LBO Model (Breaking into Wall Street)
Questions and Answer
1. "Real-Life" LBO - ANS-Common example; mortgage on a house.
a)Down payment -- investor equity b)Mortgage -- debt c)Mortgage interest
payments -- Debt interest d) Mortgage repayments -- debt principal repayments e)
Selling the house -- selling the company/taking it public
2. Amortization, types and what they are? - ANS-Straight line: Pays off a bit every year.
Bullet: Pays off the entire principal at the end
3. Analyzing how much debt a company a company can take on. and what the terms of
debt should be. What are reasonable leverage and coverage ratios? - ANS-Dependent
on comparable LBO transactions. Look at "debt comps" showing the types,
tranches, and terms of debt. Suggested to never lever a company 50x EBITDA and
leverage rarely exceeds 5-10x EBITDA.
4. Any shortcuts building an LBO model? - ANS-Yes shortcuts. You can make
assumptions on the Net Change in Working Capital rather than look at each
individual item. Need some income statement to track debt balance and changes.
need some cash flow to show cash available to repay debt.
5. Can you explain how the Balance Sheet is adjusted in an LBO model? - ANS-Liabilities
& Equities: +new debt. Shareholder's equity is reset based on how much equity
the acquirer is contributing.
Assets: always cash is adjusted for expenditures used to finance it. Goodwill &
other intangibles are used as "plugs" to make it balance. Some transactions will
have capitalized financing fees and other effects on the asset side.
6. How could a private equity firm boost its return in an LBO? - ANS-Theoretically in the
model 1) Lower purchase price 2)Raise the exit multiple or exit price. 3) Increase
leverage used. 4)Increase company's growth rate via acquisitions 5) increase
margins by reducing expenses
7. How do you determine how much debt can be raised in an LBO and how many tranches
there would be? - ANS-Usually look at Comparable LBOs to see terms of the debt
and how many tranches each of them used. Look at similar size and industry to
estimate debt you can raise
8. How do you pick purchase multiples and exit multiples in an LBO model? - ANS-1)Same
as others, look at comparable companies are trading at and what multiples similar
LBO transactions have had. Sensitivity analysis of purchase and exit multiples.
2)Sometimes you set purchase and exit multiples based on specific IRR target that
you're trying to achieve.
9. How would a dividend recap impact the 3 financial statements in an LBO? - ANS-I/S: No
change
CFS: additional debt would add cash to financing. subtract equal amount from
investing being paid out. No net change
Questions and Answer
1. "Real-Life" LBO - ANS-Common example; mortgage on a house.
a)Down payment -- investor equity b)Mortgage -- debt c)Mortgage interest
payments -- Debt interest d) Mortgage repayments -- debt principal repayments e)
Selling the house -- selling the company/taking it public
2. Amortization, types and what they are? - ANS-Straight line: Pays off a bit every year.
Bullet: Pays off the entire principal at the end
3. Analyzing how much debt a company a company can take on. and what the terms of
debt should be. What are reasonable leverage and coverage ratios? - ANS-Dependent
on comparable LBO transactions. Look at "debt comps" showing the types,
tranches, and terms of debt. Suggested to never lever a company 50x EBITDA and
leverage rarely exceeds 5-10x EBITDA.
4. Any shortcuts building an LBO model? - ANS-Yes shortcuts. You can make
assumptions on the Net Change in Working Capital rather than look at each
individual item. Need some income statement to track debt balance and changes.
need some cash flow to show cash available to repay debt.
5. Can you explain how the Balance Sheet is adjusted in an LBO model? - ANS-Liabilities
& Equities: +new debt. Shareholder's equity is reset based on how much equity
the acquirer is contributing.
Assets: always cash is adjusted for expenditures used to finance it. Goodwill &
other intangibles are used as "plugs" to make it balance. Some transactions will
have capitalized financing fees and other effects on the asset side.
6. How could a private equity firm boost its return in an LBO? - ANS-Theoretically in the
model 1) Lower purchase price 2)Raise the exit multiple or exit price. 3) Increase
leverage used. 4)Increase company's growth rate via acquisitions 5) increase
margins by reducing expenses
7. How do you determine how much debt can be raised in an LBO and how many tranches
there would be? - ANS-Usually look at Comparable LBOs to see terms of the debt
and how many tranches each of them used. Look at similar size and industry to
estimate debt you can raise
8. How do you pick purchase multiples and exit multiples in an LBO model? - ANS-1)Same
as others, look at comparable companies are trading at and what multiples similar
LBO transactions have had. Sensitivity analysis of purchase and exit multiples.
2)Sometimes you set purchase and exit multiples based on specific IRR target that
you're trying to achieve.
9. How would a dividend recap impact the 3 financial statements in an LBO? - ANS-I/S: No
change
CFS: additional debt would add cash to financing. subtract equal amount from
investing being paid out. No net change
