LBO (Leverage Buyout)

Question 1

Key steps to LBO model (5)

Answer 1

*⁠ ⁠Purchase price assumptions: transaction assumptions include purchase price, debt interest rate, how the deal will be financed.
These elements will appear in the Sources & Uses table.
*⁠ ⁠Create sources and uses: The “sources” section details how the transaction will be financed while the “uses” one lists how capital would be used.
*⁠ ⁠Financial Projections: Project out the three financial statements (usually over a 5-year period) and determine how much debt is paid down each year.
*⁠ ⁠Pro Forma Balance sheet: Adjust the balance sheet to reflect the new capital structure and the transaction price.
*⁠ ⁠Exit: Calculate the exit value based on an EV/EBITDA multiple over a 5-year EBITDA. Then, subtract the net debt to get the company’s exit equity value.

Question 2

Purchase Price (formula)

Answer 2

EBITDA x Multiple

Question 3

Initial Equity (formula)

Answer 3

Acquisition Price x EBITDA Multiple x % Equity

Question 4

Exit Enterprise Value (formula)

Answer 4

Exit EBITDA x Exit Multiple

Question 5

Debt Remaining on Exit (formula)

Answer 5

Beginning Debt - Total FCF

Question 6

Exit Equity Proceeds (formula)

Answer 6

Exit Enterprise Value - Debt Remaining on Exit

Question 7

Internal Rate of Return (IRR)

Answer 7

Using the XIRR Excel formula:
=XIRR (range of dates, range of values)

Question 8

LBO Three Main Drivers

Answer 8

*⁠ ⁠Debt capacity: the amount that the company can effectively borrow against its future cash flow while still amortizing senior debt and paying interest on both its senior and subordinated notes.
*⁠ ⁠Future EBITDA projections: helps determine exit valuation.
*⁠ ⁠FCF estimates: help determine effective debt paydown over the course of the LBO.
*⁠ ⁠Subordinated notes have the same risk and compensation as equity but are classified as debt as higher debt increases the tax shield of interest payment and debt commitments force management to assume a credible risk of their own.

Question 9

What are the most sensitive inputs in an LBO model?

Answer 9

While there are many significant inputs in an LBO model, the most sensitive ones are the purchase and exit multiples.

Question 10

What happen to the Income Statement after an LBO?

Answer 10

*⁠ ⁠Cost Savings (may assume PE firm cuts costs by laying off employees, which could affect COGS, OpEx, or both)
*⁠ ⁠New Depreciation Expense (from any PP&E write-ups)
*⁠ ⁠New Amortization Expense (from written-up intangibles / capitalized financing fees)
*⁠ ⁠Interest Expense on LBO Debt (include both cash / PIK interest)
*⁠ ⁠Sponsor Management Fees

Question 11

What happen to the Balance Sheet after an LBO?

Answer 11

Liabilities & Equity

*⁠ ⁠New debt is added
*⁠ ⁠Shareholders’ Equity “wiped out” / replaced by however much
Investor
*⁠ ⁠Equity the private equity firm is contributing

Assets

*⁠ ⁠Cash adjusted for any cash used to finance the transaction / transaction fees
*⁠ ⁠Goodwill & Other Intangibles → “plug” to make the BS balance
*⁠ ⁠Also may see Asset Write Ups and Write-Downs, DTLs, DTAs,
*⁠ ⁠Capitalized Financing Fees, etc…