LBO Flashcards
What are exit opportunities FOR PE?
Exit strategies:
- Strategic buyer - Trade buyer - industrial buyer - Usually mostv value
- Financial buyer - Sell to another PE (they see other value, or want roll-up)
- IPO
- Continuation fund (backup plan - makes sense if the assets are undervalued)
- (Dividend recapizalization)
- (We do write-off , liquidiation)
Characteristics of a good LBO target?
Characteristics of a Good LBO Candidate
The following characteristics define the ideal candidate for a leveraged buyout. While is it very unlikely that any one company will meet all these criteria, some combination thereof is need to successfully execute an LBO.
* Strong, predictable operating cash flows with which the leveraged company can service and pay down acquisition debt
* Mature, steady (non-cyclical), and perhaps even boring
* Well-established business and products and leading industry position
* Moderate CapEx and product development (R&D) requirements so that cash flows are not diverted from the principle goal of debt repayment
* Limited working capital requirements
* Strong tangible asset coverage
* Undervalued or out-of-favor
* Seller is motivated to cash out of his/her investment or divest non-core subsidiaries, perhaps under pressure to maximize shareholder value
* Strong management team
* Viable exit strategy
What is mezzanine financing?
Mezzanine Financing: A private equity firm may offer mezzanine financing in the form of subordinated debt (junior to senior debt) or preferred equity, where return expectations are typically around 15%-20% per year. Mezzanine financing, in general, usually involves investor compensation in the form of interest combined with upside participation (i.e., equity or options/warrants on equity).
Criteria for good LBO candidate?
CRITERIA FOR GOOD LBO CANDIDATES
A good LBO candidate typically has the following characteristics:
1. Strong market position and sustainable competitive advantages: This may seem obvious, but strong LBO candidates include companies that are market leaders with sustainable business models. This can be characterized by high barriers to entry, high switching costs, and strong customer relationships.
2. Multiple avenues of growth: It is always helpful to have a balanced and diverse growth strategy, so that a company’s success is not completely reliant on one driver. This could include growth through the introduction of new products, increasing in the number of locations, new customers, increasing the penetration of current customers (upselling products), exploring adjacent industries, and expanding into new geographies, among other possibilities.
3. Stable, recurring cash flows: Due to the reliance on high leverage, PE firms must find companies with stable and recurring cash flows in order to have sufficient cash flow to service all of its debt requirements. This requires to have relatively low exposure to seasonal fluctuations in cash flows, as well as low sensitivity to cyclical fluctuations (i.e., relatively immune to economic downturns and/or commodity prices).
4. Low capital expenditure requirements: Companies with low maintenance capital expenditure requirements provide management more flexibility in terms of how it can allocate the company’s capital and run its operations: investing in growth capital expenditures, making bolt-on acquisitions, growth in its core operations, or give back capital to its shareholders in the form of a dividend. Capital-intensive businesses will typically generate lower valuations from private equity firms since there is less available capital (after interest expense), and there is increased financial risk in the deal.
5. Favourable industry trends: Private equity firms are continually searching for companies that are well-positioned to benefit from attractive industry trends, since it results in above market growth and provides stronger equity return potential as well as stronger downside protection for the investment. Examples include increasing automation, changing customer habits, adoption of a disruptive technology, digitalization, changing demographics, increasing regulation, etc.
6. Strong management team: A strong management team is crucial to success as private equity firms will provide strategic guidance but will almost exclusively rely on management to execute their operating strategy. If a company does not have a strong management team, the private equity firm must have a replacement ready before even seriously contemplating the investment.
7. Multiple areas to create value: In addition to the characteristics above, a good LBO target candidate will also have multiple areas where the PE firm can create additional value. Examples include selling underperforming assets, increasing the efficiency of operations, pricing optimization, organizational structure, and diversifying the customer base.
What are different capital structures?
What are the FIVE most important areas to look at when doing a short case interview?
- CASH flow
- Market environment
- Management team
- Value creation
- Exit route
How can you boost the multiple expansion?
1) Make sure the deal goes really well. Grow the company, work margins, strong management
2) Buy low, sell high
3) Change the business model - go towards a high-margin business model
4) sum-of-the-parts - break apart pieces and keep high multiple pieces (or buy and build)
What is an ability-to-pay analysis?
It’s an analysis to see how much equity a sponsor have to contribute to meet a certain IRR with a given exit multiple
- You basically back-calculate from the LBO-model
What are the ways to increase LBO value?
- Increasing TEV
1.1Can be broken down into: Increase EBITDA x increase multiple
1.2 EBITDA can be broken down into: Increaseing revenue x increasing margin
1.2.1 Revenue and margin can also be broken down further… but its too detailed. - Decreasing debt, so equity increases
Walk me through the most important MOIC vs IRR table
3 years:
- 2x MOIC- 25% IRR
- 2.5x MOIC- 35% IRR
- 3x MOIC- 45% IRR
5 years:
- 2x MOIC- 20% IRR
- 3x MOIC- 25% IRR
- 3.7x MOIC- 30% IRR
på vlka 5 sätt kan PE-fond tjäna pengar?
- Management fee
- Investering
2.1 På lån de ger iut
2.2 Utdelning
2.3 Reavinst av försäljning
2.4 “monitoring-fee”
Varför sker en buyout?
- Bolagets verksamhet är inte strategisk viktig eller passar inte in tillsammans med övrig verksamhet
- Ägaren ska pensioneras
- Bolaget går med förlust (turnaround)
- Säljaren i behov av kapital
- Framtida tillväxtmöjligheter bedöma som små
- Framtida verksamhet har behov av omfattande investeringar
What is the big 3 differences of private vs public equity?
- Liquidity - public more traded
- Pricing - Public pricing more “fair”
- Monitoring - More monitoring of public (usually)
