Debt Capacity and Debt Outstanding: Opinion and Fact

Debt outstanding is what the project owes: Rs 1,260 crore at the start of the modelled year, and Rs 1,197 crore after the instalment. Debt capacity is what the project could carry, and it depends on the cover somebody requires. At 1.20 times it is Rs 1,425.3 crore. At 1.50 times it is Rs 1,140.2 crore. One is a balance and the other is an opinion.

What is debt outstanding, and where does it come from?

Start with something closer to home. A household with a home loan can answer one question instantly and cannot answer the other. Ask what is owed this morning, and the answer is on the statement. Ask how large a loan the household could carry, and the honest answer starts with a question back: carry on what terms, and judged by whom? The two questions feel similar and they are not the same kind of question at all. One has an answer sitting in a file. The other has an answer only once somebody supplies two opinions.

The distinction between an answer that sits in a file and an answer that needs two opinions first is the whole of the difference between debt outstanding and debt capacity. A road project draws the same distinction in exactly the same shape.

Tapti Crossing Infrastructure Private Limited, an invented single-asset toll road company, was formed to build and operate one crossing, with no other business behind it. The company is a special purpose vehicleA company formed to hold one asset and do one thing, so that its accounts, its cash and its borrowings do not mix with anybody else's.. Nothing outside the crossing stands behind the borrowing. The project cost Rs 1,800 crore. Of that, Rs 1,260 crore is debt and Rs 540 crore is equity, a 70 to 30 structure.

Debt outstanding for Tapti Crossing Infrastructure is Rs 1,260 crore at the start of the modelled year. The Rs 1,260 crore did not come from a model. The figure came from an account: money was drawn, and Rs 1,260 crore is what has not yet been repaid. The outstanding is a ledger balanceA figure that exists because transactions were recorded, so it can be traced back to the movements of cash that produced it. in the plainest sense. The balance exists because transactions happened and were recorded.

Debt outstanding is a ledger balance, so two people handed the same account reach the same figure, and it changes only when money actually moves. Nobody has to be persuaded of it. Nobody can hold a different view of it and still be reading the same document. If two people disagree about it, one of them has the wrong statement, and that is a clerical problem rather than an analytical one.

Across the modelled year, the outstanding balance moves once. Scheduled principal is Rs 63 crore, or 5.0 per cent of the Rs 1,260 crore drawn. The balance falls to Rs 1,197 crore. Interest at the project's own contracted rate of 9.5 per cent is Rs 119.7 crore, and interest does not reduce the balance at all. Together they make debt serviceEverything the borrower has to pay the lenders in a period, being interest plus any principal that falls due, added together. of Rs 182.7 crore for the year. Only the Rs 63 crore of that touches the outstanding figure.

Notice how few inputs that took. A drawn amount, a stated instalment, and the arithmetic of subtraction. There is no requirement in it, no shape assumed, nobody's judgement of what is prudent. The figure is small, dull and completely settled, and being settled is the whole of its value.

What is debt capacity, and what has to be fixed before it exists?

Go back to the household for a moment. How large a home loan could it carry? Nobody can answer that from the salary slip alone. Two things have to be settled first. Somebody has to say how much of the income may go to the loan, and somebody has to say over what shape the loan is repaid. Change either and the answer changes. The salary sits exactly where it was. The household did not become richer or poorer between the two answers. Somebody simply took a different view.

Debt capacity for a project works the same way and for the same reason. Debt capacity is the amount of borrowing the project's cash could support, and no such amount can be written down until two things are fixed.

The first is a cover requirementThe multiple of a period's debt service that a lender insists the cash must reach, written as a number of times, such as 1.20 times or 1.50 times.. A cover requirement is the multiple of debt service that somebody insists the cash must reach before they will lend. The requirement is a number of times, and it comes from a lender rather than from a road. Building the cover ratio itself, and moving the balance across the year, is covered separately.

The second is a repayment shapeHow much of a facility is repaid in a period and how much is only serviced. Together they decide what one year's debt service costs per rupee borrowed.. Debt service is not interest alone. How much principal falls due in the year decides how much cash each rupee of borrowing consumes. Tapti Crossing Infrastructure Private Limited carries interest at its own contracted 9.5 per cent and scheduled principal at 5.0 per cent of the amount drawn, so debt service comes to 14.5 per cent of whatever is borrowed. The repayment shape is an assumption of the exercise. The record fixes the shape for one year and carries no tenor at all.

With both fixed, the arithmetic is two divisions and no more. Allowed debt service is the cash divided by the requirement. Capacity is that allowed debt service divided by the 14.5 per cent shape. Take a 1.20 times requirement on earnings before interest, tax, depreciation and amortisation (EBITDA) of Rs 248 crore: Rs 248 crore over 1.20 is Rs 206.67 crore of allowed debt service, and Rs 206.67 crore over 0.145 is Rs 1,425.3 crore of capacity. Nothing in that chain was hard. Everything in it was assumed before it began.

Debt capacity is not a property of the project on its own. Capacity is a property of the project taken together with somebody's requirement, so a capacity figure written down without naming that requirement is half a sentence. The half that is missing is the half that moves.

The two assumptions are also why sizingWorking out how large a facility can be, by starting from the cash a period produces and dividing back through a required cover and a repayment shape. a facility runs in the opposite direction to reading a statement. Reading a statement starts from a recorded fact and ends there. Sizing starts from a cash figure, passes through two chosen assumptions, and ends at a number that looks exactly as solid as the recorded one. Same units, same typeface, entirely different standing.

Why does capacity move when nothing about the project has changed?

Hold everything about the crossing still. Same road, same traffic, same toll, same operating cost, same EBITDA of Rs 248 crore against revenue of Rs 310 crore. Hold the repayment shape still too, at the project's own contracted 9.5 per cent interest and 5.0 per cent principal. Now move only the requirement, and watch the answer travel.

At 1.20 times, the cash supports debt service of Rs 206.67 crore and therefore Rs 1,425.3 crore of debt. At 1.30 times it supports Rs 190.77 crore and Rs 1,315.6 crore. At 1.40 times, Rs 177.14 crore and Rs 1,221.7 crore. At 1.50 times, Rs 165.33 crore and Rs 1,140.2 crore. And at 1.357417 times it supports Rs 182.70 crore and Rs 1,260.0 crore. The final line returns the amount actually drawn to the last decimal, and returning it is the check that the whole exercise is sound.

Read those five lines out loud and then read the first sentence of this block again. The project's cash never changed. Not once. The answer moved by Rs 285.1 crore between the extremes, more than half of the sponsors' entire Rs 540 crore of equity.

A debt capacity figure is measuring the appetite of whoever set the requirement at least as much as it is measuring the cash of the project, so a reader who treats it as a fact about the road has attributed it to the wrong party. The road contributed one input. Two other people contributed the rest.

None of the five requirements in that table is a market standard, a convention or a rule anybody publishes. The five are arithmetic settings chosen to show the shape of the relationship. A requirement is set by one lender for one facility at a time, so no sector has a typical requirement that anybody publishes.

What does the requirement do to the sponsors' equity cheque?

Here is the part that makes the abstraction concrete, and it is the part sponsors feel first. The crossing costs Rs 1,800 crore to build. The Rs 1,800 crore is fixed by concrete and steel, and concrete does not care what anybody requires. So every rupee the lenders decline to provide is a rupee the sponsors have to find.

At a 1.20 times requirement the lenders would carry Rs 1,425.3 crore, leaving the sponsors funding Rs 374.7 crore. At 1.50 times they would carry Rs 1,140.2 crore, leaving the sponsors funding Rs 659.8 crore. The equity cheque nearly doubles, and the road is identical in both versions. The gearingThe proportion of a project or a company funded by borrowing rather than by equity, usually written as debt over total funding. moves from 79.2 per cent to 63.3 per cent for the same reason and by the same arithmetic.

The cover requirement decides the size of the sponsors' equity cheque, and the sponsors do not decide it. That is an uncomfortable sentence and it is a plain consequence of the two divisions in the block above. A household meets the same mechanism whenever a lender changes what proportion of a purchase price it will fund: the price of the house did not move, and the deposit did.

The actual structure sits between the two. At the sized requirement of 1.357417 times, capacity is Rs 1,260.0 crore and the equity is Rs 540.0 crore, precisely the Rs 540 crore this record shows the sponsors put in. The arithmetic landing on the recorded equity is not a coincidence, and the reason is worth saying: the structure was built at that requirement, so working backwards through it has to return what was built.

What does it mean when capacity and outstanding are equal?

On this project the two figures meet. Debt capacity at 1.357417 times is Rs 1,260.0 crore, and Rs 1,260 crore is what Tapti Crossing Infrastructure Private Limited has drawn. Reading something into the match is tempting. Resist the temptation. The reading that first suggests itself is the wrong way round.

The equality is construction rather than coincidence and it is certainly not a finding: the facility was sized to a requirement, so capacity equals outstanding by the way the structure was built. Asking whether the two are equal is asking whether somebody did the sizing arithmetic they were paid to do. The people paid to do it usually did.

The useful reading runs the other way, and it is genuinely useful. Where the structure is visible, the requirement that produced it can be recovered. Debt service is Rs 182.7 crore, being Rs 119.7 crore of interest at the project's own contracted 9.5 per cent plus Rs 63 crore of scheduled principal. EBITDA is Rs 248 crore. Dividing gives a cover of 1.357417 times. A facility of this size could not have been written at a requirement any higher than the cover the structure actually delivers, so the lenders' requirement was at or below 1.36 times.

Two things are worth separating: what has been recovered, and what has not. The upper bound on the requirement is now known. The exact requirement is not: a lender who wanted 1.25 times would happily have signed a structure that delivers 1.357417 times, so the true requirement could sit anywhere at or below the figure. The record does not state the requirement anywhere, so the requirement is bounded and left there. Filling that gap with a plausible number is the one move that would be wrong.

Which of the two can be audited, and which can only be argued about?

Debt outstanding can be confirmed. Somebody asks the lenders for a statement of account, reads Rs 1,260 crore, and the matter is closed. Reading the statement is a check on a fact, and a check on a fact either agrees or it does not.

Debt capacity cannot be confirmed in that way. The reason matters, and the reason is not that the arithmetic is hard. The arithmetic is two divisions. A second person handed the same cash figure, the same cover requirement and the same repayment shape will reproduce Rs 1,425.3 crore every time. Assumptions are not the kind of thing a statement settles, so the second person cannot confirm the cover requirement or the repayment shape.

So disagreement about a capacity figure is almost never disagreement about the arithmetic. The disagreement is about the requirement, or about the shape, wearing the clothes of an arithmetic dispute. Two analysts arguing about whether a road can carry Rs 1,425.3 crore are usually arguing about whether 1.20 times is the right requirement, and neither of them has said so out loud.

The way to challenge a capacity figure is to ask for its cover requirement and its repayment shape, not to recompute it. Recomputing is the response that feels rigorous and settles nothing. If the two assumptions are given, the arithmetic will agree and the answer may still be unacceptable. If they are not given, no amount of dividing will reveal which one is missing.

There is a household version of this too. Two people arguing about how much house a salary can carry sound as though they disagree about the salary. The two almost never disagree about the salary. The disagreement is about how much of it should go to a loan, and about how long the loan should run, and until one of them says so the argument cannot end.

How does each of the two move across a year?

Both figures move, and they move for entirely different reasons, on entirely different evidence.

Rs 63 crore of scheduled principal was paid, so debt outstanding for Tapti Crossing Infrastructure Private Limited falls from Rs 1,260 crore to Rs 1,197 crore. The movement is settled, dated and checkable. If somebody asks what happened to the balance over the year, there is one answer and it is short. The same idea under the heading of amortisationThe gradual reduction of a loan balance by scheduled repayments of principal. Paying interest does not reduce the balance. is covered separately.

Debt capacity moves whenever either of its two inputs moves. Traffic and toll and operating cost all move, so the cash can move. Lenders revise what they want, so the requirement can move. And here the record runs out. The record carries a revenue figure of Rs 310 crore and an operating cost of Rs 62 crore for one modelled year, and it carries no traffic forecast, no concession period and no tenor. So the cash for any later year is not in the record, and a capacity figure for any later year cannot be computed at all.

The two are not merely different figures, they are figures with different amounts of knowability, and one of them runs out of record a full year before the other does. Outstanding can at least be carried one stated instalment forward. Capacity cannot be carried forward by even one year without inventing the cash.

Estimating around a gap is the most natural thing in the world, and it produces figures that look precisely like the ones computed properly. Refusing to estimate is worth defending. Naming the absence is duller, and it is the only honest option available.

Which one is safe to quote alone?

Debt outstanding is. Write Rs 1,260 crore in a note with nothing beside it except the date it applies to, and a reader who acts on it will not be misled. The figure carries its own meaning. The balance survives being copied into an email, a summary, a board pack and a headline, and it arrives at the far end saying what it said at the start.

Debt capacity is not, and it is not close. A capacity figure separated from its two assumptions looks like a fact, arrives without a base, and is exactly the kind of figure somebody wants for a headline, so it is the single most quotable wrong number a project financing produces.

Every property that makes it dangerous is a property that makes it attractive. It is large. The amount is round-sounding. A capacity figure describes something the reader would like to know, and it fits in a sentence. And nobody copies a footnote, so the figure drops its two assumptions the moment it is copied.

Compare the capacity figure with headroomThe difference between what could be borrowed and what has been borrowed. The difference only means anything once the cover requirement behind the first figure is named., a figure a reader constructs the instant two figures sit near each other. Headroom is the difference between capacity and outstanding, so it inherits both assumptions and neither of them is visible in it. A headroom figure is therefore an opinion twice removed, presented as a subtraction.

The practical rule is short enough to remember. Outstanding travels alone. Capacity travels with two assumptions attached, or it does not travel.

How does each side of the table actually use these two figures?

The project lenders use capacity to write the facility and outstanding to monitor it. Sizing happens once, before money moves, and it is where the requirement is chosen and where the equity cheque is effectively set. After that the lenders are watching a balance and a coverage figure, and the capacity arithmetic is finished work sitting in a file. The lenders' requirements, and the documents in which those requirements are recorded, are set out under project finance documentation.

The sponsors' finance team reads the arithmetic backwards. The team knows what the crossing costs and what the sponsors are prepared to put in, so the team works out what requirement a lender has to accept for the equity cheque to land where the sponsors want it. The backwards reading is the same two divisions run in the other direction, and it explains why the requirement is negotiated at all rather than simply announced.

An analyst covering an infrastructure holding is usually handed the outstanding figure and has to construct the capacity one. Constructing it means choosing a requirement. The disciplined version of that work states the requirement chosen and shows what a different one would have produced, exactly as the table above does. The undisciplined version publishes one figure.

An ordinary corporate borrowing sits differently, and Harivansh Packaging Limited is the contrast. Harivansh Packaging is a listed packaging maker with borrowings of Rs 740 crore, cash of Rs 140 crore and EBITDA of Rs 477 crore, so its net debt is Rs 600 crore and its net debt to EBITDA is 1.26 times. Its lenders have a whole company behind them, several products, several customers and a history of trading. A project financing has one asset and one stream of cash, so the cover requirement carries far more weight in it, and the capacity figure is correspondingly more sensitive to what that requirement happens to be.

Whoever the author, the same test applies: outstanding records what happened, and capacity records what somebody assumed.

What do the two figures have in common?

More than the contrast suggests, and the shared ground is worth stating because it is what makes them confusable in the first place. Both are amounts of debt for the same single road company. Both are written in rupees to the same precision. Both sit in the same paragraph of the same note. And in the year this record covers, both come to Rs 1,260 crore, the strongest possible reason to mistake one for the other.

The two figures part company on one question only, and it is not a question about arithmetic. Ask what had to be true before the figure could be written down. For debt outstanding, that money was drawn and recorded. For debt capacity, that somebody set a cover requirement and somebody assumed a repayment shape, and neither of those people is the road.

One question separates the two terms. One of these is a fact about a ledger, and the other is an opinion expressed in the units of a fact.