debt limitation

Definition

A covenant placed on a bond that restricts the issuing company from issuing more debt in the future. By placing a debt limitation, the current bond holders ensure that the company does not increase its leverage and thus increase the chances of the company defaulting. A debt limitation covenant can vary in its severity. For example, a very restrictive covenant might dictate that a firm can no longer issue any debt; this type of restriction would usually be placed if the bond holders feel that the company is in a risky industry.
If bond holders feel that the company is less likely to default, they can issue a debt limitation that allows the amount of future debt issued by the company to be pegged to the amount of net income that the company is able to bring in. This allows the company to expand.

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debt limit interest coverage test