LBO Model Questions and Answers
1. Bank Debt vs. High Yield Debt - ANS--High Yield debt has higher interest rater
-High Yield debt IR are fixed, whereas bank debt are "floating" - they change
based on LIBOR or the Fed interest rate
-High Yield debt has incurrence covenants while bank debt has maintenance
covenants. Incurrence covenants prevent you from doing something (selling an
asset, buying a factory, etc.) while maintenance covenants require you to maintain
a minimum financial performance (ex, the Debt/EBDTA must be below 5x at all
times)
-Bank debt is usually amortized - the principal must be paid off over time -
whereas with high-yield debt, the entire principal is due at the end (bullet maturity)
2. Give an example of a real-life LBO? - ANS-The most common example is taking out
a mortgage when you buy a house. Here's how the analogy works:
• Down Payment: Investor Equity in an LBO
• Mortgage: Debt in an LBO
• Mortgage Interest Payments: Debt Interest in an LBO
• Mortgage Repayments: Debt Principal Repayments in an LBO
• Selling the House: Selling the Company / Taking It Public in an LBO
3. How do you pick purchase multiples and exit multiples in an LBO model? - ANS--look at
comparaible companies are trading at, and what multiples similar LBO
transactions have had
4. How do you use an LBO model to value a company and why do we say it sets the "floor
valuation" for the company? - ANS--use it to value a company by setting a targeted
IRR (example 25%) and then back-solving in Excel to determine what purchase
price the PE firm could pay to achieve the IRR
5. How is the balance sheet adjusted in an LBO mode? - ANS-1. liabilities & equities are
adjusted - new debt is added on, and SE. is wiped out and replaced by however
much equity the private equity is contributing
2. Assets side - cash is adjusted for any cash used to finance the transaction , and
then Goodwill & Other Intangibles are used as a "plug" to make BS balanced
3. depending on transaction - there are other effects. Capitalized financing fees
added to the Assets side.
6. How would a dividend recap impact the 3 financial statements in an LBO? - ANS-IS-no
changes
BS-Debt goes up and SE goes down and they cancel each other out so everything
is balanced
1. Bank Debt vs. High Yield Debt - ANS--High Yield debt has higher interest rater
-High Yield debt IR are fixed, whereas bank debt are "floating" - they change
based on LIBOR or the Fed interest rate
-High Yield debt has incurrence covenants while bank debt has maintenance
covenants. Incurrence covenants prevent you from doing something (selling an
asset, buying a factory, etc.) while maintenance covenants require you to maintain
a minimum financial performance (ex, the Debt/EBDTA must be below 5x at all
times)
-Bank debt is usually amortized - the principal must be paid off over time -
whereas with high-yield debt, the entire principal is due at the end (bullet maturity)
2. Give an example of a real-life LBO? - ANS-The most common example is taking out
a mortgage when you buy a house. Here's how the analogy works:
• Down Payment: Investor Equity in an LBO
• Mortgage: Debt in an LBO
• Mortgage Interest Payments: Debt Interest in an LBO
• Mortgage Repayments: Debt Principal Repayments in an LBO
• Selling the House: Selling the Company / Taking It Public in an LBO
3. How do you pick purchase multiples and exit multiples in an LBO model? - ANS--look at
comparaible companies are trading at, and what multiples similar LBO
transactions have had
4. How do you use an LBO model to value a company and why do we say it sets the "floor
valuation" for the company? - ANS--use it to value a company by setting a targeted
IRR (example 25%) and then back-solving in Excel to determine what purchase
price the PE firm could pay to achieve the IRR
5. How is the balance sheet adjusted in an LBO mode? - ANS-1. liabilities & equities are
adjusted - new debt is added on, and SE. is wiped out and replaced by however
much equity the private equity is contributing
2. Assets side - cash is adjusted for any cash used to finance the transaction , and
then Goodwill & Other Intangibles are used as a "plug" to make BS balanced
3. depending on transaction - there are other effects. Capitalized financing fees
added to the Assets side.
6. How would a dividend recap impact the 3 financial statements in an LBO? - ANS-IS-no
changes
BS-Debt goes up and SE goes down and they cancel each other out so everything
is balanced
