How would a company estimate debt capacity in a merger?

• A. Use the combined company's last twelve months EBITDA, identify the median Debt to EBITDA from comparable transactions, and apply that ratio to your EBITDA
• B. Use the company's current stock price
• C. Use the book value of equity alone
• D. Use the latest quarterly net income

Answer: (A)

Debt capacity in a merger is estimated by applying a market-based leverage multiple to the combined entity’s EBITDA. Using the last twelve months EBITDA provides a normalized view of operating performance that smooths out seasonality and one-off items. By examining debt to EBITDA multiples from comparable transactions, you capture how lenders and the market are currently pricing leverage for similar deals. Taking the median of those multiples helps reduce the impact of outliers, then applying that median to the combined EBITDA yields a practical debt capacity—the amount of debt the merged company could support while staying in line with peers. This approach reflects real-world financing conditions and market norms, rather than metrics that don’t directly indicate debt flexibility. Stock price, book value of equity, or quarterly net income don’t provide a direct measure of how much debt can be serviced by ongoing earnings, so they’re not suitable bases for estimating debt capacity in a merger.