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What is a leveraged buyout, and why does it work?
Why do PE firms use leverage when buying companies?
Walk me through a basic LBO model (without the full financial statements).
Can you explain the legal structure of a leveraged buyout and how it benefits the private equity firm?
What assumptions impact a leveraged buyout the most?
How do you select the Purchase Multiples and Exit Multiples in an LBO model?
What is an "ideal" candidate for an LBO?
How do you use an LBO model to value a company, and why does it set the "floor valuation"?
Wait a minute, how is an LBO valuation different from a DCF valuation? Don’t they both value the company based on its cash flows?
How is a leveraged buyout different from a normal M&A deal?
A strategic acquirer usually prefers to pay for acquisitions with 100% Cash – so why would a PE firm want to use Debt in an LBO?
How could a private equity firm boost its returns in an LBO?
How do you calculate the internal rate of return (IRR) in an LBO model, and what does it mean?
How can you quickly approximate the IRR in an LBO? Are there any rules of thumb?
A PE firm acquires a $100 million EBITDA company for a 10x purchase multiple and funds the deal with 60% Debt. The company’s EBITDA grows to $150 million by Year 5, but the exit multiple drops to 9x. The company repays $250 million of Debt in this time and generates no extra Cash. What’s the IRR?
A PE firm acquires a $200 million EBITDA company using 50% Debt at an EBITDA purchase multiple of 6x. The company’s EBITDA grows to $300 million by Year 3, and the exit multiple stays the same. Assuming the company pays its interest and required Debt principal but generates no additional Cash, what is the MINIMUM IRR?
How does the IRR change if the company repays ALL its Debt but nothing else changes?
You buy a $100 EBITDA business for a 10x EBITDA multiple, and you believe you can sell it in 5 years for a 10x multiple.
A PE firm acquires a business for a 12x EBITDA multiple, using 5x Debt / EBITDA, and plans to sell it in 5 years. The company’s initial EBITDA is $100, and it grows to $200 by Year 5. If there’s no Debt repayment and no additional Cash generation, what exit multiple do we need for a 25% IRR?
Now assume the company repays 75% of the initial Debt balance over 5 years. What exit multiple do we need for a 25% 5-year IRR?
A private equity firm acquires a $200 EBITDA company for an 8x EBITDA multiple using 50% Debt. It wants to sell the company in 3 years, but it’s difficult to find buyers, so the firm decides to take the company public instead.
If this company’s EBITDA increases to $240, it repays ALL the Debt over 3 years, and the PE firm takes it public and sells off its stake evenly in Years 3 – 5 at a 10x EBITDA multiple, what’s the approximate IRR?
How does the IRR change if, after going public, the company’s share price drops by approximately 10% per year in Years 4 and 5?
What’s the approximate IRR if a PE firm acquires a company using $500 of Investor Equity, sells it for $1,000 in Equity Proceeds in Year 3, and receives a Dividend of $250 in Year 2?
PE firm acquires a company with $100 in EBITDA, which grows to $150 by the end of 7 years, at which point the PE firm sells the company for a 10x EBITDA multiple. The PE firm uses $500 of Debt initially, and the company has $300 of Net Debt remaining upon exit. If the PE firm realizes an approximate IRR of 10% on this investment, what was the purchase multiple?
Could a private equity firm earn a 20% IRR if it buys a company for a Purchase Enterprise Value of $1 billion and sells it for an Exit Enterprise Value of $1 billion after 5 years?
Could a private equity firm ever earn a 20%+ IRR if it buys a company using Investor Equity of $1 billion and gets back exactly $1 billion in Equity Proceeds at the end of 5 years?
What’s the true purchase price in a leveraged buyout of a public company, and why do you create a Sources & Uses schedule?
How does the Sources & Uses schedule differ in a cash-free, debt-free leveraged buyout of a private company?
OK, but what if this private company has additional Working Capital targets/requirements, or it needs more Cash or less Debt when the transaction closes?
What is the actual difference between cash-free, debt-free deals and non-cash-free, debt-free ones? Is there any difference?
How do you determine how much Debt a PE firm might use in an LBO and how many tranches there would be?
Can you describe the different types of Debt a PE firm might use in a leveraged buyout and why it might use them?
Why do the less risky, lower-yielding forms of Debt amortize? Shouldn’t amortization be a feature of riskier Debt to reduce the risk?
Why might a PE firm choose to use Term Loans rather than Subordinated Notes in an LBO if it has the choice between two capital structures with similar leverage levels?
Why might a PE firm do the opposite and use Subordinated Notes instead?
Why might Excess Cash act as a funding source in an LBO, and why might its usage also cause controversy?
What’s the point of assuming a Minimum Cash balance in an LBO?
How might you estimate this Minimum Cash balance if the company doesn’t disclose it?
How does a Management Rollover affect the Sources & Uses schedule in an LBO?
You’re setting up the Transaction Assumptions for an LBO, but you don’t have any information on the Debt Comps. How might you estimate the interest rates on Debt?
How do transaction and financing fees factor into an LBO model?
Can you explain how to adjust the Balance Sheet in an LBO model?
How is Purchase Price Allocation different in LBO models? Does it matter more or less than in M&A deals?
How do you project Free Cash Flow and Cash Flow Available for Debt Repayment in an LBO model?
How is the “Free Cash Flow” in an LBO model different from the FCF in a DCF?
Why might a company’s FCF in an LBO model differ from its Cash Flow Available for Debt Repayment?
What does the “tax shield” in an LBO mean?
How do you set up the formulas for Mandatory and Optional Debt Repayments in an LBO model?
How do cash flow sweeps affect the Optional Repayments?
How do you use a Revolver in an LBO model?
Which metrics and ratios might you calculate in an LBO, and what do they tell you?
Since an LBO is based on Free Cash Flow, why do you focus on EBITDA and TEV / EBITDA in the assumptions?
What are the different exit strategies available to a private equity firm in a leveraged buyout, and what are the advantages and disadvantages of each one?
What IRR and MoM multiple do PE firms typically target?
Would you rather achieve a high IRR or a high MoM multiple in a leveraged buyout?
Why might a PE firm have to use an IPO rather than an M&A deal to exit an LBO?
Why might a PE firm have to resort to a Dividend Recapitalization for its exit in an LBO?
What are the main differences between an IPO exit vs. an M&A exit?
What are the advantages and disadvantages of a Dividend Recapitalization for the exit?
In an LBO, is it better for the company to repay the Debt principal with its excess cash flow or issue Dividends to the PE firm?
What might trigger “Multiple Expansion” in an LBO, and is this assumption ever justified?
Would you rather have an extra dollar of Debt paydown or an extra dollar of EBITDA in an LBO?
Can you walk me through how you might make an investment decision based on an LBO model's output?
Why might you recommend AGAINST a deal even if the IRRs and MoM multiples are favorable in the Downside, Base, and Upside cases?
Why might you RECOMMEND a deal even if the IRRs and MoM multiples are NOT favorable across the different cases?
How does a Returns Attribution Analysis in an LBO affect your investment decision?
What makes an industry more appealing or less appealing to invest in?
If a company has $10 million in revenue and $5 million in EBITDA, is it most appealing as an investment candidate if it plans to grow by selling 20% more units, raising its prices by 20%, or cutting its expenses by 20%?
How might a PE firm reduce its downside risk if a leveraged buyout does not perform well?
How would you review a Confidential Information Memorandum (CIM) or other marketing materials and decide whether to pursue a company's acquisition?
After reading a company’s CIM, you decide to meet with the CEO. What are the top 3 questions you would ask?
How might you convince the management team of a company to agree to a leveraged buyout?
How would you present an investment recommendation on a potential LBO candidate?
When might a PE firm use a leveraged dividend recap in a leveraged buyout?
Walk me through how the Balance Sheet and IRR in an LBO change with a $100 leveraged dividend recap and $2 in financing fees.
How would you model a “waterfall returns” structure where different Equity investors in an LBO receive different percentages of the returns based on the overall IRR? For example, let’s say that Investor Group A receives 10% of the returns up to a 15% IRR (Investor Group B receives 90%), but then receives 15% of the returns (with Investor Group B receiving 85%) above a 15% IRR. How does that work?
Why might a private equity firm create a management options pool in an LBO, and how does it affect the model?
Walk me through the impact of a 10% option pool in an LBO if the initial Investor Equity is $500 and the Exit Equity Value is $1,000.
How do add-on acquisitions affect the IRR and financial statements in an LBO?
How does a stub period affect all the calculations in an LBO model?
Walk me through the impact of a $1,000 Shareholder Loan with 10% PIK Interest and explain why PE firms use Shareholder Loans in leveraged buyouts.
In an LBO scenario, are the Preferred Stock investors better off with a 12% coupon rate and no equity participation or a 10% coupon rate and 1% of the company's Equity upon exit?
How do Subordinated Notes with call premiums affect a PE firm's exit strategy in a leveraged buyout?