Creating tranches. One additional way to expand debt capacity is through something called debt tranching. Since most bank term loans are five to six years in lengths, banks do not need to concern themselves with the cash flows beyond that period. The further away from today, the riskier the cash flows are. However, there are lenders and investors who are willing to take on that risk in exchange for an increased return. This being the case, the debt capacity of a company is higher than simply what a bank will lend it in the form of a five year term loan. Since the first five years of cash flows are already spoken for, we need to go to year six cash flow and determine what can be raised. This will not be an amortizing loan, but rather a bullet payment, which means it is all paid at one point in time at the end of the loan. Cash flows in year six need to cover both the interest payment for that year and the principle. We take the year six cash flow and divide it by one plus the after tax cost of debt. The difference between that and the year six cash flow is the interest. For years one to six, the interest will be the same in each year, as the debt balance for this loan does not change. However, we need to remember that since we need cash to pay this interest, it will reduce the cash flow available for the previous term loan A. So that amount borrowed will have to be adjusted and will need to be lower. The overall leverage, though, will be higher. We'll have a look at a problem like this in the workouts, as well.