity?

Our dynamic, collaborative and deeply personal approach is what truly sets Praxity apart. Bringing together 85,000 dedicated professionals from across the globe is no small feat. Collaborative, communicative, and client-centric, our Alliance is founded on shared values that bind us together. That’s why we’re proud to introduce the Praxity Charter, a first-of-its-kind symbol of our commitment to agility, transparency and excellence.

Across the world, our values unite us. Praxity Alliance members are handpicked through a rigorous selection and application process, ensuring that every single Member Firm represents the industry’s highest standards. Together, members collaborate and combine expertise to solve complex challenges with a competitive edge, meeting international needs through a shared vision of success. Unwaveringly, we believe that we go further together.

The Charter itself signifies the culmination of extensive research, conducted by our external partner agency. The process began with a consultation with the Board, swiftly followed by a selection of in-depth telephone interviews; next, we ensured that every single Member had their voice heard at our Global Conference.

Our takeaway was clear; the Alliance provides critical global connections, with Member Firms forming strong relationships between one another, throughout the world. The personal nature of these relationships builds trust, enabling members to refer work with deep-seated confidence. Client satisfaction comes first, and the true strength of the Alliance is the ability to put the needs of the clients above the usual dividing lines of geography, discipline, and firm.

Quickly, it became evident to us that Member Firms treat each other’s clients as if they were their own, providing responsive and effective solutions to unlock new value on an international scale. The practice of open and proactive collaboration was initially adopted intuitively, with Member Firms naturally pooling expertise without needing a prompt. This is something we remain deeply proud of and, in celebration of this, we chose to commemorate this unique form of collaboration through a one-of-a-kind codified document: The Praxity Charter.

The final charter was officially unveiled at the Global Leadership Conference in Rome, where it was signed by each of our Alliance Member Firms. At its core, the Charter speaks to the values that define Praxity: client delivery excellence, unparalleled communication, and international collaboration.

Each of these three values are unpacked in more detail throughout the Charter.

Loan approvals:  

Banks conduct debt capacity analysis to assess a business's creditworthiness and ability to repay before approving a loan.

Fairness opinions: 

A fairness opinion may be sought when a company is considering taking on new debt, refinancing existing debt, or engaging in other significant debt-related transactions. The opinion typically evaluates whether the terms and conditions of the proposed debt are fair from a financial perspective, evaluating factors such as interest rates, fees, covenants, and other terms of the debt agreement.

Transfer pricing: 

While making their Corporate tax Self Assessment (CTSA) returns each year, a company is obliged to make its return in accordance with the arm’s length principle, which means making the return as if it was borrowing on a stand-alone basis from a third-party lender, disregarding group guarantees.

Regulatory tax requirements: 

To curtail inflated finance cost claims, His Majesty’s Revenue and Customs (“HMRC”) requires a debt capacity analysis as part of CTSA returns, ensuring that finance costs align with the arm's length principle and reflect genuine borrowing capacity. 

The balance sheet and cash flow statements are two key financial statement measures to assess a company’s debt capacity. A few key metrics used to assess a company's debt capacity are outlined below:

Background: ABC Ltd is based in Nottingham, United Kingdom. It currently holds external debt financing through bank loan facilities and loan notes totalling £1,250,000. The Company intends to secure additional debt finance by issuing 10% loan and Payment in Kind ("PIK") notes amounting to £750,000 to the investors. The total capital employed by the company is £1,975,000.

Challenge: The Company already has existing debt and plans to obtain additional debt financing. It wants to determine whether any disallowance would arise in claiming borrowing costs for debt exceeding the appropriate debt level ("debt capacity") due to the UK’s thin capitalisation rules.

Solution: We conducted a debt capacity analysis to determine the Company's ability to assume additional debt.

The following methods were used to ascertain debt capacity of ABC Ltd:

Using the capitalised discretionary cashflow method, the company’s debt capacity can be assessed as exhibited –

Appropriate benchmarking ratios are based on ratios of comparable companies. The cost of debt has been based on the median cost of debt of comparable companies.

(All amounts in £)

Note A: Interest Coverage

Description

The weightage given to the inputs used depend on the valuer’s judgement, based on the facts and circumstances of the business.

(All amounts in £)

The weightage given to the inputs used depend on the valuer’s judgement, based on the facts and circumstances of the business.

(All amounts in £)