Covenant headroom
How much EBITDA the business can lose before a covenant trips. Leverage, interest cover and DSCR against their limits, with the headroom in both ratio units and dollars — the number a CFO actually reports to the board.
| Test | Actual | Covenant | Headroom | In EBITDA |
|---|---|---|---|---|
| Net leverage | 3.50× | 4.00× | +0.50 | $50.00M |
| Interest cover | 4.00× | 2.50× | +1.50 | $37.50M |
| Debt service cover | 1.50× | 1.25× | +0.25 | $10.00M |
Net leverage is net debt over EBITDA; interest cover is EBITDA over interest; DSCR is CFADS over debt service.
net debt / EBITDA · Tested as a maximum.
EBITDA / interest · Tested as a minimum.
CFADS / debt service · The project finance test.
A clear path from inputs to results.
A covenant test is a ratio with a limit and a headroom. The number a CFO reports is not the ratio but how much EBITDA the business can lose before the test trips.
How to use
- Enter EBITDA, net debt, interest, CFADS and debt service.
- Set the three covenant limits.
- Read the headroom in both ratio units and dollars, and which test is tightest.
The formula
Reference: Lender definitions: leverage as a maximum, cover and DSCR as minimums (Brigham & Ehrhardt, Financial Management, ratio analysis).
Worked example
$100M EBITDA, $350M net debt
- Interest $25M, CFADS $60M, debt service $40M. Covenants 4.0×, 2.5×, 1.25×.
- 1
Leverage 3.5×, cover 4.0×, DSCR 1.5×. Headroom 0.5× = $50M of EBITDA.
All three pass; leverage is tightest.
Interpreting the result
Headroom in EBITDA is the practical number: it says how much earnings can fall before the lender has a conversation with you.
Assumptions & limitations
- EBITDA as defined in the credit agreement, without add-backs.
- Trailing twelve months.
- No equity cure rights.
- Net debt is total debt less unrestricted cash.
Frequently asked questions
Why is leverage usually the tightest?
Because it is the test lenders price on, and it moves with both debt and earnings.
Does DSCR apply outside project finance?
It appears in real estate and infrastructure lending more than in corporate facilities.
What is a typical leverage covenant?
3.0–4.5× for a leveraged buyout, lower for investment grade.
What happens on a breach?
Usually a cure period, a waiver fee, or a default that accelerates the debt.
Methodology last reviewed 2026-10-22. Results are informational and not financial or engineering advice — see our disclaimer.