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Walk me through a basic LBO model.
Make assumptions about the purchase price, debt/equity ratio, interest rate on debt, other variables; assume revenue growth or margins
Create a Sources & Uses Section; says where you finance the transaction, what you use the capital for; how much investor equity is required
Adjust the company's balance sheet for the new debt and equity figures, add in Goodwill and Other Intangibles on the Assets side to make everything balance.
Project out the company's Income Statement, Balance Sheet, and Cash Flow Statement. Determine how much debt is paid off each year, based on the available Cash Flow and required Interest Payments.
Make assumptions about the exit after several years, usually assuming an EBITDA Exit Multiple. Calculate the return based on how much equity is returned to the firm.
What variables impact an LBO model the most?
Purchase and exit multiples.
Interest rate on debt, amount of debt, and revenue growth/cash flow
How do you pick purchase multiples and exit multiples in an LBO model?
Based off required IRR and comparable deals
What is an "ideal" candidate for an LBO?
An ideal candidate for an LBO is a cash-flow stable company, with limited variable expenses, and a base of assets for collateral.
How do you use an LBO model to value a company, and why do we sometimes say that it sets the "floor valuation" for a company
You use an LBO model to value a company by calculating the purchase price a firm would pay to achieve that IRR.
We say that it is the floor because it assumes an acquirer with no potential for synergies.
Give an Example of a Real Life LBO
Can you explain how the Balance Sheet is adjusted in an LBO model?
New debt is added, Shareholders' Equity is replaced with new Equity position.
Cash is adjusted for any cash used to finance the transaction, Goodwill & Other Intangibles are used as a plug to balance.
There may be capitalized financing fees added to the asset side.
Why would a private equity firm want to use debt in an LBO?
The company takes on the debt; adjusting the risk
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